Two Tales of Debt
*Amir Kermani
UC Berkeley Haas and NBER
Yueran Ma Chicago Booth
Abstract
We study the nature of debt among US non-financial firms and its key determinants. One
approach of debt enforcement relies on the liquidation value of discrete assets (such as PPE, inventory, receivable). Another approach lends against the going-concern value of the firm’s business, and relies on monitoring and control rights over borrowers’ actions that can affect firm value. Using a detailed new dataset that captures the liquidation value of different assets as well as the going-concern value of distressed firms across major industries, we present several findings.
First, non-financial firms’ assets are generally highly specific: the estimated liquidation value of (non-cash) discrete assets is about 23% of total book assets for the average firm. Second, the latter approach of debt enforcement focusing on monitoring and control is especially important when asset specificity is high and when there is more going-concern value to preserve. This is reflected in both debt composition and covenant usage. We present a model to flesh out the economic determinants of debt enforcement and the importance of monitoring.
*Preliminary version. We thank Douglas Baird, Doug Diamond, Steve Kaplan, Anil Kashyap, Raghu Rajan, José Scheinkman, Amir Sufi, and seminar participants at Chicago Booth and WashU Olin for insightful comments, and finance professionals John Coons and Doug Jung for sharing their knowledge. We are grateful to Fatin Alia Ali and Leonel Drukker for outstanding research assistance. Emails: kermani@berkeley.edu, yueran.ma@chicagobooth.edu.
