Abstract:

How a firm chooses a set of covenants and of collateral to pledge when issuing straight

bonds publicly in Japan? Covenants and collaterals are contract clauses intended to

protect rights of the bondholders. If the protection is priced in the issue, why do firms

try to put them all in the issue? Taking it into account that we only observe data for a

covenant-collateral type chosen for an issue, we estimate a relation between issue prices

(yield spreads) and credit risk factors and other firm/issue characteristic variables.

We obtained a distinct relationship for each covenant-collateral type from two-step

estimations of a Heckman type. In the first step we estimate multinomial logit models

of covenant-collateral choice, and found supports for the physical cost hypothesis, the

hysteresis hypothesis, and signaling hypothesis. Most notably, however, we found that

strategic default concerns involve direct costs in the choice, not through indirect effects

on the yield spread.