Corporate loan securitization and the standardization of financial covenants*

Zahn Bozanic
The Ohio State University
mailto:mbozanic.1@osu.edu
Maria Loumioti
USC Leventhal School of Accounting
loumioti@marshall.usc.edu
Florin P. Vasvari
London Business School
fvasvari@london.edu
September 2014

Abstract
We apply textual analysis on a large sample of financial covenant definitions to
measure covenant standardization and find that securitized corporate loans include
more standardized covenants. We document that financial covenant
standardization increases the liquidity of securitized loans in the primary and
secondary loan market. Consistent with a decrease in illiquidity premiums,
covenant standardization decreases the cost of securitized loans without being
associated with a lower likelihood of default. We also find that covenant
standardization is associated with less disagreement between credit rating
agencies, potentially contributing to the higher liquidity of securitized loans. Our
findings suggest that financial covenant standardization is positively related to
corporate loan securitization and has a significant impact on loan liquidity.

Keywords: Securitization, Financial Covenants, Syndicated Loans,

Standardization
JEL Classifications: G17, G21, G32, M41
*

We are grateful to Panos Patatoukas and KR Subramanyam and workshop participants at London Business School,
Stockholm School of Economics, University of Southern California and University of Oulu (Finland) for their
helpful comments and suggestions. We thank Blake Sainz for his excellent research assistance. Loumioti
acknowledges financial support from Leventhal School of Accounting. Vasvari acknowledges funding from the
London Business School RAMD Fund. All remaining errors are our own.

1. Introduction
Although there is significant empirical evidence on the widespread use of financial
covenants in syndicated loan contracts, these covenants are typically written on a relatively small
set of accounting numbers. This is puzzling, given the large volume of accounting information in
borrowers financial statements and lenders sophistication (Skinner, 2011). In this paper, we
provide insights into this issue by exploring whether the securitization of syndicated loans
through collateralized loan obligations (CLOs) increases the standardization of accounting
information used in financial loan covenants. We define standardization as the process of
increasing the similarity and comparability of financial covenant definitions (e.g., De Franco,
Kothari and Verdi, 2011). In addition, we explore the real effects of financial covenant
standardization and investigate whether standardization affects the liquidity of securitized loans
by decreasing information processing costs.
Collateralized loan obligations (CLOs) are special purpose vehicles that are set up by an
investment bank (CLO arranger) and an investment management firm (CLO manager).1
CLOs investment strategy is to profit from the difference in the average interest rate on the
corporate loans they buy (CLO collateral) and the interest rate on the debt issued to finance the
acquisition of these loans (CLO notes). To achieve this interest rate differential, CLOs invest
in a large and highly diversified pool of corporate loans. Consequently, a CLO ends up holding
small tranches in more than 200 corporate loans from various borrowers covering 15 to 25
different industries. The large amount of accounting information that describes financial loan
covenants and determines creditors control rights associated with securitized loans can generate
1

CLOs grew to become the dominant institutional investor in the syndicated loan market reaching a 60 percent
market share and securitizing syndicated loans with a total value of about $100 billion annually before the credit
crisis. Thereafter, by 2013, the level of annual investments in corporate loans by CLOs nearly reached pre-crisis
levels (Standard and Poors, 2014).

significant transaction costs.2 Such costs increase with the extent to which financial covenant
structures become more complex and borrower-specific since assessing these covenants involves
more extensive information collection, monitoring and enforcement efforts.
However, certain mechanisms specific to the CLO operating model constrain these costs.
First, the selection of leveraged corporate loans as eligible CLO collateral relies on specific and
predetermined diversification criteria on borrowers industry and geography as well as loans
maturity and rating category. These restrictions are imposed at the CLO set-up stage by credit
rating agencies that rate CLO notes to diversify away the idiosyncratic credit risk of each
individual loan investment. Thus, covenant-based metrics are largely ignored in determining the
structure of the CLO pool.3 Second, CLO managers performance is monitored by specific
compliance tests such as over-collateralization criteria of the CLO notes and average loan rating
thresholds for the CLO collateral. These monitoring mechanisms exclude information related to
the covenant structure of the loans in the pool, since assessing the quality of so many covenants
and the accounting information used in covenant thresholds is costly and induces subjectivity.
Third, the set of loan characteristics disclosed to CLO investors does not include details about
financial covenants, consistent with the fact that investors place less weight on this information
to monitor CLO performance or face information processing costs themselves. Thus, CLO
investors receive information only on a narrow set of loan characteristics, such as loan
maturities, spreads, ratings and default rates which simplify disclosures about CLO portfolio
quality.
2

The transaction costs are potentially high given the typical size of the marginal investment that a CLO makes in an
individual loan. In our sample, the average size of an investment in a loan is $1.5 million, while the face value of the
loan is $350 million.
3
After 2010, about 50 percent of the CLOs issued included restrictions on the percentage of covenant-lite loans in
the CLO portfolio. Nevertheless, the average cap on the amount of covenant-lite loans has increased from 25-30
percent in 2010-2011 to 50-60 percent in 2013 (Standard & Poors Rating Direct Structured Finance, 2013).

Because CLOs operating model has limited reliance on covenant information content or
covenant quality, we expect that CLOs will contribute to an increase in the standardization of
covenants. At the same time, loan underwriters are also likely to limit their use of customized
covenants. They often employ financial covenants and contractual choices from loan agreements
of prior borrowers to lower their contracting costs, further contributing to standardization across
covenant definitions (Simpson, 1973; Rajan and Winton, 1995; Choi and Triantis, 2014). When
underwriting banks prepare the documentation to launch a syndicated corporate loan, they
regularly start with their own preliminary term sheets for financial covenants. The covenant term
sheets are subsequently adjusted as underwriting banks negotiate with and receive feedback from
loan investors. Similarly, syndicated loans securitized right after their origination are more likely
to include standardized financial covenants, since loan underwriters will exert less effort to write
customized loan covenants with borrower-specific accounting information if these loans are
subsequently transferred to CLOs.
However, the rise of corporate loan securitization may not necessarily increase financial
covenant standardization primarily for two reasons. First, only a fraction of syndicated loan
tranches is securitized while the remaining tranches are sold to banks or other investors that do
not have similar incentives to CLOs. Second, syndicate members may negotiate complex and
borrower-specific financial loan covenants to obtain pecuniary benefits and/or ex post control
rights (Li, Vasvari and Wittenberg-Moerman, 2014). For example, when loans are renegotiated
due to covenant violations, lenders obtain significant benefits such us renegotiation fees, greater
interest rates or more control over the borrowers investing and financing activities (e.g., Roberts
and Sufi, 2009; Roberts, 2013).

We investigate the relationship between corporate loan securitization and financial

covenant standardization using a sample of US-based public companies which issued syndicated
loans in the period 20002009. We obtain data on securitized loans from Creditflux, a global
publication platform that covers detailed information on the origination and performance of
CLOs investment portfolios. We match these loans with LPC DealScan to obtain their
characteristics and Compustat to obtain borrowers financial information. For those loans with
complete Dealscan and Compustat data, we then retrieve the loan contracts from companies
SEC filings in EDGAR. We are able to obtain a sample of 440 securitized and 703 nonsecuritized institutional loan contracts. For both securitized and non-securitized loans, we hand
collect 3,303 financial loan covenant definitions. We focus our analysis on the complete
covenant definition rather than the covenant title since previous studies report that the definitions
of accounting terms vary substantially across financial covenants (e.g., Leftwich, 1983; Li,
2012).
To assess financial covenant standardization, we develop an empirical proxy by
measuring the similarity of the contracting language that is used to define individual covenants.
For each covenant, we calculate the number of words that overlap with the words in covenant
definitions of loans issued by other borrowers over the prior calendar year. Namely, we compute
the cosine textual similarity between covenant definitions using a vector space model similar to
models used in plagiarism software and search engine algorithms (e.g., Salton, Wong, and Yang,
1975).4 This approach has recently been introduced in the accounting and finance literatures
4

More specifically, cosine textual similarity is computed as follows: we take two complete definitions of similar
financial covenant types from two loans of different borrowers. We identify and list all the words in these
definitions, excluding stop-words and keeping only the word stems. Then, we count how many times each word is
used in each definition. This process creates two vectors with the number of times each word is mentioned in the
two covenant definitions. The cosine of the angle between these vectors is our covenant similarity score. More
details on how the measure is computed are provided in Appendix B.

(e.g., Brown and Tucker, 2011; Hoberg, Phillips and Prabhala, 2012; Bozanic and Thevenot,
2014). Since covenants are set at the loan level, we estimate the covenant standardization
measure for each loan by averaging the cosine similarities of its covenants with the same-type
covenants in all loans issued by other borrowers in the prior calendar year. The covenant
similarity score is a continuous variable with values ranging from zero (if two covenant
definitions share no common word) to one (if the definitions of two same-type covenants are
identical).5 Using a multivariate regression, we show that the covenant similarity score is higher
when borrower and loan characteristics are more similar and that these similar characteristics
explain a significant proportion of the variation in the covenant similarity score, thus validating
our empirical proxy.
We show that financial covenant standardization in loan contracts increased during 2000
2007 and drastically dropped in 20082009, matching the evolution of the corporate loan
securitization volume over the 20002009 period. In multivariate analyses, we find that
corporate loan securitization is positively associated with covenant standardization, controlling
for borrower, loan and underwriter characteristics. More specifically, we find that securitization
increases our covenant similarity score by up to 20 percent of its standard deviation. These
results are robust to a propensity score matched analysis on borrower performance and loan
characteristics, as well as to tests which address the potential for reverse causality (i.e., whether
CLOs purchase loans with more standardized financial covenants).
Next, we investigate whether the standardization of financial covenants in securitized
loans affects loan liquidity in the primary and secondary syndicated loan market. Consistent with
standardization contributing to a decrease in screening costs and costly information disclosures
5

In addition, we use an alternative covenant standardization measure which is the average of the ratio of similar
covenants across the loans issued in the prior year. Our results are robust to this measure.

(e.g., Amihud and Mendelson, 1988), we find that covenant standardization is negatively related
to the number of days a loan remains open after its launch date, our loan liquidity measure in the
primary loan market. An increase in the covenant similarity score by one standard deviation
decreases the time a loan remains open in the primary market by 3 trading days or 21 percent of
the standard deviation of the time-on-the-market. Moreover, we investigate the liquidity of
securitized loans in the secondary loan market and find strong evidence that securitized loans
with more standardized covenants trade more and are purchased by a greater number of CLOs.
This finding suggests that covenant standardization contributes to a decrease in CLOs and their
counterparties information processing costs when trading.
In complementary analyses, we investigate whether covenant standardization is
associated with a reduction in the illiquidity premiums reflected in the securitized loans spreads.
We document a negative relation between the covenant similarity score and the LIBOR-spreads
of securitized loans. A one standard deviation increase in covenant similarity decreases the
LIBOR-spread by 5 percent or 12 basis points. In addition, we do not find evidence that
borrowers are less likely to default on securitized loans with more standardized financial
covenants. This latter finding suggests that the lower spread is not due to securitized loans lower
propensity to default but could be due to a lower illiquidity premium as a result of the
expectation that these loans will be more liquid.
Finally, we investigate whether covenant standardization decreases the information
asymmetry between debt market intermediaries, thus facilitating loan trading. We find a positive
relation between covenant standardization and the agreement in securitized loans ratings issued
by Standard & Poors and Moodys. Less disagreement in the credit assessments of these top two

rating agencies likely reduces the uncertainty among CLO managers and their counterparties
when trading these loans.
We add to the debt literature in several ways. First, we provide novel evidence on how
developments in the credit market affect the standardization of covenants in loan contracts. We
show that corporate loan securitization, which relies on significant secondary loan market
trading, contributes to more similar financial covenant definitions across syndicated loans. As
such, our study is related to De Franco, Vasvari, Vyas and Wittenberg-Moerman (2013) who
find that bond covenant stickiness is partly driven by bond market intermediaries, such as lead
arrangers and legal advisors, who prefer standard covenant definitions. Also, by identifying a
loan market mechanism that amplifies financial covenant standardization, we add to the wellestablished empirical literature on the factors that drive contractual terms in corporate loans. So
far, this literature has mainly investigated to role of agency based determinants (e.g., Beatty and
Weber, 2003; Asquith, Beatty and Weber, 2005; Bharath, Sunder and Sunder, 2008; Beatty,
Weber and Yu, 2009; Ball, Bushman and Vasvari, 2008).
Second, we provide first hand evidence on the consequences of debt contract
standardization, and in particular covenant standardization, with respect to loan liquidity in the
primary and secondary debt market. Thus, we add to the empirical literature on corporate loan
securitization (e.g., Ivashina and Sun, 2011; Nadauld and Weisbach, 2011) and secondary loan
trading (Wittenberg-Moerman, 2008) by highlighting an important determinant of loan liquidity
that affects information processing costs.
Third, we build on recent studies that investigate the important role of textual information
in corporate disclosures (e.g., Li, 2008; Hoberg and Phillips, 2010; Brown and Tucker, 2011;
Bozanic, Cheng and Zach, 2013). We assess the complexity of loan covenants specifications

relative to covenants in the loan contracts of peer firms and its effect on the marketability of
syndicated loans. We also explore how a recently developed credit market mechanism, the
corporate loan securitization process, is shaping debt contracting language (e.g., Bozanic, Cheng
and Zach, 2013). Consequently, we show that contract standardization is not only initiated by
lawmakers (e.g., Smith, 2006), but also by market participants that have incentives to induce
contractual standardization.
2. Literature review and Hypothesis development
The role of accounting-based loan covenants in mitigating adverse selection and moral
hazard has been widely explored in the accounting and finance literatures (e.g., Smith and
Warner, 1979; Berlin and Mester, 1992; Rajan and Winton, 1995). Bank lenders often structure
loan covenants based on financial statement data and use accounting adjustments to better
capture borrowers credit performance (e.g., Leftwich, 1983; Li, 2012). Thus, financial
covenants are a critical tool to monitor borrowers as they increase lenders control rights when
borrowers performance deteriorates. When they receive control rights, lenders are able to
provide cheaper and greater amounts of credit (Jensen and Meckling, 1976; Stiglitz and Weiss,
1981; Christensen and Nikolaev, 2010).
While economic theory suggests that the main objective of financial loan covenants is to
monitor borrowers by including variations and adjustments in accounting data to capture
borrowers heterogeneity, this argument may not always hold. As Rajan and Winton (1995)
emphasize, covenants are not always written in the fine detail such (economic) objectives
would suggest: many covenants are standard boiler-plate, fleshed out as much by lawyers as by
loan officers or treasurers. This topic has received significant attention in the law literature.
Simpson (1973) suggests that lenders will not forego language that they are accustomed to and
8

are likely to contract on covenants from loan agreements issued by other borrowers they have
dealt with in the past. Borrowers may accommodate lenders demands for comparability, since
they may not realize, ex ante, the future operational and financial restrictions related to covenant
standardization. Also, Choi and Triantis (2014) argue that debt underwriters prefer covenant
standardization to decrease contracting costs and because they might not want to take the risk to
depart from covenants that have been enforced by the courts in the past. While financial
covenant structure is argued to be significantly standardized (e.g., Skinner, 2011), empirical
studies in the accounting, finance and law literatures have not yet explored how innovations in
the syndicated loan market have potentially contributed to the standardization of financial
covenant structures in loan agreements.
Over the past few years, the most significant innovation in the syndicated loan market
was the advent of institutional investors, and more importantly CLOs. CLOs operating model
significantly differs from that of traditional lenders such as banks. CLOs invest in corporate
loans and issue notes backed by the cash flows generated from these loans. For this model to be
sustainable, the CLO collateral structure must be highly diversified with limited exposures across
loan maturities, ratings, borrowers and industries. Indeed, a CLO will typically acquire small
tranches of more than 200 loans issued by borrowers that span 15 to 25 industries. By these
means, the credit risk of the underlying portfolio is lower, and the CLO notes can be rated higher
than the average rating of the underlying collateral pool.
However, these diversification rules, which apply over the life of the CLO, can generate
high transaction and reading costs for CLOs stakeholders (i.e., credit rating agencies, CLO
managers and investors) given the large number of covenants attached to the loans in the
collateral pool. For example, to effectively monitor the underlying loan quality, CLO managers

would be required to assess the underlying control rights included in each individual loan,
monitor the quality of borrowers accounting information used in financial covenants, and
estimate subjective metrics of covenant quality. Because CLOs make marginal loan investments
relative to the face value of these syndicated loans, this process can dramatically increase
information processing costs in relative terms.6 In addition, credit rating agencies would also
incur higher processing costs if they were to analyze each individual financial covenant present
in the loan contracts represented in the CLOs collateral pool. Similarly, to monitor the quality of
their investment, CLO investors would have to either rely on CLO managers due diligence and
assessment of financial covenants or demand a comprehensive list of the financial covenants in
the collateral pool to perform their own credit analysis. Such an analysis is often not feasible
given the large number of loans acquired by the typical CLO and that these investors commit
capital to multiple CLO pools.
To mitigate the information processing and transaction costs highlighted above, the CLO
stakeholders limit their reliance on financial loan covenants when assessing a CLOs
performance. First, to ensure collateral diversification, CLOs mitigate idiosyncratic credit risks
by selecting corporate loans based on specific and predetermined diversification criteria
regarding borrowers industry and geography as well as loans maturity and rating category.
These restrictions are imposed upon the CLO at set-up stage by credit rating agencies that rate
the CLOs notes. Thus, covenant-based metrics are largely ignored in determining the structure
of the CLO pool.7 Second, CLOs are monitored based on certain predetermined compliance tests

CLO managers also trade loans often (Lou, Loumioti and Vasvari, 2014). A detailed assessment of individual
loans level of covenant protection at the time when a loan is purchased can increase significantly the transaction
costs.
7
In fact, prior to 2010, most CLOs had no constraints with respect to the acquisition of covenant-lite loans, thus
encouraging an extreme form of covenant standardization.

10

that are not built on loan covenants, but on a closed set of loan characteristics (primarily on loan
ratings and maturity).8 Despite their important monitoring role, loan ratings only partially capture
the structure of financial loan covenants that facilitate lenders control rights due to the
complexity of the terms in syndicated loan contracts (Ayotte and Bolton, 2009). Since CLO
managers are not evaluated on covenant-based metrics, they are less likely to be interested in
loans with customized financial covenants that would allow them to monitor borrowers
underlying business model and financial performance. Third, CLOs report to investors only a
few loan characteristics, such as maturities, ratings, and spreads, ignoring the structure, number,
or quality of the financial loan covenants.
Since financial covenants are not an important loan feature for CLOs business model, we
expect that CLOs will not demand customized loan covenants. As a result, CLOs will be less
likely to negotiate and provide feedback on financial loan covenants to loan underwriters. Also,
to the extent that an originating bank expects to securitize a loan immediately after its issuance
by transferring it to a CLO, it will not exert significant effort to customize the covenant terms.
On the other hand, financial covenants are set at the loan package level, and not all tranches in
the loan deal are securitized. Banks and other loan syndicates that keep these tranches on their
balance sheets may have incentives to demand more borrower-specific financial covenants that
meet strict internal risk management rules. Also, because bank lenders gain access to borrowerspecific private information via their relationships with borrowers and have low renegotiation
costs, they might favor more customized financial covenants that enhance their control rights and
limit their credit exposure to borrowers (e.g., Li, Vasvari and Wittenberg-Moerman, 2014).

Some of the compliance tests are the overcollateralization of senior and junior CLO securities, the average
weighted rating of the collateral pool, the percentage of loans in the risky CCC-bucket, and the percentage of loans
from borrowers that defaulted on their payments.

11

We further expect more standardized financial covenants to bring benefits to the CLO
managers who invest in loans with such covenants. Specifically, standardized covenants may
improve the marketability of syndicated loans in both primary and secondary loan markets. This
is because covenant standardization decreases trading counterparties contract reading costs and
information asymmetry, thus contributing to higher loan liquidity. As such, standardized
covenants reduce the need for costly information disclosures and additional accounting due
diligence (e.g., Amihud and Mendelson, 1988).
3. Sample selection
We obtain data on securitized corporate loans from the CLO-i database provided by
Creditflux. Creditflux is a global news platform covering structured investment issuance and
performance that has been tracking data on all CLO deals since January 2008. Creditflux
retrieves its data from monthly CLO trustee reports that disclose CLOs activities and securitized
loans performance to CLO investors. CLO-i includes complete data on CLO portfolio structure,
CLO compliance tests, and CLO transactions, including borrowers names, loan types, ratings,
balances, maturities and default events. We retrieve loan specific data from LPC DealScan which
provides information on loan terms, loan types, lenders in the syndicate as well as the period a
loan package is marketed in the primary loan market.
We match CLO-i data with LPC DealScan and Compustat databases, a process which
yields a sample of 1,075 unique securitized corporate loans issued by 605 unique public
borrowers during the period 20002009. Of those, we are able to retrieve the loan contracts for
440 securitized loans from borrowers SEC filings via EDGAR following the search procedure
outlined by Nini, Smith, and Sufi (2009). To ensure comparability with our sample of securitized
loans, we then match the securitized loans to a sample of institutional loans identified in LPC
DealScan. We focus on institutional loans to eliminate the effect of differences between the
12

middle and highly leveraged loan market on contract design.9 In addition, unlike bank loans,
institutional loans are typically rated (Ivashina and Sun, 2011). Thus, we try to hold constant the
demand for homogenous loans from credit rating agencies that prefer these loans because they
facilitate comparisons of credit risk levels.
We classify a loan as institutional if it includes at least one term loan tranche B-H but
does not include a CLO in its primary syndication structure, as presented in LPC DealScan.10 To
improve the classification, we require that institutional tranches have LIBOR-spreads higher than
250 basis points since institutional investors typically buy into high-yielding loans. Based on
these filters, the total number of non-securitized institutional loans issued by public borrowers in
LPC Dealscan is 4,529 over the period 2000-2009. We then select institutional loans with
available data from a subsample of 1,951 loans where more than half of the tranches are
institutional; this requirement ensures that we do not select loans that are distributed mainly to
banks. From this sample, we are able to retrieve the actual loan contracts of 703 institutional
loans from the SEC filings in the EDGAR system. Our final sample therefore includes 1,143
unique loans (440 securitized and 703 non-securitized institutional loans) issued by 806 unique
borrowers.
Next, we hand collect the accounting-based covenants of the loan contracts in our
sample. Since lenders may use different language to describe a type of covenant, we categorize
covenants into twelve types based on the LPC DealScan classifications: Max. Capex, Max.
Debt, Max. Debt-to-EBITDA, Max. Debt-to-Equity, Max. Debt-to-Net Worth, Max.
9

More specifically, middle market loans are generally issued by more financially healthy borrowers and are not
traded, while institutional loans are primarily issued by non-investment grade borrowers and are largely distributed
to institutional investors that may subsequently trade these loans.
10
It is likely that we misclassify some institutional loans as non-securitized. This is because institutional loans might
have been sold after their origination to CLOs. The average CLO holding period is approximately 11 consecutive
months, and approximately 2 years in total. To mitigate this concern, in a robustness test we rerun the analysis for
loans originated after January 2005 and the results hold.

13

Leverage, Min. Debt Service Coverage. Min. EBITDA, Min. Fixed Charge Coverage,
Min. Interest Coverage, Min. Liquidity, and Min. Net Worth. We identify 3,303 unique
financial loan covenant definitions. We find that 156 loans (55 securitized and 101 nonsecuritized) have no accounting-based covenants (i.e., they are covenant-lite loans). While two
loans may use the same financial covenant type, the definition of accounting terms across
contracts could vary significantly. Thus, we hand collect the definition of the accounting terms
used to define the financial covenants in our sample. For example, when the Interest Coverage
Ratio is defined as EBITDA to Interest Expenses, we collect the accounting definition for
EBITDA and interest expenses described in the contract, as well as the definitions of all
accounting terms used to define EBITDA and interest expenses (e.g., net income, leases, etc.).
Appendix A provides examples of financial covenant specifications.
Table 1 provides details on loan characteristics by year and covenant structure for the 440
securitized and 703 non-securitized loans in our sample. Table 1, Panel A reports the number of
loans (securitized and covenant-lite loans) and financial covenants by year, as well as the
average number of financial covenants by loan year. Consistent with the growth in securitized
loan issuance, the number of securitized loans and covenant-lite loans in our sample increases
during the period 20002007 and sharply drops afterwards. Moreover, the average number of
financial loan covenants steadily drops in the period 20002007 and increases in 20082009,
consistent with lenders lower monitoring incentives during the credit boom. Table 1, Panel B
reports the number of financial covenants by covenant type for the 3,303 covenants (1,355
securitized and 1,948 non-securitized) in our sample. Consistent with previous studies (e.g.,
Drucker and Puri, 2008), securitized loans include more financial covenants, and especially more
interest coverage, capital expenditures and leverage covenants.

14

4. Research design and variable definition

4.1. Covenant similarity score
Developing a proxy for the similarity across financial covenants in different loans is
challenging, since lenders are likely to adjust accounting data in covenant definitions (Leftwich,
1983). For example, the way minimum EBITDA is defined in one contract may be completely
different from the EBITDA definition in another loan contract. Based on the underlying
assumption that standardized covenants will share more common words with other covenants in
the same covenant category, we proxy for accounting-based covenant standardization by
assessing the degree of overlap in the vector of unique words used to define covenants.
To do so, we first remove all stopwords (e.g., and, a, the, of) and pare the
remaining words down to their stems.11 Next, we calculate the pairwise cosine textual similarity
for all reduced-form financial covenant definitions based on a vector space model commonly
used in computational linguistics (e.g., Salton, Wong, and Yang, 1975), which has been recently
introduced in the accounting and finance literatures (e.g., Brown and Tucker, 2011; Hoberg,
Phillips and Prabhala, 2012; Bozanic and Thevenot, 2014). To perform the calculation, a
comparison is drawn between two N x 1 vectors, one vector representing the N unique words in a
given financial covenant definition and another vector for the same covenant type from a loan
issued by a different borrower in the prior year.12 The angle between these two vectors for each
pair of same-type covenants (e.g., minimum EBITDA compared to minimum EBITDA) is the
cosine textual similarity score.13
To compute a loan specific covenant standardization measure, we average the cosine

11

For example, trusted and trusting become trust for calculation purposes.
The twelve covenant types are based on LPC Dealscan classifications. See Section 3 above.
13
Appendix B provides additional detail on the computation of the measure.
12

15

similarities of the covenants in a loan with the same-type covenants in all other borrowers loans
that were issued in the prior year (Covenant Similarity Score). Thus, our proxy for covenant
similarity is a continuous variable with values ranging from zero (if two covenants share no
common word) to one (if the definitions of two same-type covenants are identical).14 By
definition, covenants classified in the category others will have a covenant similarity score of
zero. For covenant-lite loans, we code the covenant similarity score as one (i.e., the maximum
value). This is consistent with Ayotte and Boltons (2009) argument that covenant-lite loans are
perfectly comparable in terms of their covenant structure.15
Figure 1 shows the trend in covenant standardization over time. Consistent with the
growth in the securitized loan market, covenant similarity increases in the period 20002007.
This trend reverses in the period 20082009 when the securitization market froze. Figure 2
compares covenant standardization over time for institutional loans and securitized loans. While
covenant similarity for both institutional and securitized loans increases over time, the covenant
similarity score for securitized loans is consistently higher and reverses in the crisis years
tracking the trends in the securitization market. This pattern provides some preliminary evidence
with respect to the impact of securitization via CLOs on covenant standardization.
In addition, we compute an alternative covenant standardization measure which does not
rely on textual analysis. We compute the average of the ratio of similar covenants across the
loans issued in the prior year (Percentage of Same Covenants). This ratio is computed for each
loan pair as the number of common covenants between the current loan and the other loan
14

It is worth mentioning that the covenant similarity score reflects textual rather than semantic similarity. For
example, if a net worth covenant is defined as assets minus liabilities in a loan contract and the definition of the
same-type covenant in another contract is book value of equity, these two covenants will have very low cosine
similarity.
15
In their model, lenders intention to completely standardize covenants in securitized loans leads to the exclusion
of covenants from loan contracts. In robustness tests, we exclude covenant-lite loans and covenants classified as
others from our tests and our results hold.

16

previously issued divided by the total number of financial covenants specified in the loan
contract.
4.2. Research design
4.2.1. Securitization and covenant standardization
Our first test explores the relation between corporate loan securitization and financial
covenant standardization at the loan level. We test our hypothesis using an OLS model, where
the dependent variable is the Covenant Similarity Score.
Covenant Similarity Score = + 1*Securitized Loan + 2*Number of Covenants
+ 3*LIBOR-spread
+ 4*Loan Amount + 5*Loan Maturity + 6*Revolving tranche
+ 7*Lending Relationship + 8*Syndicates + 9*Liquidity
+ 10*ROA + 11*Leverage + 12*Cash Flow Volatility
+ 13*Size + 14*Pct of Same Covenants
(Model 1)
The primary independent variable of interest is Securitized Loan, defined as one if the
loan is securitized and zero otherwise. We control for various loan characteristics, including: (i)
the number of financial loan covenants (Number of Covenants); (ii) the natural logarithm of allin-drawn LIBOR-spread of the loan term B tranche (LIBOR-spread); (iii) the natural logarithm
of loan size (Loan Amount); (iv) the natural logarithm of loan maturity (Loan Maturity); (v) the
average ratio of financial covenants that are the same relative to the other loans that are issued in
the prior year (Pct of Same Covenants); and (vi) whether the loan includes a revolving tranche
(Revolving Tranche). Also, we control for the strength of lending relationships, defined as the
ratio of the size of loans that a borrower raised from the lead lender in the past to the total size of
loans that the borrower issued in the syndicated loan market (Lending Relationships), and for the
number of loan co-syndicates (Syndicates).

17

We further control for borrowers financial performance in the year of a loans

origination. More specifically, we control for borrower: (i) liquidity, defined as current assets to
current liabilities (Liquidity); (ii) profitability, defined as operating income to total assets (ROA);
(iii) leverage, defined as total long-term debt to total assets (Leverage); (iv) business model
volatility, defined as the standard deviation of borrowers operating cash flows over the last five
years, divided by average total assets (Cash Flow Volatility); and (v) size, defined as the natural
logarithm of total assets (Size). We add year, industry (Fama and French 12 industry portfolios),
and loan purpose (investing, financing, operating, default, other) fixed effects to
capture differences over time, across industries, and by loan purpose. We also add lead lender
fixed effects to capture differences in lenders contracting language (52 unique lead lenders).
Appendix C provides descriptions of the variables.
4.2.2. Securitization, covenant standardization and loan liquidity
To the extent that securitization increases covenant similarity, we expect that securitized
loans will have lower reading costs and, thus, will be easier to trade. We first test for loan
liquidity in the primary loan market using an OLS model where the dependent variable is the
number of days the loan is traded in the primary loan market, defined as the difference between
loan completion date minus launch date (Time-on-Market). The greater the number of days a
loan remains outstanding in the primary market, the lower its liquidity.
Time-on-Market = + 1*Covenant Similarity Score + 2*Securitized Loans
+ 3*Covenant Similarity Score*Securitized Loans
+ 4*Number of Covenants + 5* LIBOR-spread
+ 6*Loan Amount + 7*Loan Maturity + 8*Revolving Tranche
+ 9*Lending Relationships + 10*Syndicates + 11*Liquidity + 12*ROA
+ 13*Leverage + 14*Cash Flow Volatility + 15*Size
(Model 2)

18

The primary coefficient of interest is 3, which we expect to be negative. Similar to the

previous models, we control for loan characteristics and borrower financial performance upon
loan origination. We add year, industry, and loan purpose fixed effects to capture differences
over time, across industries, and by loan purpose.
In our second test on the liquidity of securitized loans, we examine the secondary loan
market using an OLS model where the dependent variable is the number of annual loan trades
(loan sales and purchases less purchases where both transacting parties are CLOs) in the period
2008-2013 divided by the average trading activity of a securitized loan in the same period (Loan
Trades). Further, we use the annual change in number of CLOs that hold at least one tranche of a
loan to the average securitized loan distribution across all CLOs in the same period (Loan
Distribution).
Loan Trades or Distribution = + 1*Covenant Similarity Score + 2*Number of Covenants
+ 3*LIBOR-spread + 4*Loan Amount + 5*Loan Maturity
+ 6*Revolving Tranche + 7*Syndicates +8*Liquidity + 9*ROA
+ 10*Leverage + 11*Cash Flow Volatility + 12*Size
(Model 3)
The primary coefficient of interest is 1, which we expect to be positive. Similar to the
previous models, we control for loan characteristics and borrower financial performance upon
loan origination and add year, industry, and loan purpose fixed effects. Appendix C provides a
description of the variables.
5. Summary statistics and validation tests
5.1. Summary statistics
Table 2 reports the summary statistics for covenant and loan characteristics, loan liquidity,
CLO and loan performance, and some borrower characteristics for our sample. The mean
covenant similarity score is 0.49. When we exclude covenant-lite loans, the mean covenant
similarity score is 0.38, suggesting that about 40 percent of the accounting terms and adjustments
19

in loan contracts are standardized. However, this finding shows that 60 percent of the accounting
covenant terms are not standardized, consistent with the fact that lenders use their access to
private borrower-specific information to determine the covenant structure. The average borrower
has a size of $2.5 billion, leverage ratio of 39 percent, a liquidity ratio of 1.58 and ROA is 6
percent. The mean loan size is $409 million with a mean maturity of 4.97 years. The mean
number of financial loan covenants is 2.6 and the mean LIBOR-spread is 246 basis points.
Further, most loans in our sample include a revolving tranche and the mean company has raised
about 20 percent of its syndicated loan issues from a relationship lender. The loans in our sample
remain outstanding in the primary loan market for 30 days on average, the mean (median)
number of trades is 1.06 (1.17) and the mean (median) loan distribution is 0.22 (0.10). The mean
default rate for the securitized loans in our sample is 1.2 percent and the average loan difference
between Standard and Poors and Moodys loan ratings is less than one notch. Moreover, 45
percent of the covenants in a loan are the same to all other loans in our sample (when we exclude
covenant-lite loans the percentage drops to 41), suggesting that while a certain level of
standardization in loan covenants exists, the covenant mix used across different loans varies.
Panel A of Table 3 reports the univariate tests of differences in means of contract and
borrower characteristics for securitized and non-securitized loans. The results suggest that
securitized loans have higher covenant standardization than other institutional loans. Consistent
with prior studies (e.g., Drucker and Puri, 2008; Ivashina and Sun, 2011; Nadauld and Weisbach,
2011), we find that securitized loans have more financial covenants, lower spread, larger size,
higher liquidity, and longer maturity. Moreover, securitized borrowers are smaller, highly
leveraged companies and do not have strong prior lending relationships with their lenders. Panel
B of Table 3 reports the univariate tests of differences in the mean covenant similarity score by

20

type of financial covenant for securitized and non-securitized loans. We find that securitized
loans have greater covenant similarity to non-securitized loans across all financial covenants
except one (Minimum Debt Service Coverage). This univariate evidence indicates that
standardization is reflected in almost all financial covenants attached to securitized loan
contracts.
Untabulated univariate correlations show that our proxy for covenant standardization is
positively correlated to the probability of a loan being securitized (0.08), the LIBOR-spread
(0.13), the loan maturity (0.06) and the borrower financial leverage (0.11), and negatively related
to the number of financial loan covenants (-0.49), the loan amount (-0.05), the borrowers ROA
(-0.03) and the strength of prior lending relationships (-0.15). Moreover, the probability of a loan
being securitized is positively correlated to the number of financial covenants (0.10), the loan
size (0.20) and the loan maturity (0.17), and negatively correlated to the borrowers size (-0.12),
the LIBOR-spread (-0.08) and previous lending relationships (-0.09).
5.2. Validation Test
In Table 4, we validate our standardization proxy by investigating whether the similarity
between two covenants of the same type is related to borrower and loan characteristic similarity.
We find that two covenants of the same type share more similar definitions when issued by the
same lender. In addition, two covenants of the same type are similarly defined when the loans
have similar characteristics in terms of LIBOR-spread, maturity, number of covenants, or
number of co-syndicates. Further, two covenants of the same type are more similarly defined
when borrowers have comparable financial performance or are from the same industry. Overall,
the results from this test suggest that our proxy for covenant similarity captures similarities in
borrowers business models and in loan contract terms that are likely to drive covenant design

21

choices. Thus, our proxy for covenant similarity, although based on textual analysis, appears to
capture the underlying construct of covenant standardization.
6. Regression results
6.1. Securitization and covenant standardization
Panel A of Table 5 reports the results from the baseline OLS tests on the effect of loan
securitization on covenant standardization and Panel B reports several cross-sectional tests to
address competing explanations for the baseline results. In the first specification of Panel A, the
dependent variable is the percentage of same covenants. In all other specifications across the
panels, the dependent variable is the covenant similarity score. In specification (I), we find that
the coefficient on Securitized Loan is significantly positive, controlling for loan, borrower, and
lender characteristics. Thus, the covenant mix in securitized loans is more standardized. More
specifically, securitized loans have approximately a 4 percent higher similarity in their covenant
mix compared to other institutional loans. In specification (II), we find that the securitization of
loans increases their covenant similarity to other loans issued over the prior year by 0.05 or 20
percent of its standard deviation. Further, in specification (III), where we control for the extent to
which a loan is using covenants that are the same as the covenants used in previously issued
loans, we find that securitized loans have a covenant similarity which is higher by 0.02 or 10
percent of its standard deviation.
A natural question that arises is whether or not the above result is driven by an omitted
variable associated both with lenders decisions to securitize some tranches of a corporate loan
and with the covenant similarity. To address this concern, in specification (IV) of Panel B, we
test whether the effect of securitization on covenant standardization is stronger when more than
80 percent of the tranches within the same loan package are securitized (223 securitized loans).
We find that the result continues to be statistically significant and robust while the economic
22

magnitude of the effect is bigger: highly securitized loans have covenant similarity which is
higher by 0.06 or 28 percent of its standard deviation.
We further focus on the subsample of securitized loans and test whether highly
securitized loans have higher covenant similarity compared to other securitized loans (rather than
non-securitized loans, as in specification (IV)). We classify loans as highly securitized if more
than 80 percent of the loan tranches are purchased by CLOs. The advantage of this crosssectional test is that it mitigates concerns about selection issues that might drive the results in the
prior specification (i.e., concerns regarding observable or unobservable variables associated with
both the decision to securitize a loan and covenant similarity). In specification (V), we document
that covenant similarity is significantly increasing with the extent to which a loan package is
securitized. We find that highly securitized loans have a covenant similarity score which is
higher by 0.04 or 17 percent of its standard deviation.
Relatedly, another possible concern is that CLOs may choose to purchase loans that
include more standardized covenants from the secondary market. To alleviate this reverse
causality bias, we split our sample into loans that are securitized upon their origination and loans
that are sold to CLOs ex post (specifications (VI) and (VII), respectively).16 We find that when
loans are securitized upon their origination, i.e., when CLOs are expected to be more active in
setting covenant terms, the effect of securitization on covenant similarity is statistically and
economically stronger. More specifically, securitization of corporate loans at their origination
increases covenant similarity by 0.06 or 0.28 of its standard deviation. Although we also find
that CLOs buy more standardized loans in the secondary market, this effect is statistically
weaker. More specifically, the ex post securitization of corporate loans is associated with a
16

Ideally, we would use time to securitization as an instrumental variable, however, this is unobservable in our data.

23

covenant similarity which is higher by 0.05 or 0.21 of its standard deviation, relative to the
unsecuritized institutional loans. It is important to note that the time to securitization is an
important factor that affects this result. If a loan is sold to a CLO shortly after issuance, it is
likely that the bank originated the loan to securitize it and thus did not negotiate on borrowerspecific covenants. However, if a loan is sold to a CLO after a longer period following its
origination, then the relation between securitization and covenant standardization becomes
weaker as the originating bank is less likely to anticipate in advance the terms preferred by CLOs
when negotiating the loan contract at issuance. Our results in column (VII) cannot distinguish
between these alternatives.
In the last specification presented in Table 5, Panel B, we test whether the effect of
securitization on covenant standardization is driven by unobservable characteristics inherent in
companies that issue securitized loans. In specification (VIII), we identify a sample of companies
that issued both securitized and non-securitized loans in the period 20002009, which allows us
test whether securitization affects covenant design within the same borrower. We continue to
find that the securitized loans exhibit covenant similarity scores that are higher by 0.07 or 35
percent of the scores standard deviation.
Finally, we use a propensity score matching model to deal with the fact that the selection
to issue a securitized loan is non-random. We identify a set of control firms which we match to
the treatment firms using propensity scores based on both loan and borrower-specific
characteristics. Panel C of Table 5 reports the results of this propensity score matching model. It
reports the average treatment effect of securitization on covenant standardization for alternative
sets of matching characteristics. The one-to-one matching of treated loans is done in random
order and without replacement. Matching loans are within a distance (caliper) of 0.01 of the

24

propensity score of the loans in the treatment group. We find that our result is robust.
Securitization increases covenant standardization by 0.04 or 19 percent of its standard deviation
across all matching specifications.
6.2. Securitization, covenant standardization and loan liquidity
Table 6 reports the regression results for our tests that examine consequences of covenant
standardization with respect to loans liquidity. Liquidity is an important concern for CLO
managers that often trade the loans in their portfolios to enhance CLOs performance (Lou,
Loumioti and Vasvari, 2014). Panel A reports the results where the dependent variable is the
number of days that a loan remains outstanding in the primary market. 17 Panel B reports the
results where the dependent variable is securitized loan trading or distribution in the secondary
market.
In Panel A, we find that securitized loans with higher levels of covenant standardization
close, i.e., are allocated to investors, more quickly. The time-on-market for these loans is 3
days shorter than that of institutional loans without standardized covenants, a decrease of 10%
relative to the average time-on-market, which is around 29 days. These results suggest that
covenant standardization is an important mechanism that enhances the liquidity of securitized
loans by decreasing information processing costs for CLOs. In Panel B, we find that covenant
standardization increases the number of trades of securitized loans, as well as their distribution
across different CLOs. An increase by one standard deviation in covenant standardization
increases securitized loan trading (distribution) in the secondary loan market by approximately
11 percent (6 percent).

17

In this panel, the number of observations drops to 343 loans due to data availability.

25

In sum, the results in this section indicate that covenant standardization is associated with
greater syndicated loan liquidity, consistent with the interpretation that more similar financial
covenants decrease trading parties due diligence costs and information asymmetry with respect
to the level of protection offered by the covenant structure (e.g., Amihud and Mendelson, 1988).
6.3. Further analysis
6.3.1. Covenant standardization and loan spread
We next investigate whether the greater liquidity associated with the standardization of
covenants in securitized loans is priced by loan syndicates via a lower liquidity premium in the
spreads of securitized loans. In Table 7, we explore whether financial covenant standardization
affects securitized loans spreads and find that covenant standardization decreases the cost of
securitized loans by 20 basis points (which is 5 percent of the average spread), controlling for
loan and borrower characteristics. While this result suggests that loans with more standardized
covenants have lower spreads, potentially due to a lower illiquidity premium, it is also possible
that these loans have lower expected default rates because they are less risky (and we fail to
control for this risk). We do not have information on loan expected default rates (i.e., spreads
from credit derivatives written on loans) available however we investigate whether the covenant
similarity measure predicts lower future loan default rates in column (II) of Table 7. We
document that our covenant similarity measure is not associated with a lower probability of loan
default ex post. Therefore, this analysis provides evidence that covenant standardization is
associated with a decrease in the cost of syndicated loans that are securitized and that this
decrease is likely due to a lower illiquidity premium.
6.3.2. Covenant standardization and loan ratings
To provide more evidence on the impact of covenant standardization on loan liquidity, in
our last set of tests, we explore a potential mechanism that may explain why covenant
26

standardization increases the marketability of securitized loans. Namely, we investigate whether

covenant standardization in securitized loans leads to less disagreement between credit rating
agencies which are critical information intermediaries in the debt market. Less disagreement in
the views of these institutions about the credit riskiness of an individual loan is likely to decrease
the information processing costs for all investors interested in transacting that loan (e.g., Morgan,
2002). To test for the effect of covenant standardization on Standard and Poors (S&P) and
Moodys loan rating convergence, we use an OLS model where the dependent variables are (i)
the absolute value of the average notch difference between S&P and Moodys loan ratings over
the period 20082013 (Loan Rating Difference) and (ii) the number of quarters S&P and
Moodys agree on a loan rating, divided by the number of quarters the loan is held by CLOs
(Same Rating). Loan rating is a scale variable with values from 1 to 25, where 1=AAA, 2=AA+
(or Aa1), and 25=D. If financial covenant standardization is indeed reducing rating agencies
information asymmetry about the covenant structure of a loan, we expect the coefficient of the
covenant similarity score to be negative when the dependent variable is Loan Rating Difference
and positive when the dependent variable is Same Rating.
Table 8 reports the results. Consistent with our expectations, we find that the
standardization of financial covenants is associated with a greater convergence in the loan ratings
issued by different credit rating agencies, controlling for loan and borrower characteristics. An
increase by one standard deviation in the covenant similarity score decreases the difference in
S&P and Moodys ratings by 0.2 notches, a significant effect given that the average notch
difference is 0.79. Similarly, an increase by one standard deviation in the covenant similarity
score increases the probability that S&P and Moodys issue exactly the same quarterly rating on
a loan by approximately 10 percent. By comparison, the unconditional probability of both rating

27

agencies issuing the same loan rating is about 40 percent. Overall, the results suggest that
covenant standardization supports the standardization of credit risk evaluations by rating
agencies thus contributing to a lower information asymmetry in the loan market. In turn, this
lower information asymmetry should contribute to an increase in the likelihood that debt
investors trade a particular loan.
6.4. Robustness tests
We perform a series of sensitivity analyses to investigate the robustness of our results
regarding the effect of securitization on covenant standardization as well as the findings on the
consequences of covenant standardization on loan liquidity. First, we exclude covenant-lite loans
and covenants classified in the covenant category other and our results continue to hold.
Second, to alleviate the concern that we misclassify institutional loans as non-securitized when in
fact a CLO invested in this loan after its issuance, we restrict our sample to loans originated after
January 2005. If a CLO invested in these loans after their issuance, we would be able to pick up
this information from the CLO-i database whose coverage started in 2008. Therefore, any bias in
our results due to the misclassification of the control sample is more limited. We continue to find
results similar to those in our primary analyses. Third, we control for the number of words used
to describe a loan covenant as a proxy for covenant complexity and the findings across all tests
hold.
7. Conclusions
We explore whether corporate loan securitization increased the standardization of
accounting-based covenants in loan contracts, and whether covenant standardization has a real
effect on loan trading activity. Previous studies have documented that, despite the widespread
use of financial covenants in loan contracts, the design of loan covenants is based on a relatively
limited set of accounting data, which is puzzling given lenders sophistication (Skinner, 2011).
28

We hypothesize that the recent surge of CLOs in the syndicated loan market, whose business
model does not rely on obtaining creditor control rights, decreased the demand for customized,
borrower-specific financial covenants. To the extent that standardization decreases transaction
costs (i.e., information processing and contract reading costs), we further hypothesize that
covenant similarity of securitized loans will increase their liquidity.
To test our hypotheses, we hand collect the complete definitions of financial covenants
specified in securitized loans and non-securitized, institutional loans. Borrowing from the field of
computational linguistics, we apply a vector space model, which has been recently introduced in
the accounting and finance literatures, to proxy for financial covenant standardization. We
document that securitization leads to more standardized loan covenants, controlling for lender,
loan and borrower characteristics. We further find that covenant standardization in securitized
loans increases liquidity in the primary and secondary loan markets, suggesting that
standardization leads to lower information processing costs. In supplemental analyses, we find
that covenant standardization in securitized loans is associated with a reduction in the securitized
loans LIBOR-spreads without being associated with a lower default probability, potentially
suggesting that the spread reduction is related to a decrease in illiquidity premiums. In addition,
we document that financial covenant standardization in securitized loans leads to less credit
rating disagreement between the major credit rating agencies, consistent with the interpretation
that standardization leads to lower reading costs.
Our paper has certain limitations that present opportunities for future research. First,
since CLO managers have incentives to trade their loans to enhance CLOs performance (Lou,
Loumioti and Vasvari, 2014), we focus solely on loan liquidity as one of the main benefits
provided by covenant standardization. However, covenant standardization is likely to generate

29

other benefits for loan investors. For example, standardization is likely to decrease loan
renegotiation costs, which are important given the significant number of loans that are
renegotiated. Second, another interesting topic not investigated in this paper is the potential costs
of covenant standardization. It is possible that the use of less customized financial covenants
may lead to an inefficient allocation of control rights if borrowers are more likely to violate such
covenants suboptimally from the lenders perspective (e.g., a financially healthy firm might
violate a covenant because its specification is incomplete). Finally, as debt market information
intermediaries (e.g., rating agencies such as Moodys or S&P) begin to provide more accessible
metrics that facilitate debt market participants understanding of covenant structures, CLO
managers and their investors might become more interested in using loan covenants to monitor
CLOs loan portfolios. We leave such avenues to future research.

30

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Appendix A
Examples of Financial Covenant Definitions
Example 1: Consolidated Interest Coverage Ratio
Consolidated Interest Coverage Ratio is defined as Consolidated EBITDA to Consolidated Interest Charges
Consolidated EBITDA means, for any period, for the Borrower and its Restricted Subsidiaries on a consolidated
basis, an amount equal to Consolidated Net Income for such period plus (a) the following to the extent deducted in
calculating such Consolidated Net Income: (i) Consolidated Interest Charges for such period, (ii) the provision for
Federal, state, local and foreign income taxes payable by the Borrower and its Restricted Subsidiaries for such
period, (iii) depreciation and amortization expense, and (iv) other expenses of the Borrower and its Restricted
Subsidiaries reducing such Consolidated Net Income which do not represent a cash item in such period or any
future period and minus (b) the following to the extent included in calculating such Consolidated Net Income: (i)
Federal, state, local and foreign income tax credits of the Borrower and its Restricted Subsidiaries for such period,
and (ii) all non-cash items increasing Consolidated Net Income for such period; provided that for the purposes of
Section 7.20, if the Borrower or any Restricted Subsidiary shall acquire or dispose of any material property or a
Subsidiary shall be redesignated as either an Unrestricted Subsidiary or a Restricted Subsidiary, in any case, during
the period of four fiscal quarters ending on the last day of the fiscal quarter immediately preceding the date of
determination for which financial statements are available and up to and including the date of the consummation of
such acquisition, disposition or redesignation, then Consolidated EBITDA shall be calculated, in a manner
satisfactory to the Administrative Agent in its reasonable discretion, after giving pro forma effect to such acquisition
(including the revenues of the properties acquired), merger, disposition or redesignation, as if such acquisition,
merger, disposition or redesignation had occurred on the first day of such period.
Consolidated Interest Charges means, for any period, for the Borrower and its Restricted Subsidiaries on a
consolidated basis, the sum of (a) all interest, premium payments, debt discount, fees, charges and related expenses
of the Borrower and its Restricted Subsidiaries in connection with borrowed money (including capitalized interest)
or in connection with the deferred purchase price of assets, in each case to the extent treated as interest in
accordance with GAAP, excluding one-time charges in respect of loan origination or similar fees and non-cash
amortized amounts with respect thereto, and (b) the portion of rent expense of the Borrower and its Restricted
Subsidiaries with respect to such period under capital leases that is treated as interest in accordance with GAAP.
Consolidated Net Income means, for any period, for the Borrower and its Restricted Subsidiaries gross revenues
for such period, including any cash dividends or distributions actually received from any other Person during such
period, minus the Borrowers and its Restricted Subsidiaries expenses and other proper charges against income
(including taxes on income to the extent imposed), determined on a consolidated basis in accordance with GAAP
consistently applied after eliminating earnings or losses attributable to outstanding minority interests and excluding
the net earnings of any Person other than a Restricted Subsidiary in which the Borrower or any of its Subsidiaries
has an ownership interest. Consolidated Net Income shall not include (i) any gain or loss from the Disposition of
assets, (ii) any extraordinary gains or losses, or (iii) any non-cash gains or losses resulting from mark to market
activity as a result of the implementation of Statement of Financial Accounting Standards 133, Accounting for
Derivative Instruments and Hedging Activities (SFAS 133).
Example 2: Total Leverage Ratio
The ratio of Indebtedness to EBITDA
Indebtedness means of any Person (without duplication): (a) indebtedness created, issued or incurred by such
Person for borrowed money (whether by loan or the issuance and sale of debt securities or the sale of property to
another Person subject to an understanding or agreement, contingent or otherwise, to repurchase such property from
such Person); (b) obligations of such Person to pay the deferred purchase or acquisition price of property or services,
other than trade accounts payable (other than for borrowed money) arising, and accrued expenses incurred, in the
ordinary course of business so long as such trade accounts payable are payable within 90 days of the date the

34

respective goods are delivered or the respective services are rendered; (c) Indebtedness of others secured by a Lien
on the property of such Person, whether or not the respective Indebtedness so secured has been assumed by such
Person; (d) obligations of such Person in respect of letters of credit or similar instruments issued or accepted by
banks and other financial institutions for account of such Person; (e) Capital Lease Obligations of such Person; (f)
Indebtedness of others guaranteed by such Person; (g) if the aggregate consideration payable by such Person to
extend and exercise any option acquired in connection with any Acquisition (an Extension and Exercise Price)
exceeds 20% of the aggregate consideration payable in connection with such Acquisition, such Extension and
Exercise Price; (h) any put obligations, but only to the extent that such Put Obligations (other than the Put
Obligations in existence on the Fourth Restatement Effective Date relating to WNAB-TV (Nashville, Tennessee)),
whether arising under the same or different agreements, exceeding $25,000,000 in the aggregate shall not have been
approved by the Administrative Agent (such approval not to be unreasonably withheld) prior to the incurrence
thereof; and (i) obligations of such Person in respect of surety and appeals bonds or performance bonds or other
similar obligations; provided that the term Indebtedness shall not include (i) obligations of such Person, (ii)
obligations of such Person under any Program Services Agreement, Outsourcing Agreement or other similar
agreement, (iii) any liability shown on such Persons balance sheet in respect of the fair value of Interest Rate
Protection Agreements, (iv) any put obligations, and (v) any liability shown on the balance sheet of such Person
solely as a result of the application of FIN 46 and for which such Person is not primarily or contingently liable for
payment.
Capital Lease Obligations of any Person means the obligations of such Person to pay rent or other amounts
under any lease of (or other arrangement conveying the right to use) real or personal property, or a combination
thereof, which obligations are required to be classified and accounted for as capital leases on a balance sheet of such
Person under GAAP, and the amount of such obligations shall be the capitalized amount thereof determined in
accordance with GAAP.
EBITDA means, for any period, the sum, for the Borrower and its Subsidiaries (determined on a consolidated
basis without duplication in accordance with GAAP), of the following for such period (subject to Section 1.05(d)):
(a) net income for such period; plus (b) the sum of, to the extent deducted in determining net income for such period,
(i) provision for taxes, (ii) depreciation and amortization (including film amortization), (iii) Interest Expense, (iv)
Permitted Termination Payments (or to the extent the same shall be included in determining corporate expenses
pursuant to clause (c)(ii) below for such period), (v) extraordinary losses (including non-cash losses on sales of
property outside the ordinary course of business of the Borrower and its Subsidiaries), (vi) all other non-cash
charges (including non-cash losses on derivative transactions and non-cash interest expenses), (vii) all transaction
costs paid or incurred by the Borrower in connection with the Fourth Restatement Effective Date Transactions and
the Tender Offer Transactions, and (viii) all amounts paid in cash by the Borrower and its Subsidiaries to
Cunningham and its Subsidiaries pursuant to the transactions contemplated by the Cunningham MOU that are in
respect of, or credited toward, the purchase price of any Stations to be acquired by the Borrower or any of its
Subsidiaries from Cunningham or are in respect of local marketing agreement fees, but not exceeding $11,000,000
in the aggregate for any twelve month period; minus (c) the sum of, to the extent included in net income for such
period, (i) non-cash revenues, (ii) corporate expense (but only to the extent already not deducted in determining net
income for such period), (iii) interest and other income, (iv) extraordinary gains (including non-cash gains on sales
of assets outside the ordinary course of business), (v) benefit from taxes, (vi) non-cash gains on derivative
transactions, and (vii) cash payments made during such period in respect of items under clause (b)(vi) above
subsequent to the fiscal quarter in which the relevant non-cash charge was reflected as a charge in the statement of
net income; minus (d) Film Cash Payments made or scheduled to be made during such period.
Interest Expense means, for any period, the sum, for the Borrower and its Subsidiaries (determined on a
consolidated basis without duplication in accordance with GAAP), of (a) all cash interest expense in respect of
Indebtedness during such period, (b) the net amounts payable (or minus the net amounts receivable) under Interest
Rate Protection Agreements accrued during such period (whether or not actually paid or received during such
period) and (c) restricted payments made during such period pursuant to Section 7.08(a) in respect of interest
payments on the Holding Company convertible debentures (including any such interest payments thereon made
pursuant to Section 7.08 of the Existing Credit Agreement prior to the Fourth Restatement Effective Date during any
fiscal quarter that is included in such period). Any reference herein to calculating Interest Expense for any period on
a pro forma basis means that, for purposes of the clause (a) above, (i) the Indebtedness on the basis of which

35

Interest Expense is so calculated shall mean Indebtedness outstanding as of the relevant date of calculation after
giving effect to any repayments and any incurrence of Indebtedness on such date and (ii) such calculation shall be
made applying the respective rates of interest in effect for such Indebtedness on such date.
Film Cash Payments means, for any period, the sum (determined on a consolidated basis and without
duplication) of all payments by the Borrower and its Subsidiaries made or scheduled to be made during such period
in respect of film obligations; provided that amounts applied to the prepayment of film obligations owing under any
contract evidencing a film obligation under which the amount owed by the Borrower or any of its Subsidiaries
exceeds the remaining value of such contract to the Borrower or such Subsidiary, as reasonably determined by the
Borrower, shall not be deemed to be Film Cash Payments.
Example 3: Limitation on Capital Expenditures
Capital Expenditures shall mean with respect to any Person for any period, the sum of (i) the aggregate of all
expenditures by such Person and its Subsidiaries during such period that in accordance with GAAP are or should be
included in property, plant and equipment or in a similar fixed asset account on its balance sheet, whether such
expenditures are paid in cash or financed, and (ii) to the extent not covered by clause (i) above, the aggregate of all
expenditures by such Person and its Subsidiaries during such period to acquire by purchase or otherwise the business
or fixed assets of, or the capital stock of, any other Person; provided that there shall be excluded from Capital
Expenditures the purchase price paid in any Permitted Acquisition; provided, further, that any rolling stock which is
initially accounted for as a Capital Expenditure at the time of acquisition thereof but which is transferred to a third
party and becomes subject to an operating lease within 60 days after the date of acquisition thereof which lease
would not be required to be treated as an addition to property, plant and equipment or in a similar fixed asset
account on a consolidated balance sheet of Parent and its Subsidiaries prepared in accordance with GAAP, shall be
excluded from Capital Expenditures.
Example 4: Net Worth
Net Worth means, as of any date of determination, the total consolidated stockholders equity (determined
without duplication) of the Borrower and its Subsidiaries at such date.

36

Appendix B
Cosine Textual Similarity
We measure covenant standardization by assessing the degree of overlap in the vector of unique
words used to define covenants. To do so, we first remove from the covenant definition all
stopwords (e.g., and, a, the, of) and pare the remaining words down to their stems. For
example, trusted and trusting become trust for calculation purposes.
Next, we estimate the extent to which two covenant definitions are similar by calculating the
pairwise cosine textual similarity for all pairs of reduced-form financial covenant definitions
based on a vector space model used in plagiarism software and search engine algorithms (see
Salton, Wong, and Yang, 1975) as follows:

We count how many times each word is used in each covenant definition. This process
creates two vectors with the number of times each word is mentioned in the two covenants.
To illustrate, assume we have two covenant texts, T1 and T2, with three words (W1, W2, W3)
each. W1 occurs in T1 2 times, W1 occurs in T2 3 times, and so forth:
T1 = (2W1, 3W2, 5W3)
T2 = (3W1, 7W2, W3)

The cosine similarity of the two vectors above is a mathematical measure of how similar the
two vectors are on a scale of [0, 1] with 1 being the outcome if the vectors are either identical
or their values differ by a constant factor. For cosine similarities resulting in a value of 0, the
covenant definitions do not share any attributes (or words) because the angle between the
word vectors is 90 degrees. The cosine similarity is computed as:
cos = T1T2 / ||T1||*||T2|| = 0.6758
where the vector product is T1T2 = 2*3 + 3*7+ 5*1 and the normalized vectors are computed
as ||T1|| = sqrt(22 + 32 + 52) and ||T2|| = sqrt(32 + 72 + 12).

To obtain a loan specific covenant standardization measure, we average the cosine similarities of
the covenants in a loan with the same-type covenants in all other borrowers loans that were
issued in the prior year. Thus, the Covenant Similarity Score is a continuous variable with values
ranging from zero (if two covenants share no common word) to one (if the definitions of two
same-type covenants are identical).

37

Appendix C
Variable definitions
Variable

Definition

Leverage

The standard deviation of borrowers operating cash flows over the last five years,
deflated by total assets.
The average similarity score at the loan level of covenant i in loan k with covenant j
in loan m only if i and j are of the same covenant type. See Appendix B for further
detail.
The ratio of total loan size a borrower took from the lead arranger in the past to total
size of loans the borrower took in the past.
Total liabilities to total assets.

LIBOR-spread

The natural logarithm of all-in-drawn LIBOR-spread of the Term B tranche.

Liquidity
Loan Amount

Current assets to current liabilities.

The natural logarithm of the loan amount.
Binary variable that equals one if the borrower defaulted on a securitized loan, and
zero if the borrower did not default on a securitized loan.
Annual change in the number of CLOs holding at least one tranche of a securitized
loan, divided by the average number of CLOs holding a tranche of a securitized loan
in the same year.
Loan sales and purchases less purchases where both transacting parties are CLOs for
a securitized loan in a year, divided by the average trading activity of a securitized
loan in the same period.
The average difference between Moody's and Standard & Poors loan rating over
our sample period.
The natural logarithm of loan maturity (in months).
Binary variable that equals one if a loan contract does not include financial
covenants, and zero otherwise.
The number of financial loan covenants, including net worth covenants.
Average number of the same financial covenants with other loans originated in the
last year to the number of financial loan covenants.
Binary variable that equals one if the loan includes a revolving tranche, and zero
otherwise.
Operating income to total assets.
The number of quarters a securitized loan's S&P and Moody's rating are the same,
divided by the number of quarters the loan is held by CLOs. S&P (Moody's) loan
rating is a scale variable, where 1=AAA,, 25=D.

Cash Flow Volatility

Covenant Similarity Score
Lending Relationship

Loan Default
Loan Distribution

Loan Trades
Loan Rating Difference
Loan Maturity
No covenants
Number of Covenants
Pct. Same Covenants
Revolving Tranche
ROA
Same Loan Rating

Size

Binary variable that equals one if the loan includes at least one securitized tranche
and zero otherwise.
The natural logarithm of total assets.

Syndicates

The natural logarithm of the number of co-syndicates in the loan.

Time-on-Market

The number of days the loan remains outstanding in the primary loan market (Close
date- Launch date).

Securitized Loan

38

Figure 1: Covenant similarity score

0.60

0.80
0.70

0.55
0.60
0.50

0.50
0.40

0.45

0.30
0.40
0.20
0.35

0.10
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009

Covenant similarity
score
Covenant
similarity+Covenant-lite
loans
Percentage of
securitized loans
Percentage of same
covenants

Figure 1 reports the average covenant similarity score for our sample of 703 institutional non-securitized and 440 securitized loans in
20002009 (primary axis), including covenant-lite loans (covenant similarity=1). The pattern looks similar for the sub-sample of 608
institutional non-securitized and 385 securitized loans in 20002009, excluding covenant-lite loans (primary axis). Using our sample
of 1,143 corporate loans, the percentage of securitized loans is estimated as total number of securitized loans issued in a year divided
by annual total loan issuance (secondary axis). The percentage of same covenants is the ratio of the same covenants a loan shares to all
other loans in the sample of 1,143 loans, divided by the number of covenants in the loan.

Figure 2: Covenant similarity score, securitized vs. institutional loans

0.60
0.58
0.56
0.54
0.52
0.50
0.48
0.46
0.44
0.42
0.40

Non-securitized loans
Securitized loans

Figure 2 reports the average covenant similarity score for our sample of 703 institutional non-securitized and 440 securitized loans in
20002009 (primary axis), including covenant-lite loans (covenant similarity=1).

39

Table 1
Descriptive Statistics on financial covenants

Panel A: Loans and financial covenants by year

Year

Number of
loans

Pct. of
securitized
loans
0.15

Pct. of
covenant-lite
loans
0.12

Number of
financial
covenants
292

Average number of
covenants per
contract
3.56

2000

93

2001

135

0.08

0.13

386

3.30

2002

90

0.20

0.13

274

3.51

2003

109

0.31

0.09

365

3.69

2004

120

0.42

0.15

372

3.68

2005

110

0.49

0.15

334

3.59

2006

139

0.53

0.17

390

3.36

2007

194

0.68

0.17

481

2.90

2008

96

0.23

0.10

266

3.09

2009

57

0.47

0.08

143

3.18

Total

1,143

0.38

0.13

3,303

3.39

40

Panel B: Financial covenant types

Covenant Type (Restated)

Securitized loans Non-securitized loans

MaxCapex

387

232

155

MaxDebt

50

42

MaxDebtEbitda

212

74

138

MaxDebtEquity

99

12

87

MaxDebtNW

69

15

54

MaxLeverage

910

449

461

MinDebtServiceCoverage

51

12

39

MinEBITDA

137

56

81

MinFixedChargeCoverage

413

161

252

MinInterestCoverage

612

259

353

MinLiquidity

87

20

67

MinNetWorth

271

57

214

Other

Total

3,303

1,355

1,948

41

Table 2
Summary statistics

Variable

Mean

S.D.

Min

0.25

Mdn

0.75

Max

Covenant Similarity Score

1,143

0.49

0.22

0.17

0.37

0.44

0.51

1.00

Pct of Same Covenants

1,143

0.45

0.27

0.09

0.25

0.42

0.57

1.00

Securitized Loan

1,143

0.38

0.49

0.00

0.00

0.00

1.00

1.00

Number of Covenants

1,143

2.58

1.60

0.00

2.00

3.00

4.00

6.00

LIBOR-spread

1,143

5.42

0.45

3.82

5.21

5.52

5.58

6.48

Loan Amount

1,143

19.83

1.11

16.52

19.11

19.76

20.53

24.12

Loan Maturity

1,143

4.02

0.38

3.40

3.74

4.07

4.33

5.77

Revolving Tranche

1,143

0.57

0.49

0.00

0.00

1.00

1.00

1.00

Lending Relationship

1,143

0.23

0.37

0.00

0.00

0.00

0.44

1.00

Syndicates

1,143

1.81

0.91

0.00

1.10

1.95

2.48

3.18

377

29.47

14.43

0.00

20.00

30.84

31.00

85.00

Liquidity

1,143

1.58

0.64

0.53

1.14

1.66

1.69

3.42

ROA

1,143

0.06

0.05

-0.07

0.04

0.06

0.09

0.19

Leverage

1,143

0.39

0.21

0.01

0.24

0.40

0.49

0.92

Cash Flow Volatility

1,143

0.03

0.02

0.00

0.01

0.03

0.03

0.11

Size

1,143

7.79

1.11

5.63

7.05

7.80

8.39

10.29

Number of Trades

1,250

1.06

0.82

0.00

0.20

1.17

1.46

5.75

Loan Distribution

1,019

0.22

0.64

-1.42

0.00

0.10

0.40

2.96

Loan Default

440

1.22

3.65

0.00

0.00

0.00

1.00

35.00

Same Loan Rating

440

0.37

0.30

0.00

0.09

0.35

0.50

1.00

Loan Rating Difference

440

0.76

0.56

0.00

0.50

0.76

0.80

6.00

Time-on-Market

Variables are defined in Appendix C. The values of the continuous variables are winsorized at 1% and 99%.

42

Table 3
Loan, borrower and covenant characteristics: securitized versus non-securitized loans

Panel A: Borrower and loan characteristics

Covenant Similarity Score

Number of Covenants
LIBOR-spread
Loan Amount
Loan Maturity
Revolving Tranche
Lending Relationship
Syndicates
Time-on-Market
Liquidity
ROA
Leverage
Cash Flow Volatility
Size

Securitized Non-Securitized
Loans
Loans
0.51
0.48
(0.20)
(0.23)
2.76
2.47
(1.70)
(1.53)
5.37
5.45
(0.47)
(0.44)
20.10
19.65
(1.15)
(1.06)
4.10
3.97
(0.26)
(0.42)
0.70
0.49
(0.46)
(0.50)
0.19
0.25
(0.35)
(0.37)
1.91
1.75
(0.79)
(0.97)
26.70
32.89
(14.66)
(13.43)
1.59
1.58
(0.63)
(0.64)
0.07
0.06
(0.05)
(0.05)
0.45
0.34
(0.22)
(0.19)
0.03
0.03
(0.02)
(0.02)
7.62
7.90
(1.14)
(1.08)

43

t-stat.
-2.03

***

-2.90

***

2.87

***

-6.74

***

-5.66

***

-7.27

***

2.92

***

-2.98

***

4.24

***

-0.39
-1.29
-8.87

***

-0.09
4.05

***

Panel B: Covenant similarity score by covenant type

Covenant Similarity Score
Covenants in
Covenants in
securitized loans non-securitized loans

t-stat.

MaxCapex

0.35
(0.12)

0.33
(0.13)

-6.75

***

MaxDebt

0.41
(0.12)

0.31
(0.11)

-4.84

***

MaxDebtEbitda

0.41
(0.11)

0.40
(0.12)

-50.87

***

MaxDebtEquity

0.45
(0.14)

0.41
(0.14)

-2.48

***

0.23

0.29

1.74

***

(0.12)

(0.14)

MaxLeverage

0.47
(0.13)

0.43
(0.14)

-37.77

***

MinDebtServiceCoverage

0.30
(0.12)

0.27
(0.15)

-0.30

MinEBITDA

0.41
(0.12)

0.38
(0.14)

-8.79

***

MinFixedChargeCoverage

0.47
(0.12)

0.46
(0.12)

-12.47

***

MinInterestCoverage

0.49
(0.12)

0.46
(0.12)

-23.32

***

MinLiquidity

0.55
(0.06)

0.44
(0.11)

-1.87

MinNetWorth

0.26
(0.14)
0.45
(0.14)

0.23
(0.11)
0.39
(0.15)

-9.50

***

-51.36

***

MaxDebtNW

Total

Variables are described in Appendix C. Standard deviations reported in parentheses. All values of the continuous variables are
winsorized at 1% and 99% level. ***Significant at 1%, ** 5% and * 10% level.

44

Table 4
Covenant Similarity Score Validation test
Covenant Similarity Score
Variable

Coeff.

t-stat.

-0.003

***

-4.22

D(LIBOR-spread)

-0.002

***

-5.61

D(Loan Amount)

-0.001

D(Maturity)

-0.023

***

-29.95

Same Lender

0.003

***

2.15

D(Lending Relationship)

0.001

0.86

Same Loan Purpose

0.001

1.02

D(Number of Covenants)

-1.42

D(Syndicates)

-0.009

***

-14.04

Same Industry

0.006

***

2.90

-0.002

**

-1.96

D(ROA)

-0.132

***

-11.68

D(Leverage)

-0.011

***

-4.20

D(Cash Flow Volatility)

-0.092

***

-4.22

D(Liquidity)

D(Size)

0.000

Constant

0.351

-0.62
***

12.81

N= 79,134
R2= 0.28
The dependent variable is the Covenant Similarity Score defined as the average similarity score at the loan level of covenant i in loan k
with covenant j in loan m only if i and j are of the same covenant type. Same Lender equals one if the loans are issued by the same lead
lender, and zero otherwise. Same Loan Purpose equals one if the loans have the same purpose, and zero otherwise. Same Industry equals
one if borrowers are from the same industry (12-industry FF), and zero otherwise. All other independent variables are the absolute values
of the differences in loan and borrower characteristics where the financial covenants refer to. Variables are defined in Appendix C.
Covenant type, lead lender, industry (12 industry portfolios), year of loan origination and loan purpose fixed effects included. The values
of the continuous variables are winsorized at 1% and 99%. Standard errors are corrected for heteroskedasticity; cluster is at the loan level.
*** Significant at 1%, ** 5% and * 10% level, two-tailed tests.

45

Table 5
Securitization and Covenant Standardization

Panel A: Securitization and Covenant Standardization

Variable

Pct. of Same Covenants

I
Coeff.
t-stat.
0.036

**

-0.083

LIBOR-spread

0.045

Loan Amount

-0.002

Loan Maturity

0.092

Revolving Tranche
Syndicates

Securitized Loan
Number of Covenants

Lending Relationship
Liquidity
ROA

All loans
Covenant Similarity Score
II
III
Coeff.
t-stat.
Coeff.

2.18

0.045

***

-19.30

-0.051

***

-11.56

0.007

***

2.68

***

2.55

0.049

***

2.86

0.014

1.68

-0.22

0.005

0.61

0.009

**

1.62

***

4.29

0.075

***

3.84

0.020

1.58

-0.045

***

-2.50

-0.035

**

-2.10

-0.002

-0.24

-0.022

**

-2.26

-0.034

***

-3.77

-0.019

-0.038

**

-2.15

-0.040

***

-2.62

-0.013

-1.25

0.006

0.61

-0.004

0.16

-0.007

-1.17

-0.142

-0.93

-0.016

-0.12

0.055

0.73

3.00

0.082

2.08

0.007

0.27
0.06

***

**

2.96

0.021

***

2.41

Leverage

0.123

Cash Flow Volatility

0.216

0.69

0.144

0.52

0.010

-0.008

-0.84

0.004

0.40

0.005

Size
Pct of Same Covenants
Constant

t-stat.

***

0.227
N= 1,143
R2= 0.55

0.72

46

0.114
N= 1,143
R2= 0.57

0.67

0.687
0.392
N= 1,143
R2= 0.80

***

-3.78

0.81
***
*

32.27
1.60

Panel B: Securitization and Covenant Standardization: Cross-Sectional Tests

Highly securitized and
non-securitized loans

Highly securitized
loans

(IV)

(V)

Variable
Securitized Loan

Coeff.
0.061

Number of Covenants

-0.052

***

LIBOR-spread

0.039

**

Loan Amount

0.005

Loan Maturity

0.073

Revolving Tranche
Syndicates
Lending Relationship
Liquidity
ROA
Leverage
Cash Flow Volatility
Size
Constant

***

***

-0.032

-0.029

***

-0.032

0.005
-0.147
0.107
0.214
-0.003
0.252
N= 926
R2= 0.56

**

t-stat.
2.87

Coeff.
0.037

-10.58

-0.039

***

2.07

0.082

***

0.47
3.36
-1.74
-2.92

***

Securitized loans at
origination and nonsecuritized loans

Covenant Similarity Score

(VI)
t-stat.
Coeff.
t-stat.
2.09
0.061 ***
2.90
-7.99

-0.061

3.52

0.029

0.005

0.42

0.015

0.050

1.48

0.073

-0.033

-1.34

-0.008

-1.78

-0.102

0.44

-0.007

-0.62
***

***

***

-0.033

-0.034

***

(VII)
Coeff.
0.047 ***

t-stat.
2.68
-10.85

-0.059

***

-5.29

2.55

0.109

***

2.71

0.39

-0.028

3.80

0.126

-0.035

-1.91

-0.014

-0.37

-0.033

***

-3.39

-0.024

-1.01

**

-2.17

-0.023

-0.45

0.04

0.011

-0.050

***

1.48

0.047

***

1.43

0.004

3.23

0.078

-10.51

-1.69
-3.26

-0.010

-0.54

-0.036

-0.66

0.007

0.57

0.000

-0.031

-0.16

-0.008

2.27

0.076

1.58

0.085

0.65
-0.03
1.06

-0.373
0.016
0.169

-1.04
1.25
0.53

0.345
-0.013
0.175
N= 828
R2= 0.61

47

Companies with
securitized and nonsecuritized loans
(VIII)
Coeff.
0.077 **

-5.50

-0.92

N= 440
R2= 0.46

Securitized loans after

origination and nonsecuritized loans

***

-1.21
***

-0.05

-0.118

-0.78

0.841

1.85

0.066

1.50

0.183

**

1.03
-1.20
0.67

0.019
0.005
0.147

0.61
0.52
0.50

-0.001
0.017
0.229
N= 171
R2= 0.72

2.76

0.45
**

N= 1,018
R2= 0.49

t-stat.
1.99

2.11
2.06
0.50
0.68
0.65

Panel C: Treatment Model

Variable

Coeff.

Securitized = 1
Coeff.
z-stat.

z-stat.

Coeff.

z-stat.

Number of Covenants

0.072

1.78

0.027

0.63

LIBOR-spread

0.413

***

2.69

0.167

0.98

0.320
0.579
0.853
-0.055

***

4.86
3.16
5.37
-0.62

0.638
0.113
0.526
-0.003
-0.450
0.039
0.664
1.943
-0.835
-0.512
-11.493

Loan Amount
Loan Maturity
Revolving Tranche
Syndicates
Lending Relationship
Liquidity
ROA
Leverage
Cash Flow Volatility
Size
Constant

-11.698

***
***

***

N= 1,143
Pseudo- R2= 0.09

-0.339
1.205
0.007
1.816
-1.562
-0.210
0.889

-6.75

**

***

***

N= 1,143
Pseudo- R2= 0.03

48

-1.94
1.25
0.07
2.55
-0.57
-3.56
1.58

***

***

***

***

***
***

N= 1,143
Pseudo- R2= 0.14

6.84
0.57
2.94
-0.04
-2.33
0.36
0.61
5.21
-0.28
-5.49
-6.15

Treatment loans
Matched loans

Matched on loan
characteristics

Securitized Loans
Matched on
Matched on
borrower
borrower and loan
characteristics
characteristics
440
440
389
327

Number of treatment loans

Number of matched pairs

440
394

Difference in Covenant
Similarity
Mean (treatment-match)
t-statistic

0.04
2.55

0.04
2.29

0.04
2.44

Balance summary statistics:

p > chi2 Raw
p > chi2 Matched
Mean bias Raw
Mean bias Matched

0.00
0.98
21.90
3.60

0.00
0.83
11.35
3.10

0.00
0.99
18.95
3.30

The table reports the tests for the relation between loan securitization and financial covenant standardization. Panel A reports the baseline OLS regression results. Panel B reports
cross-sectional tests. The dependent variable in the first column is the Pct of Same Covenants, defined as the ratio of same covenants a loan has compared to all other loans in the
sample originated in the last year to the total number of covenants in the loan. The dependent variable in all other specifications is the Covenant Similarity Score, defined as the
average textual cosine similarity of the financial covenants in a loan compared to covenants in loans to different borrowers originated in the last year. In specification (IV), the
sample includes non-securitized loans and securitized loans with more than 80 percent of their size being securitized. In the next two specifications, the sample includes nonsecuritized loans and loans securitized upon origination (V) or sold subsequently to CLOs (VI). In specification (VIII), we eliminate our sample to companies that issued both
securitized and non-securitized loans in our sample period. Panel C presents the diagnostic results for the propensity score matching tests. The treatment is whether a loan is
securitized, and the outcome variable is the Covenant Similarity Score, defined as the average textual cosine similarity of the financial covenants in a loan compared to covenants
in loans to different borrowers originated in the last year. The one-to-one matching of treated loans is done in random order and without replacement. Matching loans are within a
distance (caliper) of 0.01 of the propensity score of the loans in the treatment group. The average treatment effect, t-statistic and balance statistics for the matching procedure are
reported. All variables are defined in Appendix C. Lead lender, industry (12 industry portfolios), year of loan origination and loan purpose fixed effects included. The values of the
continuous variables are winsorized at 1% and 99%. Standard errors are corrected for heteroskedasticity; cluster is at the borrower level (except specification (IV)). *** Significant
at 1%, ** 5% and * 10% level, two-tailed tests.

49

Table 6
Covenant Standardization and Loan liquidity

Panel A: Covenant standardization and liquidity in the primary market

Time-on-Market
Variable

Coeff.

t-stat.

Covenant Similarity Score

-4.189

-0.75

Securitized Loan

-6.031

Covenant Similarity Score *Securitized Loan

Number of Covenants

-12.293

***

-2.32

**

-2.15

0.473

0.78

Loan Amount

-0.300

-0.27

Loan Maturity

1.570

0.89

Revolving Tranche

2.546

Lending Relationship

1.26

-3.026

-1.05

Syndicates

0.350

0.32

Liquidity

-1.698

-1.14

-25.455

-1.64

Leverage

-11.782

***

-3.26

Cash Flow Volatility

-24.740

ROA

-0.74

Size

-2.359

***

-2.53

Constant

72.557

***

3.52

N= 343
R2= 0.38

The table reports the tests for the relation between financial covenant standardization and loan liquidity in the primary loan
market. The dependent variable is the number of days a loan remains open in the primary market (Time-on-Market). The sample
includes 343 loans issued in 2000-2007. All variables are defined in Appendix C. Industry (12 industry portfolios), year of loan
origination and loan purpose fixed effects included. The values of the continuous variables are winsorized at 1% and 99%.
Standard errors are corrected for heteroskedasticity; cluster is at the borrower level. ***Significant at 1%, ** 5% and * 10%
level, two-tailed tests.

50

Panel B: Covenant standardization and liquidity in the secondary loan market

Loan trades
Variable

Coeff.

Covenant Similarity Score

0.492

Number of Covenants

0.003

LIBOR-spread

0.081

Loan Distribution

t-stat.
***

Coeff.

2.29

0.285

0.20

0.020

0.87

0.095

t-stat.
***

2.57
1.57
1.51

Loan Amount

0.318

***

Loan Maturity

0.382

***

2.71

0.008

0.07

Revolving Tranche

0.403

***

4.41

0.029

0.52

Syndicates

0.051

1.93

0.037

1.04

Liquidity

0.017

0.26

0.087

***

2.46

ROA

1.678

**

2.11

1.170

***

2.38

Leverage

0.820

***

4.31

-0.167

Cash Flow Volatility

1.290

0.82

1.310

Size

0.466

Constant

0.688

***

8.72

0.046

11.49

0.042

0.62

-1.588

N= 1,250

N= 1,019

R2= 0.39

R2= 0.08

1.80

-1.10
1.07
**

1.98
-1.59

The table reports the tests for the relation between financial covenant standardization and loan liquidity in the secondary loan market. All variables are defined in Appendix C.
Industry (12 industry portfolios), year of loan origination and loan purpose fixed effects included. The values of the continuous variables are winsorized at 1% and 99%. Standard
errors are corrected for heteroskedasticity; cluster is at the borrower level. ***Significant at 1%, ** 5% and * 10% level, two-tailed tests.

51

Table 7
Covenant Standardization and Loan Spread

LIBOR-spread
Variable
Covenant Similarity Score

Coeff.
-0.206

***

t-stat.

DF/dx

-2.32

0.117

LIBOR-spread
Number of Covenants

Securitized Loan Default= 1

0.052
0.009

1.25

0.21
*

0.009

1.63
1.30

-2.13

0.030

***

-0.74

0.086

***

-2.94

0.047

0.92

-0.029

-1.25

0.058

-0.59

Syndicates

-0.015

-0.42

0.030

-0.16

Liquidity

-0.006

-0.29

0.031

-1.41

-3.59

0.440

-0.27

1.76

0.110

-0.74

1.80

0.964

Loan Amount

-0.046

Loan Maturity

-0.047

Revolving Tranche

-0.122

Lending Relationship

ROA

-1.073

Leverage

0.163

Cash Flow Volatility

1.185

Size
Constant

0.005
7.110

**

z-stat.

***

***
*
*

***

0.23
19.40

0.031

3.57
2.62

0.43
*

N= 440

N= 415

R2= 0.36

Pseudo-R2= 0.22

-1.89

The table reports the tests for the relation between financial covenant standardization, LIBOR-spread and the probability of a
borrowers defaulting on a securitized loan. LIBOR-spread is the all-in-drawn LIBOR-spread of the term B loan tranche. Default
equals one if a borrower defaulted on a securitized loan in the period 2008-2013, and zero otherwise. In the second column, we
use a probit model, and marginal effects are reported. All variables are defined in Appendix C. Lead lender (only in specification
I), industry (12 industry portfolios), year of loan origination and loan purpose fixed effects included. The values of the continuous
variables are winsorized at 1% and 99%. Standard errors are corrected for heteroskedasticity; cluster is at the borrower level.
***Significant at 1%, ** 5% and * 10% level, two-tailed tests.

52

Table 8
Covenant Standardization and Loan ratings

Same Rating
Variable

Coeff.

Loan Rating Difference

t-stat.

Coeff.

t-stat.

Covenant Similarity Score

0.363

***

Number of Covenants

0.023

***

LIBOR-spread

0.009

0.21

0.078

1.11

Loan Amount

0.024

1.18

0.018

0.43

Loan Maturity

-0.053

-0.78

0.170

1.33

-2.07

0.061

Revolving tranche
Liquidity
ROA

-0.080

**

0.006
0.487

-0.800

***

-4.36

2.83

-0.028

-1.79

4.18

-0.102

-2.01

1.74

-1.663

***

-3.41

0.23
*

0.93
**

Leverage

-0.004

-0.06

0.111

0.69

Cash Flow Volatility

-0.181

-0.27

1.446

1.01

Size

-0.005

-0.25

-0.067

-1.73

Constant

-0.392

-0.84

1.837

1.89

N= 440
R2= 0.11

N= 440
R2= 0.15

The table reports the tests for the relation between financial covenant standardization and S&P and Moodys loan rating
agreement. The dependent variable in specification I is the number of quarters that S&P and Moodys issued the same loan rating
for a securitized loan divided by total number of quarters the loan was held by CLOs (Same Rating). The dependent variable in
specification II is the absolute value of the average difference in quarterly loan ratings issued by S&P and Moodys in 2008-2011
(Loan Rating Difference). All variables are defined in Appendix C. Industry (12 industry portfolios), year of loan origination and
loan purpose fixed effects included. The values of the continuous variables are winsorized at 1% and 99%. Standard errors are
corrected for heteroskedasticity; cluster is at the borrower level. ***Significant at 1%, ** 5% and * 10% level, two-tailed tests.

53