4-3

4-3 (A 43)

The Effects of Firm-initiated Clawback Provisions on Bank Loan Contracting

Lilian H. Chan

The University of Hong Kong, Hong Kong

Kevin C.W. Chen

Hong Kong University of Science and Technology, Hong Kong

Tai-Yuan Chen

Hong Kong University of Science and Technology, Hong Kong

Although firm-initiated clawbacks reduce accounting manipulation, they also induce managers to engage in sub-optimal activities (e.g., reduce R&D) to achieve earnings targets. To assess the effectiveness of clawback provisions, we examine their impact from debtholders’ point of view. We find that banks use more financial covenants and performance pricing provisions in the loan contracts and decrease interest rates after firms initiate clawbacks. Moreover, we also find that loan maturity increases and loan collateral decreases subsequent to clawback adoption. Taken together, our findings indicate that firm-initiated clawback provisions enhance financial reporting quality, thereby reducing the information uncertainty that financing providers face.