Speaker: Bo Becker, Stockholm School of Economics
Title: Issuer credit quality, callable bonds and debt overhang
Abstract: A large number of US corporate bonds are callable at a fixed price. We examine the theory that callability serves to limit debt overhang: because debtholders have limited value upside, more is left for equity. This theory, first advanced by Haugen et al (1980) has several key predictions that fit the data. First, many firms, especially high yield, issue callable bonds. Second, issuers call their bonds when they see improvements in credit quality. Third, takeovers are more likely when targets have callable debt. Finally, using announcement returns, we show that target bondholders do benefit from takeovers if the bonds are non-callable, but not if they are callable.