Convertible bond maturity and debt overhang

Liu Gan; Xin Xia; Wenyang Xu; Hai Zhang

doi:10.1016/j.irfa.2024.103410

Convertible bond maturity and debt overhang

Liu Gan^*, Xin Xia^*, Wenyang Xu^*, Hai Zhang^*

^*Corresponding author for this work

Accounting And Finance

Research output: Contribution to journal › Article › peer-review

Abstract

We develop a dynamic corporate investment model to investigate the determinants of the optimal maturity structure of convertible bonds and its debt overhang effect. Our model predicts that relative to the issuance of straight bonds, companies opting for short-term (long-term) convertible bonds tend to expedite (delay) their investment activities, thereby alleviating (exacerbating) issues related to underinvestment. This outcome provides a theoretical rationale for the observed trend of decreasing convertible bond maturity, as explained by debt overhang theory. Moreover, contrary to previous findings, a growth company optimally chooses to issue convertibles with shorter maturities when it has fewer valuable growth opportunities. These insights improve our understanding of the interactions between convertible bond maturity and corporate investment.

Original language	English
Article number	103410
Number of pages	11
Journal	International Review of Financial Analysis
Volume	95
Issue number	Pt. B
Early online date	29 Jun 2024
DOIs	https://doi.org/10.1016/j.irfa.2024.103410
Publication status	Published - 1 Oct 2024

Funding

We acknowledge helpful comments and feedback from the anonymous referee and Editor Brian Lucey, which significantly improved the paper. We also deeply thank the Paris Financial Management Conference (PFMC) Committee for inviting us to present our paper at PFMC-2022. The research presented in this paper was supported by the National Natural Science Foundation of China (Project No. 72201277; Project No. 72161016; Project No. 72342021), the Fundamental Research Funds for the Central Universities, China, Zhongnan University of Economics and Law, China (Project No. 2722023BY006), and the Innovation and Talent Base for Digital Technology and Finance, China (Project No. B21038). We acknowledge helpful comments and feedback from the anonymous referee and Editor Brian Lucey, which significantly improved the paper. We also deeply thank the Paris Financial Management Conference (PFMC) Committee for inviting us to present our paper at PFMC-2022. The research presented in this paper was supported by the National Natural Science Foundation of China (Project No. 72201277 ; Project No. 72161016 ; Project No. 72342021 ), the Fundamental Research Funds for the Central Universities , Zhongnan University of Economics and Law (Project No. 2722023BY006 ), and the Innovation and Talent Base for Digital Technology and Finance (Project No. B21038 ).

Keywords

convertible debt
investment
maturity structure

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Gan-etal-IRFA-2024-Convertible-bond-maturity-and-debt-overhang
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Cite this

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abstract = "We develop a dynamic corporate investment model to investigate the determinants of the optimal maturity structure of convertible bonds and its debt overhang effect. Our model predicts that relative to the issuance of straight bonds, companies opting for short-term (long-term) convertible bonds tend to expedite (delay) their investment activities, thereby alleviating (exacerbating) issues related to underinvestment. This outcome provides a theoretical rationale for the observed trend of decreasing convertible bond maturity, as explained by debt overhang theory. Moreover, contrary to previous findings, a growth company optimally chooses to issue convertibles with shorter maturities when it has fewer valuable growth opportunities. These insights improve our understanding of the interactions between convertible bond maturity and corporate investment.",

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AU - Gan, Liu

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AU - Zhang, Hai

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N2 - We develop a dynamic corporate investment model to investigate the determinants of the optimal maturity structure of convertible bonds and its debt overhang effect. Our model predicts that relative to the issuance of straight bonds, companies opting for short-term (long-term) convertible bonds tend to expedite (delay) their investment activities, thereby alleviating (exacerbating) issues related to underinvestment. This outcome provides a theoretical rationale for the observed trend of decreasing convertible bond maturity, as explained by debt overhang theory. Moreover, contrary to previous findings, a growth company optimally chooses to issue convertibles with shorter maturities when it has fewer valuable growth opportunities. These insights improve our understanding of the interactions between convertible bond maturity and corporate investment.

AB - We develop a dynamic corporate investment model to investigate the determinants of the optimal maturity structure of convertible bonds and its debt overhang effect. Our model predicts that relative to the issuance of straight bonds, companies opting for short-term (long-term) convertible bonds tend to expedite (delay) their investment activities, thereby alleviating (exacerbating) issues related to underinvestment. This outcome provides a theoretical rationale for the observed trend of decreasing convertible bond maturity, as explained by debt overhang theory. Moreover, contrary to previous findings, a growth company optimally chooses to issue convertibles with shorter maturities when it has fewer valuable growth opportunities. These insights improve our understanding of the interactions between convertible bond maturity and corporate investment.

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Convertible bond maturity and debt overhang

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