Creditor Control Rights and Resource Allocation Within Firms

We examine the within-firm resource allocation effects of creditor interventions and their relationship to performance gains at firms violating financial covenants. By linking firm-level data to establishment-level data from the U.S. Census Bureau, we show that covenant violations are followed by large reductions in employment and more frequent establishment sales and closures. These operational cuts are concentrated in violating firms' noncore business lines and unproductive establishments. We conclude that refocusing activities and improving productive efficiency are important mechanisms through which creditors enhance violating firms' performance.