The Relationship of G-Index and Convertible Debt Issuance in the Presence of Restrictive Covenants

We examine the relationship between the Governance Index (G-Index) and convertible bonduse by firms, specifically in the presence or absence of covenants. We find that the better theshareholder governance (lower G-Index) of firms, the more they are likely to issue convertibleinstead of straight bonds. More importantly, we find that the complementary relationshipbetween shareholder governance and convertible bond use is driven by the existence of certaincovenants attached to these convertible securities. We also find that this effect is accentuatedin firms with smaller size, higher market-to-book, R&D and intangibles as well as higher beta.We conclude that this link between strong shareholder rights and increased convertible bonduse is conditional on the presence of covenants and therefore shows the important interactionof these three governance mechanisms. In addition, this triple link being emphasized in firmswith higher agency costs and adverse selection problems is consistent with value-maximizinguse of convertible bonds