How Is Bank Financing Helpful in Monitoring Management

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The Answer is Bank financing is beneficial when it is necessary to monitor management.The free-rider problem that keeps individual shareholders from monitoring the firm also probably keeps individual debt holders from doing much monitoring.This is especially true for firms with low leverage ratios,since in this case the debt holders are likely to be paid in full,even if management does poorly.However,if a firm is highly levered and bankruptcy appears likely,the debt holders will have an incentive to monitor management,especially if they have concentrated holdings.Delegating the monitoring of management to their debt holders rather than their residual claimants also reduces the asset substitution problem.However,if debt holders have more influence over management than equity holders,then managers,acting in the interests of their debt holders,may be too conservative in their investment choices.

How Is Bank Financing Helpful in Monitoring Management

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