Multiple banking relationships, agency costs and firm value: evidence from India

Abstract

Purpose

Prior literature demonstrates that the effectiveness of bank monitoring decreases when multiple banks are involved, due to a free rider problem, leading to lower firm value. The purpose of this paper is to investigate whether this free rider problem exists in an emerging market context, and whether the relationship between multiple banking relationships and firm value is conditioned on bankers’ incentives to monitor.

Design/methodology/approach

The authors use multivariate panel regression to examine the hypotheses. The conditioning effect of the incentive to govern (the amount of average bank lending) is modeled using an interaction variable. Based on the result of the Hausman test, the authors employ two-way fixed effects estimator to estimate the coefficients.

Findings

First, the negative relationship between multiple banking relationships and firm value holds true among Indian firms. Second, the authors show that this negative relationship is lessened for firms with high average bank debt or higher free cash flows. The analyses suggest that these moderating effects are related to a reduction in the free rider problem rather than a decrease in financial constraints. However, these results are only significant among larger firms.

Originality/value

Prior literature has not considered the conditioning impact of the “incentives to govern” when examining the free rider problem, inherent in situations where multiple actors are involved. The authors show in this study that the free rider problem disappears when the incentives to govern are considered in the overall research framework.

Citation

Jadiyappa, N., Sireesha, B., Hickman, L.E. and Jyothi, P. (2020), "Multiple banking relationships, agency costs and firm value: evidence from India", Managerial Finance, Vol. 46 No. 1, pp. 1-18. https://doi.org/10.1108/MF-12-2018-0619