The Value of Lending Relationships
Published: March 5, 2024
Various factors lead lenders to value one borrower relationship more than another, which could matter when lenders make forbearance decisions during periods of financial instability. In a downturn, lenders may be forced to prioritize borrowers they value more over borrowers they value less (Working Paper no. 24-02).
Abstract
Lending relationships constitute a potentially important driver of bank value, but the quantitative significance of this intangible capital is unknown. To estimate the value of relationships, we model the lender’s decision to enforce a contractual breach of predetermined covenant thresholds based on a tradeoff between the cost of potential relationship termination and the benefits of increased fees and reduced risk. The implied value of a relationship to the lender is 11.6% of loan principal, on average, and is higher for opaque borrowers with fewer outside options. Relationship value averages 6.6% of bank assets and is positively associated with bank value.
Keywords: syndicated lending, financial covenants, lending relationships, intangible capital
JEL Classifications: G21, G32, K12, L14, E32, E44