Contractual Complexity in Debt Agreements: The Case of EBITDA

We document significant variation in the contractual definition of EBITDA across syndicated loans based on the number of accounting addbacks included in EBITDA definitions. We show that addbacks are associated with tighter covenants but fewer violations. Market responses to covenant violations are more negative when contractual EBITDA contains more addbacks. We also find that addbacks are positively (negatively) related to accrual (cash flow) volatility, suggesting accruals may be less informative about borrowers’ underlying ability to meet their obligations. Our findings suggest that addbacks in EBITDA definitions enhance the informativeness of covenant realizations by refining EBITDA to better reflect the borrower’s true financial condition.