Covenants restricting the use of leasing and additional borrowings primarily protect:
A)the equityholders from added risk of default.
B)the debtholders from the transfer of assets.
C)the debtholders from added risk of dilution of their claims.
D)the management from having to pay agency costs.
E)None of the above.

Question

Quizplus · Accepted Answer

Covenants restricting the use of leasing and additional borrowings primarily protect the debtholders from added risk of dilution of their claims. This is because when a company takes on additional debt or leases assets, it increases its liabilities and decreases its assets, which in turn decreases the value of the company. This can lead to a dilution of the claims of debtholders, as there may be less money available to pay back their loans. By restricting these activities, debtholders are protected from this added risk.

Covenants Restricting the Use of Leasing and Additional Borrowings Primarily