Companies routinely face debt covenants and occasionally these
covenants are binding. That is, the company’s financial statements
indicate that the covenant has been violated or is close to being
violated. Managers have historically used various means to improve
their reported numbers to avoid binding covenants, including
adjusting accounting accruals, and making “real” operating changes
such as decreasing certain discretionary expenses or cutting back
on capital expenditures.
a. How do accounting accrual adjustments affect covenants that
require minimums for retained earnings...