Ebook Trade credit, collateral liquidation and borrowing constraints
Firms raise funding not only from specialised financial intermediaries but also from suppliers, generally by delaying payments for input provision. The empirical evidence on trade credit poses several questions that are hard to reconcile with existing theories.
First, what justifies its widespread use by financially unconstrained firms having access to seemingly cheaper alternative sources of funding? Second, why is the reliance on trade credit not always increasing in the degree of credit rationing? Third, why do suppliers extend credit by allowing delayed payment for their products, but seldom by lending cash? Last, does input lending have an impact on the borrower’s choice of inputs? And, relatedly, are the financing and input choices affected by the degree of creditor protection? The present paper addresses all of these questions in a unified setting.
There is a general consensus that trade credit is widespread among firms facing borrowing constraints. This idea follows from the presumption that trade credit is more expensive than bank loans. According to this view, the dependence on trade credit should increase in credit rationing. Although it is difficult to investigate the relation between the use of trade credit and credit rationing, given the lack of reliable empirical measures of borrowing constraints, the empirical evidence is not generally consistent with this common belief.
Petersen and Rajan (1997) document that the U.S. large firms, which are less likely to be credit-constrained, rely heavily on trade credit and do so to a larger extent than small firms: accounts payable average 11.6% and 4.4% of sales for large and small firms, respectively. Similarly, for the Italian manufacturing sector, Marotta (2001) documents that trade credit finances on average 38.1% of the input purchases of non-rationed firms, as opposed to the 37.5% of rationed ones.
A common feature in the use of trade credit, which is independent of the degree of credit rationing, is that the supplier’s lending activity is closely tied to the value of the input transaction, i.e. suppliers lend inputs, but they seldom lend cash. Given that not all inputs can be purchased on account, it is reasonable to expect that the use of trade credit goes together with some bias in the input combination chosen by the entrepreneur. This seems confirmed by scattered evidence on financing and technological choices. Some papers document a larger use of trade credit in countries with lower degrees of creditor protection, such as developing countries (see, among others, Rajan and Zingales, 1995; La Porta et al., 1998; Fisman and Love, 2003; Frank and Maksimovic, 2004). Further evidence shows that firms in developing countries have a higher proportion of fixed assets and fewer intangibles than firms in developed countries (e.g., Demirguc-Kunt and Maksimovic, 2001). Although fragmented, these findings suggest the existence of a cross-country relationship between financing and input choices and identify the degree of creditor protection as a possible explanation for this relationship.
To account for the above stylised facts, we construct a model where opportunistic firms, facing uncertain demand, choose between sources of external funding (bank and trade credit) and inputs with different degree of observability and collateral value (tangibles and intangibles). Being opportunistic, firms may face borrowing constraints. Banks are specialised intermediaries and have a cost advantage in financing firms. Suppliers have both an information and a liquidation advantage.
The first consists in observing input transactions costlessly. This allows suppliers to provide credit to relax the firm’s financial constraints, i.e. for incentive reasons. The second advantage derives from the supplier’s ability to extract a higher liquidation value from inputs in case of distress. Uncertainty and multiple inputs in a model with moral hazard are key to address the open questions listed above.
Download
PDF Ebook Trade credit, collateral liquidation and borrowing constraints
Posted in :
