1. 1 Trade Credit in Japan: Relationship with Bank Loans November 2003 Iichiro Uesugi Research Institute of Economy, Trade and Industry and METI

2. 2 Questions to be answered How is trade credit used in Japan ? A loan a supplier extends to its customers upon product sales Classified as a trade payable/receivable Involves closer ties with business transactions than bank loans do Is there substitutability between trade credit and bank loans ?

3. 3 Trade credit use in Japan Financial Statements Statistics of Corporations (Ministry of Finance) Survey of Financial Environment (Small and Medium Enterprises Agency)

4. 4 Data for analysis in Japan The Survey of Financial Environment (SFE) by Small and Medium Enterprises Agency of Japan  Years: 2001 and 2002  Number of observations : 7,656 (2001) and 8,446 (2002) out of 15,000--4,065 firms appear in both years  Ratio of small and medium enterprises: 85.1%  Recently available for research use

5. 5 In praise of the SFE dataset Includes not only balance sheet but non-balance sheet items--similar to the U.S. Survey of Small Business Finances (SSBF) (1) Highest short-term interest rate paid within the year, (2) provision of collateral, (3) personal or government backed guarantee, (4) type of main bank (5) requests to accept an interest rate increase, etc. Contains a sizable number of small and medium enterprises Can be a panel, while U.S. SSBF is for cross sectional analysis only SFE can trace changes of a firm ’ s behavior between two years.

6. 6 Analysis of trade credit using SFE See the effect of idiosyncratic changes of a firm ’ s environment on trade credit, bank loans and other credit or loan conditions. Fluctuations of corporate ratings and sales are employed. We first use the entire sample and then divide it by main bank type, collateral provision and ratings level changes in ratings and sales Change in the liability composition (Trade credit vs. Bank loan) Change in other credit conditions (Interest rate, collateral provision, pressure from main bank, etc.)

7. 7 Corporate ratings In Japan, several private credit research companies produce ratings for firms based on credit research and interviews We use ratings by Tokyo Shoko Research, Ltd.

8. 8 Relationship between Corporate Ratings and Liabilities (entire sample) Quartiles firstsecondthirdfourth Avg. Change in ratings Less than -2Less than 0Less than +1 Larger than or equal to +1 number of samples 85381812187603649 Total assets43924229421334184092 d(trade payable) -96-75-62-27-65 d(loans)-9-58-35-44-36 d(short-term loans) +25-16+2-17 d(long-term loans) -34-43-38-27-36 *Unit is in million yen.

9. 9 ratings drop ratings rise

10. 10 Relationship between Ratings and Non-Balance Sheet Items (entire sample) quartile firstsecondthirdfourthAvg. number of (second) regional banks 2.452 2.1862.0502.286 d(highest short-term interest rate) +0.091%+0.165%+0.037%-0.014%+0.068% Ratio of firms with request for higher interest rate 0.2290.1810.1710.194 ratio of firms newly providing collateral 0.0480.0550.0440.0520.049 ---- personal guarantee 0.1420.1260.1250.1270.130 ---- government backed guarantee 0.0580.0790.066 0.067 Change in length of payment terms 1.9691.9801.9561.9401.961 *Change in length of payment terms is the average of 1(=shorter than previous year), 2(=unchanged), and 3(=longer).

11. 11 * Real lines are for firms whose bank loan is backed by government guarantee. ** Dotted lines are for firms whose bank loan is not backed by collateral or guarantee.

12. 12 Adjusting for transaction motive for trade credit Relationship between purchase amount and trade payable (trade payable outstanding) is proportional to (purchase amount) * (ratio of credit on account) * (length of trade credit payment) Substitution between trade credit and loans However, decline of trade credit is largely due to reduction of purchase since transaction demand is one of the motives for trade credit. Suppliers may be eager to extend credit to distressed firms even though they are forced to cut trade credit due to purchase drop. To measure “ eagerness, ” we have (growth rate of trade payable) – (growth rate of purchase amount) adjusting for transaction motive.

13. 13 Growth Rate of Loans, Trade Payable, and Trade Payable Adjusted for Purchase Amount quartilefirstsecondthirdfourthAvg. Trade payable (incl. transaction demand) -31.69%-12.84%-5.05%+4.62%-11.32% Purchase amount-33.09%-8.58%+1.74%+18.64%-5.33% Trade payable (excl. purchase amount) +1.40%-4.26%-6.80%-14.02%-5.99% Loans-3.25%-6.34%-4.86%-6.69%-5.83%

14. 14 Summary Trade payable and loans are substitutes Trade payable declines in response to deteriorating ratings or sales-- suppliers are quick to distance themselves from bad businesses In contrast, loans gain a larger share even without collaterals or guarantees- -financial institutions respond slowly to changes in the business environment Trade payable adjusted for purchases gives some qualifications Adjusted trade payable responds positively to a ratings or sales drop “ Eagerness to extend credit ” may be similar between suppliers and financial institutions. Further analysis is needed Decent econometric model, not just descriptive statistics Impact on the real economy, such as employment and investment Role of large trade corporations (Shosha)