EntErprisE survEys 60348 EntErprisE notE sEriEs Financial crisis The Impact of the Financial Crisis 2010 on Supply-Chain Financing Leora Klapper and Douglas Randall* T rade credit is an important source of financing for firms in emerging markets. In this note, we identify the firm and market characteristics associated with the extension of supplier financing. We find that firms that operate in more competitive markets and that are less credit constrained are more likely to offer trade credit to their customers. We also find that firms operating in a competitive market were more likely to increase the volume of goods sold on credit during the crisis. Finally, we EntErprisE notE no. 13 show that in countries hit hardest by the crisis, firms under competitive pressure were relatively more likely to extend trade credit, which might suggest an additional financial burden for some firms. Introduction The literature also examines how the capital structure of a firm impacts its decision to extend trade credit to its Supply-chain financing is an important source of funds customers; for instance, firms with access to credit from for both small and large firms around the world. The banks or their own suppliers extend a greater amount of financial crisis, however, brought about significant firm credit to their customers.2 A related literature shows that and market-level disruptions, which were likely to impact during periods of contractions in bank credit, buyers might the decision to offer inter-firm financing. This note uses depend more on trade credit for short-term financing, and data from the World Bank's Financial Crisis Survey (FCS), this may be especially true for small firms.3 which extends the Enterprise Survey (ES) database to create a panel of 1,686 firms in Bulgaria, Hungary, Latvia, Firms that extend trade credit are larger, Lithuania, Romania, and Turkey1 in 2007 and 2009. The centrally located, and export-oriented data provide novel evidence that the degree to which market competition and liquidity affected a firm's decision In 2009, 43 percent of firms reported extending trade credit to their customers, with an econometrically to extend trade credit in 2009 varied with the country-level significant variation across countries. In Lithuania, 80 severity of the crisis. We focus on two key measures of supply-chain financing: first, whether the firm extended trade credit to its customers, and second, a unique and Figure 1 Extension of trade credit, by country World Bank Group timely variable of whether the firm increased, maintained, or decreased the volume of goods sold on trade credit 80 80 Percent of firms that offer trade credit during the crisis. 60 Previous literature on supply-chain financing shows 60 52 a relationship with the market structure of the output 40 market: firms in competitive markets are significantly more 40 likely to extend trade credit as a means of attracting new 24 16 customers and maintaining the loyalty of existing ones. 20 Full sample Côte d'Ivoire Madagascar Mauritius Burkina Faso Cameroon Cape Verde Young firms Old firms Manufacturing activity Service Activity * KlapperisSeniorEconomistandRandallisConsultantintheDevelopment 0 Research Group, Finance and Private Sector Development Team, at the Turkey Bulgaria Hungary Latvia Lithuania Romania World Bank. Contact: Leora Klapper: telephone: (202) 473-8738; email: lklapper@worldbank.org Sources: Financial Crisis Survey/Enterprise Surveys. Access to bank and supplier similar to the findings in other literature during non- Figure 2 crisis periods. Innovative firms and firms that operate financing in a competitive market were significantly more likely to offer trade credit to their customers than firms that did 72 Romania 58 not innovate or firms that did not face stiff competition Lithuania 80 from their competitors. To summarize, 48 percent of 61 89 competitive firms offered trade credit during the crisis, Latvia 61 while only 40 percent of non-competitive firms offered Hungary 42 84 trade credit. The contrast is even starker for innovative 53 firms: 51 percent of innovative firms extended trade Bulgaria 49 credit, while only 34 percent of non-innovative firms 58 Turkey 60 extended trade credit. 0 20 40 60 80 100 The relationship between competition/innovation and the extension of trade credit holds even when accounting Percent of firms with supplier credit Percent of firms with loan or line of credit for basic firm characteristics such as age, size, export Source: Enterprise Surveys. orientation, sector, and country, as well as use of bank and supplier-based finance. This suggests that even during percent of firms reported extending trade credit, while a crisis, competitive firms in particular use trade credit as the figure was only 16 percent among Hungarian firms a means to attract new customers and maintain existing (figure 1). Examining firm characteristics, 41 percent of customers, specifically ones with strong preferences for small firms extend trade credit, compared to 44 percent delayed input payments.6 of large- and medium-sized firms. In addition, 49 percent of exporters offer trade credit, compared to 40 percent Less financially constrained firms were more of non-exporting firms. Among firms located in a capital likely to extend trade credit city, 49 percent reported extending trade credit to their Given that the extension of trade credit implies a customers, contrasted with 41 percent in the subsample delay in output payments with nontrivial consequences of firms that are not located in a capital city. Firms that on a firm's liquidity, it follows that financial constraints export directly or indirectly, and firms located in a capital affect a firm's decision to extend trade credit. In 2007, 57 city, are more likely to offer trade credit even when percent of firms reported having a loan or line of credit accounting for firm, sector, and country-level differences.4 from a financial institution, with significant variations Competitive and innovative firms were more across countries (figure 2). Just as they offer trade credit likely to extend trade credit to their customers, firms may turn to their own suppliers for extensions of trade credit in order to provide liquidity, The offer of trade credit is often establishing a system of supply-chain viewed as a competitive gesture, a way financing. Approximately 71 percent for firms to distinguish themselves Firms in our sample of firms reported using supplier credit from their competitors. Similarly, in 2007, a figure which, again, varies innovative firms looking to expand that had loans or a among the countries in our sample into new markets may also regard line of credit from a (figure 2). Although Hungary has the trade credit as a useful device for lowest rate of formal credit users, it luring new customers away from their financial institution in has the second highest rate of firms existing suppliers. Across the sample, 2007 were significantly using supplier credit, which might approximately 41 percent of firms more likely to extend support prior evidence that firms turn operated in a competitive market.5 to supplier credit when formal credit Innovative firms, defined as those who trade credit in 2009. (which is generally cheaper) is not introduced a new product or service in available. the 2005-2007 period, accounted for Firms in our sample that had loans 52 percent of the sample. or a line of credit from a financial institution in 2007 were A significant relationship between the competitive significantly more likely to extend trade credit in 2009. structure of the output market and the extension of trade Among firms that had a loan or line of credit in 2007, credit is found in our sample during the crisis period, 48 percent offered trade credit, compared to 37 percent 2 among those that did not have a loan or line of credit. is strong evidence that a firm operating in a relatively more The positive association between access to finance and competitive environment is more likely to extend trade trade credit holds even when differences in firm, sector, credit, and this is especially so in countries more severely and country characteristics, among others, are factored in.8 affected by the crisis. The same applies for innovative firms: relative to non-innovating firms, an innovating firm Firms more affected by the crisis are more is more likely to extend trade credit, and this is especially likely to offer trade credit so in countries hit harder by the crisis.9 Our results suggest The survey offers a unique opportunity to explore the that financing the extension of trade credit during the relationship between the impact of the crisis and the crisis might have put additional financial pressure on firms extension of trade credit. Overwhelmingly, firms reported that had become credit constrained themselves. that the financial crisis impacted their establishment. Firms that were impacted by the crisis, and specifically firms that Changes in the extension of trade credit reported the main impact of the crisis was reduced access Finally, we examine expected changes in the extension to credit, were significantly more likely to report extending of trade credit. Across countries, we find that almost half trade credit. Also notable is that among firms that the firms that extended trade credit prior to the crisis reported the main effect of the crisis to be increased input maintained a steady extension of credit during the crisis, costs, only 31 percent extend trade credit, compared to 45 while an almost even percentage report a decrease or percent of firms who reported another main effect. Yet, increase in the volume of goods sold on credit (29 percent the strongest difference is among firms that report plans versus 23 percent, respectively).10 to reduce their workforce: in this subsample, 56 percent Hungarian firms experienced a comparatively large of firms extend trade credit, compared to 39 percent contraction in trade credit offerings, and only 3 percent of among firms who do not plan to reduce the number of firms reported an increase in the volume of goods offered full-time employees in the next six months (figure 3). This on trade credit. The situation was notably different in difference is significant even after controlling for firm Lithuania and Romania, where more than 40 percent of size, sector, competition, and other characteristics.8 firms reported increases in the volume of goods sold on trade credit (figure 4). Competitive and innovative firms were more When compared to firms that experienced a decrease likely to extend credit in severe crises in sales, or maintained sales, during the past year, the To explain why the extension of trade credit might subsample of firms that had an increase of sales reported be associated with higher firm vulnerability, we examine heavier use of trade credit. The positive relationship the impact of the crisis at the country level. We find that between strong past sales and an increase in trade credit is the degree to which a competitive market is associated maintained when controlling for firm-level characteristics. with the extension of trade credit varies with the relative Future predictions of sales were also significantly associated severity of the crisis in a given country. Using a country- with whether or not a firm increased or decreased sales level indicator of the severity of the financial crisis, there on credit. Firms with positive future outlooks on sales Figure 3 Impact of the financial crisis Figure 4 Changes in the extension of trade credit during the financial crisis Will reduce employment Romania 30 44 Main effect: Lithuania 13 54 Decreased demand Main effect: Latvia 21 16 Decreased credit access Main effect: Hungary 55 3 Increased input costs Main effect: Bulgaria 26 14 Increased debt Crisis impacted firm Turkey 26 17 0 20 40 60 80 100 0 10 20 30 40 50 60 Percent of firms that decreased trade credit Percent of firms that maintained trade credit Firms that extended trade credit Firms that did not extend trade credit Percent of firms that increased trade credit Percent of firms that did not know Sources: Financial Crisis Survey/Enterprise Surveys. Sources: Financial Crisis Survey/Enterprise Surveys. 3 were more likely to have recently increased the volume of and sector. All of the explanatory variables are taken from the 2007 goods sold on trade credit.11 survey, while the explained variable is from the 2009 survey which allows for the isolation of cause and effect. This will henceforth be referred to as the "standard model." All results are available upon During the crisis, firms in competitive markets request. continued to extend trade credit, which might 5. Firms operating in a competitive market are defined as those who have increased their financial vulnerability reported in 2007 that domestic and/or foreign competitors had a "very important" effect on the firm's production cost and/or new Supplier financing is a critical source of financing for product development. firms in emerging markets, yet the determinants of the 6. Based on the standard model, with additional controls for the use of supplier credit and use of bank financing (performed separately). extension of trade credit are not well understood. First, 7. Based on the standard model, with additional controls for we identify the firm and market characteristics associated innovativeness and competitiveness (performed separately). with the extension of supplier financing. We find that 8. Based on the standard model with additional crisis-related variables firms that operated in a competitive market or recently (which are not lagged). 9. Based on the standard model, with an additional interaction variable innovated are significantly more likely to offer trade credit between the competitiveness/innovativeness of the firm and the to their customers, suggesting that supplier financing is country-level crisis turbulence variable. often used as a competitive gesture. In addition, firms 10. This question was only asked to firms that reported that they currently offered trade credit (43 percent of the sample). with greater liquidity to finance the extension of credit, 11. Based on an ordered logit regression with the controls from measured as access to a line of credit or credit from their the standard model, plus controls for recent sales trends. In the own suppliers, are more likely to extend credit. Second, we ordered logit regression, "decreasing trade credit" is given a value examine the impact of the financial crisis on supply-chain of 0, "maintained" a value of 1, and "increased" a value of 2. financing decisions and find that firms that operated in References a competitive market are also more likely to increase the Burkart, Mike, Tore Ellingsen, and Mariassunta Giannetti. 2009. What volume of goods sold during the crisis. Third, we study You Sell is What You Lend? Explaining Trade Credit Contracts. the heterogeneous effects of trade credit and find that Reviewof FinancialStudies. Forthcoming. in countries hit harder by the crisis, firms in competitive Calomiris, Charles, Charles Himmelberg, and Paul Wachtel. 1995. markets are more likely to extend credit than firms in less Commercial Paper, Corporate Finance and the Business Cycle: A Microeconomic Perspective. Carnegie-Rochester Series on Public competitive markets. Overall, these results suggest an Policy 42:203-50. additional burden on firms in competitive markets during Cull, Robert, Lixin Colin Xu, and Tian Zhu. 2007. Formal Finance the crisis, which might have increased their financial and Trade Credit During China's Transition. Journal of Financial Intermediation. Forthcoming. vulnerability. Fabbri, Daniela, and Leora Klapper. 2008. Market Power and the Matching of Trade Credit Terms, World Bank Working Paper No. Notes 4754. 1. The sample of firms from Turkey covers only the manufacturing Fisman, R., and M. Raturi. 2004. Does Competition Encourage Credit sector. Provision? Evidence from African Trade Credit Relationships. Review 2. For example, see Petersen and Rajan 1997; McMillan and of EconomicsandStatistics 86:345-52. Woodruff 1999; Fisman and Raturi 2004; Cull, Xu, and Zhu 2007; Love, Inessa, Lorenzo A. Preve, and Virginia Sartia-Allende. 2007. Trade Burkart, Ellingsen, and Giannetti 2009; and Fabbri and Klapper Credit andBank Credit: Evidence from Recent Financial Crises. 2008. Journalof FinancialEconomics 83:453­469. 3. For example, see Calomiris, Himmelberg, and Wachtel 1995; and McMillan, John, and Christopher Woodruff. 1999. Interfirm Love, Preve, and Sartia-Allende 2007. Relationships and Informal Credit in Vietnam. Quarterly Journal of 4. This analysis is based on a logit regression that explains whether Economics114:1285­1320. a firm offers trade credit based on the firm's age (log years since Petersen, Mitchell A., and Raghuram G. Rajan. 1997. Trade Credit: foundation), size (small, medium, or large), ownership (foreign, Theory and Evidence. Reviewof FinancialStudies10:661­691. state, or neither), location (in capital city or not), export orientation Van Horen, Neeltje. 2005. Do Firms Use Trade Credit as a Competitiveness (whether or not the firm exports directly or indirectly), country, Tool? Evidence from Developing Countries, mimeograph. The Enterprise Note Series presents short research reports to encourage the exchange of ideas on business environment issues. The notes present evidence on the relationship between government policies and the ability of businesses to create wealth. The notes carry the names of the authors and should be cited accordingly. The findings, interpretations, and conclusions expressed in this note are entirely those of the authors. They do not necessarily represent the views of the International Bank for Reconstruction and Development/World Bank and its affiliated organizations, or those of the Executive Directors of the World Bank or the governments they represent. 4