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The corporate choice between public debt, bank loans, traditional private debt placements, and 144A debt issues

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The main purpose of this study is to examine the determinants of the corporate choice between different forms of debt financing. By analyzing the most comprehensive sample of US corporate debt issues to date, I find that firms that issue 144A debt have significantly lower credit quality and higher information asymmetry than firms that issue traditional non-bank private debt. Further, the study shows that traditional private placements, rather than bank loans, are the favorite private debt source for firms with good credit quality. I also show that the firm characteristics of traditional private debt issuers have significantly changed after 1990 through to 2003. My results suggest the following pecking order of debt choices which is conditional on credit quality. In other words, high credit quality firms prefer public bond offerings and small firms, with good credit quality, are more likely to issue traditional private debt. A large group of firms characterized by moderate credit quality make extensive use of bank loans and poor credit quality firms preferentially issue 144A debt.

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  1. Results presented in previous studies confirm the predominance of debt over equity as source of capital for US firms. For instance, Bhojraj and Sengupta (2003) report that the aggregate value of public debt issues in US was $651 billion in 1996 and $1 trillion in 1998 while the value of new equity issues was $122 billion in 1996 and $126 billion in 1998.

  2. This study refers to Rule 506 and regulation D private placements as traditional private placements. I report a description of non-bank private debt characteristics in Sect. 2.1.

  3. Accredited investors are investors with net worth of at least $2,500,000 or income of at least $250,000. Sophisticated investors are investors whom a company reasonably believes have adequate knowledge and experience in financial and business matters to evaluate the securities offered for sale.

  4. The holding period was 2 years until February 1997.

  5. The following institutions qualify as QIBs. Institutions such as insurance firms or pension plans that own or invest at least $100 million in securities of nonaffiliates; banks or savings and loan (S&L) associations that have audited net worth of at least $25 million; brokers or dealers registered under the Exchange Act, acting for their own account or for that of QIBs that own and invest at least $10 million in securities of nonaffiliates; and entities whose equity holders are all QIBs.

  6. Event studies and long-term performance studies following debt placements provide complementary evidence to debt choice studies. Dichev and Piotroski (1999) report non-significant long-term returns following public straight debt issues but positive long-term returns following private debt issues. Chandra and Nayar (2008) further investigate this issue and find positive returns at the time of the announcement of private debt, but a negative long-term performance following issuance of private debt. Chang et al. (2007) show that low-quality firms can improve debt announcement returns by issuing secured debt.

  7. The majority of loans in the sample of this study consists of syndicated loans.

  8. The main results of this study do not change if debt is aggregated by year or by month.

  9. The sample of this study is also about 12% larger than the Gomes and Phillips (2007) debt sample. The difference in size would be even larger if in this study debt were aggregated within 1 month as in Gomes and Phillips (2007) instead of 3 months. Eckbo et al. (2007) report descriptive statistics on a longitudinally larger sample.

  10. This sample starts in 1981 because SDC starts full coverage of US traditional private placements in that year.

  11. For the t tests and multivariate analysis I use the natural logarithm of firm size, issue size, and firm age.

  12. Bank loans were not rated before 1995. As indicated by Yi and Mullineaux (2006), in 1995 rating agencies started rating syndicated loans.

  13. Butera and Faff (2006) provide an overview on how banks use firm characteristics to estimate credit ratings.

  14. When I estimate Ivol using the market model my results do not significantly change.

  15. Altman’s Z is another variable that is potentially correlated to other financial accounting variables used in the regression. However, the variance inflation factor (VIF) of Altman’s Z is less than 2, revealing that there is no multicollinearity between Altman’s Z and the other independent variables.

  16. The result of Hausman test suggests that the firm and year effects are uncorrelated with the independent variables, confirming that random effects is the appropriate approach.

  17. The first-step of this analysis is an OLS regression instead of an ordinal logit because logit regressions do not provide residuals. It is important to notice that when an ordered logit is estimated instead of an OLS regression, the magnitude, sign, and significance of the coefficients are very similar to those presented in panel A of Table 6.

  18. As shown in Table 2, only 46% of the firms that issue traditional private placements are rated by either Moody’s or S&P. The lack of significance of the difference in credit rating between private issuers and 144A issuers might be caused by the absence of credit ratings for many companies that issue traditional private placements. However, missing ratings do not decrease the sample size. I avoid dropping observations with missing ratings by setting the missing ratings to zero and introducing an indicator variable (Missing_rating) that is set to unity for the missing observations (a similar approach for missing data is used by Fama and French (2002) and Palia (2001)).

  19. These regressions are available upon request from the author.


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I would like to thank the editor (Cheng-Few Lee), two anonymous referees, Paul Brockman, Stephen Ferris, John Howe, Brandon Julio, Mahendrarajah Nimalendran, Sarah Peck, Emre Unlu, Christopher Wikle, and seminar participants at University of Missouri and Marquette University for helpful comments and suggestions.

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Correspondence to Matteo P. Arena.


Appendix A

Table 10.

Table 10 Variable definitions and sources

Appendix B

Table 11.

Table 11 Credit rating numerical conversions

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Arena, M.P. The corporate choice between public debt, bank loans, traditional private debt placements, and 144A debt issues. Rev Quant Finan Acc 36, 391–416 (2011).

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