An Empirical Investigation of Trade Credit Use: A Note

An Empirical Investigation of Trade Credit Use: A Note Barbara Summers and Nicholas Wilson Credit Management Research Centre Leeds University Business School December 1999 Address for Correspondence: Barbara Summers Lecturer in Consumer Credit Credit Management Research Centre Leeds University Business School University of Leeds Leeds LS2 9JT Tel: +44 (0)113 233 4473 Fax: +44 (0)113 233 4459 E-Mail: bs@lubs.leeds.ac.uk We are grateful to participants in the Second Stockholm Seminar on Risk Behaviour and Risk Management for helpful comments on an earlier version of this paper, and also wish to thank Dun & Bradstreet Limited who supplied credit reference data.

An Empirical Investigation of Trade Credit Use ABSTRACT This paper investigates empirically the theoretical motivations for the use of trade credit by firms for purchases. The extent to which trade credit is used for purchases and the accounts payable to total assets ratio, i.e. the demand for trade credit, are modelled here as a function of transaction costs motivations, financing motivations, operational considerations, seller compliance issues, supplier marketing, and environmental issues, while controlling for firm characteristics such as size and industry. This paper expands on previous studies (see Chant & Walker (1988), Elliehausen & Wolken (1993) Petersen & Rajan (1997), Deloof & Jegers (1999) and Wilson, Singleton & Summers(1999)) by considering a wider range of motivations for trade credit demand. It also complements them by considering firms of similar size in a different country (by comparison with Elliehausen & Wolken) and firms of different sizes in the same country (by comparison with Wilson, Singleton & Summers). We find that the use of trade credit is widespread, and that it is generally perceived as a cheap financing option. Although the availability of credit is not a major influence on supplier choice the customer-supplier relationship can influence supplier offerings, leading to benefits for firms which develop the relationship. This in turn may influence the firm s purchasing behaviour at the pre-sales stage, leading to a concentration of purchasing activity. The level of a firm s trade credit use is found to be significantly influenced by transaction costs, financing, operational issues, marketing activities by suppliers, the firm s investment in trade debtors and firm size. 1

An Empirical Investigation of Trade Credit Use Credit is pervasive in the UK economy affecting financial transactions at all levels from individual consumer to multi-national company. Recent surveys of trade credit in the UK (for example, Wilson, Watson & Summers (1995), Wilson, Watson, Singleton & Summers (1996)) show that a majority of firms make the bulk of their sales on credit. In their position as customers firms also expect to be offered credit terms on their purchases. Alongside this obvious economic importance however, trade credit is also worthy of consideration by policy makers because of its ability to affect the outcome of policy interventions. Davis and Yeomans (1974) show evidence that large firms used trade credit to cushion themselves from tight monetary policy in the late 60s, and the potential impact of such firms using their market power to avoid the effects of legislation aimed at addressing the late payment issue is currently relevant in the UK. 1 To foresee the impact of a policy, however, requires information on the way firms behave, and given its importance in economic terms there is a lack of theoretical and, in particular, empirical work that analyses the motivations and factors affecting trade credit use by suppliers and purchasers. This paper examines the theoretical motivations for a firm s use of trade credit for purchases. The use of trade credit for purchases and the accounts payable to total assets ratio are modelled here as a function of transaction costs motivations, financing motivations, operational considerations, seller compliance issues, supplier marketing, and environmental issues while controlling for firm characteristics such as size and industry. There are relatively few empirical studies of trade credit demand using firm level data. Elliehausen and Wolken (1993) and Wilson, Singleton & Summers (1999) have considered trade credit demand by small firms in the USA and UK respectively. Both use a model based on work by Chant and Walker (1988) which considers a range of firm sizes as we do here, but does not make use of the sort of detailed firm level data included in this study to augment financial and accounting data. Petersen and Rajan (1997) also consider the topic using primarily financial data and considering only 1 The UK Government introduced the Late Payment of Commercial Debts (Interest) Act in November 1998 and an EU Directive is also likely. 2

supplier information costs, marketing and transaction cost theories. Deloof & Jegers (1999) investigate the role of trade credit as a source of finance for large Belgian firms, and consider the pecking order extent to which it may be a substitute for other forms of finance. This paper expands on previous studies by considering a wider range of motivations for trade credit demand, and also complements them by considering firms of similar size in a different country (by comparison with Elliehausen & Wolken) 2 and firms of different sizes in the same country (by comparison with Wilson, Singleton & Summers). The remainder of this paper is structured as follows. In Section I we briefly review the extant literature on trade credit demand, and in Section II we describe the data set used and the empirical approach. In Section III we present the models developed, and then conclude with a discussion of the results in Section IV. II Theories of Trade Credit Demand Elliehausen & Wolken (1993) develop a reduced form model of trade credit demand, which is also used by Wilson, Singleton & Summers (1999). They assume the quantity of trade credit demanded can be represented by the firm s accounts payable and has both transaction costs and financing components, i.e. QD TC = AP = Td + Fd + E This is tested empirically in the form: where QD TC = f (S; VS; RLA; BC; R F ; R B ; P TC ; QD BC )... (4) S = volume of purchases with suppliers VS = uncertainty/ variability of the timing of deliveries/ purchases RLA = return available on liquid assets 3

BC = costs of converting liquid assets to cash R F = measure of the financial risk of the firm R B = measure of the business risk of the firm P TC = price of trade credit QD BC = price of bank credit Here we look to expand this model to take account of other potential theories of trade credit demand. These theories are discussed below, along with the theories relating to transaction costs and financing for completeness. Financial Benefit If a buyer is given credit terms then they have a period between receiving the goods and paying for them, during which time they may either earn interest on the money or avoid finance charges on borrowing. Unless the goods are offered at a sufficient discount for cash this represents a financial gain to the buyer. While this may be obvious, it is particularly pertinent in an environment such as the UK where net terms are prevalent while discounts for early payment and cash are not (CMRC (1999)); customers need an incentive to give up the trade credit option. Transaction Costs Theory This theory is mentioned in Schwartz (1974) and discussed in detail in Ferris (1981). Credit reduces the cost of engaging in trade by reducing the cost of making money available for the transactions. Firms incur costs when converting liquid assets to cash, although they can reduce this overhead, particularly on small amounts or where the timing of requirements is uncertain, by holding precautionary balances. Trade credit gives a buyer notice of when payment is required and thus allows them to them to keep reduced precautionary balances and to plan movements from liquid assets to cash in the most cost effective manner. This is the cash management motive for credit demand. A further motive arises from the reduced number of transactions on the 2 Although the title of Elliehausen & Wolken s study speaks of small firms 90% of firms in this study fall within their definition of firms with fewer than 500 employees. Firms with less than 50 employees are classed as small firms in the UK, and form the largest percentage of UK firms. 4

buyers bank account (the transaction volume motive); the buyer only writes one cheque per supplier per period and therefore reduces costs, as most banks charge businesses on a per transaction basis. While all firms can benefit from the transaction volume motive the potential benefits from the cash management motive may actually be limited for many firms. Some business bank accounts now offer the option to have money switched to and from an interest earning deposit account as required. If a firm does not have the funds or the inclination for a more complex investment strategy then the benefits from the cash management motive would be reduced or negated by such arrangements. This would suggest that the cash management motive might only be an issue for larger firms. Financing Theory If we consider trade credit as one of several options for financing purchases, then the attractions of trade credit will depend on the relative costs and availability of other options. If credit market imperfections cause some buyers to have unsatisfied demand for finance, i.e. to experience credit rationing, then they will be willing to use trade credit even at a premium cost. If firms are cash rich then trade credit must be compared with the opportunity cost of other uses of the money. Again an environment running mainly on net terms leads to trade credit being a better option unless there is sufficient discount to make alternatives worthwhile. For credit rationed firms trade credit can be an attractive way of obtaining finance, even if the costs are high due to foregone discounts or late payment penalties. Suppliers may be willing to offer credit to such borrowers because the firms have more in common than the financial transaction; the supplier benefits in the longer term by helping a customer in difficulty to stay in business and therefore making future sales. The supplier is also often in a better position to obtain information about the creditworthiness of a buyer than a third party lender; contact from the selling process can facilitate the monitoring of customers on an ongoing basis and, as Smith (1987) suggests, suppliers can also use two part terms to obtain ongoing information on credit worthiness. The mutual benefit of the trade relationship and the savings in information costs may even make trade credit a cheaper option for firms who are not credit rationed. Buyers also save the fixed costs of arranging a loan. 5

Operational Considerations Firms have to incur costs before they make sales. The length of a firm s production cycle might therefore be expected to influence their demand for credit as the firm would otherwise have to provide alternative finance. The extent to which a firm keeps stocks may also impact on demand, as these have to be funded. Although high stock levels can be seen as a sign of slow moving stock or poor stock control there can also be positive motivations for such levels. Firms wishing to have high customer service levels in terms of customer order fulfilment, for example, will often have to carry higher stocks than comparable firms with a different focus would Seller Compliance Trade credit can be a tool for buyers, providing information (signals) on seller performance and to some extent protecting the buyer from non-compliance. The idea that credit terms might provide signals of confidence in product quality by allowing the buyer an inspection period before payment is due has been put forward as a motivation for sellers to extend credit (see Ackerlof (1970), Smith (1987)) and credit can provide some protection against opportunistic behaviour by the seller after contract. Lee and Stowe (1993) also suggest that uncertainty on seller compliance can be a motive for foregoing early payment discount. Long et al. (1993) and DeLoof & Jegers (1996) also find support for this theory. Credit as a Marketing Tool for Suppliers The credit terms offered affect the effective price of goods or services; the terms offered and the attitude the supplier takes to enforcing them are part of the price and can be used to achieve marketing objectives. Schwartz (1974) sees credit terms as an integral part of the firm s pricing policy. Schwartz and Whitcomb (1978) suggest that credit terms and enforcement policy can be used to disguise price reductions from competitors and to facilitate price discrimination between customers, while Emery (1987) sees the setting of terms as a way for the seller to cope with variable demand, offering better credit terms (i.e. a lower price) when demand is low to increase sales 6

and tightening up credit terms when demand is high. As well as their direct impact on price, preferential terms can also be used to foster customer relationships and customer loyalty. The Impact of the Firms Environment In an environment where trade credit is pervasive, as it is in most industrial nations, a buyer would not choose to pay cash unless cash discount of sufficient size is offered. Other factors may also preclude dealing in cash, for example geographic distance between trading partners. Another potential influence on demand is the credit demand of the firm s own customers as the firm has to finance the credit it offers, and may even wish to use trade credit terms for its own marketing purposes. The internal organisation of the firm also has to be considered; larger firms may be in a better position to harness technology to take advantage of potential financial benefits whereas smaller companies may have insufficient staff time to organise payment around best exploitation of terms. Finally we need to take account of the firms position in the value chain and the industry it participates in. II Sample Description Data for this study is from 655 UK firms that responded to a mail survey on trade credit practice conducted by the authors in the Autumn of 1994. Preliminary results providing an overview of credit practice in the UK were published in 1995 (reference withheld for anonymity). The survey collected over 300 data items providing detailed data on the firm; its organisational structure, products, markets, supplier relationships, credit policy, credit terms and credit management practices. 3 This was then matched with financial and behavioural data provided by Dun & Bradstreet International. The firms mailed were a randomly selected stratified sample of manufacturing companies originally drawn from the UK FAME database. 4 The companies selected all had a single primary product category to facilitate the analysis of the relationship 3 Details of the survey instrument can be obtained from the authors. 4 Separate samples were drawn from the firms in each manufacturing SIC code and random selections from these were combined to form the mailing file. 7

between product/market characteristics and credit behaviour, and were also engaged in the production process; thus holding companies and large companies with diverse product profiles were deliberately excluded from the sample. As a check respondents were asked to identify their primary product and confirm the percentage of sales it represented. The mean percentage of turnover from the primary product category was 85% with the median being 95%. The survey achieved a 16% response rate, which is in the expected range given the detailed nature of the questionnaire. Most responses (81%) related to private limited companies, 16% to PLCs. The remaining companies were wholly owned subsidiaries, partnerships or overseas companies. Almost half of companies (47%) had a majority stake held by current directors, with a further 7% having the current directors holding a significant minority stake. The median number of employees in the sample was 100, with a maximum of 9,500 and a minimum of 4. Seventy one percent of firms had less than 200 employees. Just over a third of firms (36%) were involved in the metal, engineering and electronics industries; 12% in paper, publishing & packaging; 11% in chemicals plastics and petroleum; 10% in materials production e.g. glass, ceramics, bricks; 9% in textiles; 7% in producing food and drink; 7% in services; 3% in construction, 3% in wholesale & retail; and 1% in primary industries. II Results: Use of Trade Credit in the Sample The pervasive nature of trade credit is clearly demonstrated by this sample; 82% of respondents made over 80% of their purchases on credit, with accounts payable representing an average of 19% of total assets. 75% of firms accept trade credit from over 80% of their suppliers. Most firms (72%) obtain 80% of their inputs from less than 24 main suppliers, although they would typically deal regularly with others. Almost a third of the sample (33%) had over 100 active suppliers at the time of the survey, and half had over 75. Perhaps because of its general availability, an offer of credit terms is not as important a factor in supplier choice as might otherwise be expected. Forty one percent of firms rated it as an important or very important factor in supplier choice, compared with 98% giving this rating to the quality of the product or service and 77% to the potential 8

for a long term relationship. Neither would the prospect of better credit terms lure most firms to an alternative supplier, only 21% always or frequently did this. Respondents were asked a number of questions designed to probe aspects of their use of trade credit, and the results are shown in Table 1. Seventy percent of the sample reported that it was either always or frequently cheaper to finance purchases through trade credit than to obtain finance elsewhere. Given a predominant use of net rather than two-part terms in the UK 5 this is not surprising; unless a firm can obtain a discount for cash or early payment then net terms represent interest free credit. Recent research (CMRC (1999)) has also suggested that a common reason for offering discounts may be to restrict payment periods to 30 days for firms offering 30 days from end of month terms 6. Even payment within the discount period would in this circumstance represent a one month interest free loan. These findings for the UK environment seem to contrast with those in some US literature. For example Elliehausen & Wolken (1993), in their study of trade credit demand in the USA, state that Sellers that extend trade credit typically offer cash discounts to encourage early payment. TABLE 1 HERE Interestingly only 57% of firms said that they always or frequently took an early payment discount if it was offered. This is surprising, given the implicit high interest of some two-part term offerings 7. We would suggest however that the way in which two-part terms are perceived has an impact. Generally the discount offer in two-part terms has been referred to as early payment discount in the UK, being therefore cast as a reward for payment earlier than is necessary; the buyer deciding whether to take discount is therefore evaluating whether the discount is sufficient to warrant early payment. Although the implicit interest rate involved in paying to net terms is high, the actual price reduction can be small and may be insufficient to justify special 5 In this sample most firms traded primarily on net terms, with 17% offering two-part terms and 2% having a majority of cash sales. The predominance of net terms has also been found in other studies in the UK such as Wilson, Watson, Singleton & Summers (1996) and CMRC (1999). 6 29% of firms in CMRC s survey who offered two-part terms had a discount period of 30 days. 7 For terms of 2/10 net 30 the equivalent annual interest rate for paying to net terms is 40%. 9

administrative action to pay early. We might expect therefore that taking of early payment discount would be related to the value of purchases from the supplier. Sixty one percent of respondents reported always or frequently finding that the payment profile of their customers made credit from suppliers a necessity. This seems to reflect the impact of credit requirements and payment behaviour at one level on those on those further up in the supply chain. As most firms both receive and grant credit this could be a significant driver of credit use. There is some evidence that the relationship between buyer and supplier impacts on the credit terms a firm receives. Sixty one percent of firms always or frequently receive preferential credit terms from suppliers with which they have a long term relationship and 57% receive such preferential treatment from suppliers for whom they are large customers. This suggests some support for the theory that credit can be used as a marketing tool and to build relationships. Multivariate Models of Trade Credit Use Multivariate models were developed to explore aspects of trade credit use. All models are developed using Limdep (1997). The use of trade credit for purchases and the accounts payable to total assets ratio are modelled here as a function of the theories previously discussed (transaction costs motivations, financing motivations, operational considerations, seller compliance issues, supplier marketing, environmental issues), while controlling for firm characteristics such as size and industry. Thus the most general model postulated here is: Demand for Trade Credit = f( transaction costs, financing considerations, operational considerations, potential for non-compliance by the seller, supplier marketing, the firm s business environment, control variables) 10

This is effectively an extension of the model used by Elliehausen & Wolken and by Wilson, Singleton & Summers, which covered transaction costs and financing motivations. When testing these theories we use, so far as possible, similar variables to provide points of comparison. The variables used to proxy each theoretical motivation are described below. The extent to which a firm makes purchases on credit is modelled using a dichotomous dependent variable indicating extensive use of trade credit, which is set to 1 if the firm makes more than 80% of its purchases on trade credit and zero otherwise. The model is built using logistic regression. Models of the accounts payable to total assets ratio are developed using a tobit specification with errors corrected for heteroscedasticity. In both cases models are developed with and without industry dummies 8. The models are generally robust to the inclusion of these variables, so the model with industry dummies is reported and differences with the alternative model are noted in the text. Models are reported in TABLE 2. TABLE 2 HERE Considering transaction costs, the stock to total assets ratio proxies the volume of transactions with suppliers; as firms with higher stock levels for their size would be expected to have higher volumes of purchases and therefore more demand for credit. Stock turnover and the number of active suppliers represent aspects of the uncertainty of those transactions. Firms that turn over their stock more frequently are likely to have more frequent purchases, and therefore a higher volume of purchase transactions. If there is uncertainty in a transaction, say in delivery time, then the more transactions there are the more uncertainty the firm faces and the higher should be its demand for credit. A high volume of transactions also would also lead to higher bank charges if each were paid separately in the absence of trade credit. The number of suppliers dealt with also increases uncertainty. The log of sales, which is used as a proxy for size, was used in previous studies to represent the likelihood the firm can benefit from transaction costs reductions. It is expected that large firms will be more 8 Eight industry dummies are used in this study. 11

affected by brokerage costs and be more likely to gain from returns on liquid assets. As firm size can have other influences on potential motivations for credit demand, however, results need careful consideration. Here firm size is listed as a context variable. Variables representing financing motivations for trade credit are the risk score, whether the firm is owner managed, the number of years the firms has been selling its primary product line, the extent to which the firm sees trade credit as a cheaper form of finance, the extent to which the firm relies on short/ medium term finance and the extent to which bank credit limits have adversely impacted the business. The risk score used here is the Dun & Bradstreet risk rating, which represents financial risk. The risk score is on a 1 to 4 scale, with higher risk businesses have higher scores. Business risk is proxied by whether the firm is owner managed and number of years selling primary product line (used here as a proxy for firm age). Owner managed businesses are seen as carrying a higher business risk because owner managers are more likely to undertake risky projects. The extent to which respondents see trade credit as a cheaper form of financing indicates the perceived relative prices of trade and institutional finance, another aspect of relative price, however, is relative availability. If an option is not available the price is effectively infinite; the extent to which bank credit limits adversely impact on the business is used as an indicator of this restraint. Reliance on short/ medium term institutional finance is another indicator of financial restraint, relating to the unavailability of more attractive longer term financing. Firms with highly seasonal demand patterns for their products often have to produce high levels of stock in anticipation of peak periods and will have to either stand the stock holding costs involved or offer preferential terms to their customers to try to reduce the dynamic range of the product demand fluctuations as suggested by Emery (1987). The seasonality of demand is therefore included in the model to represent this operational consideration. The firm s stock turnover could also be seen as supporting operational considerations in the wider context of motivations considered in this study. As discussed earlier, firms with a longer production cycle (and therefore higher stocks) are likely to have higher credit demand, and in the context of explaining trade credit demand this sort of measure distinguishes firms where the nature of the 12

business (e.g. the length of the production cycle) creates an increased requirement for finance (all other things being equal), from firms where their unattractiveness to institutional lenders creates a financing shortfall. Firms could also require credit terms to allow them an inspection period to ensure that the seller has complied with the terms of the sale. We would expect that such motivations, all things being equal, would be stronger for firms where the quality of goods and services is an important issue. The extent to which product/ service quality is an important factor in the choice of supplier is therefore included in the model to test this theory. Our descriptive statistics discussed above highlighted the fact that firms which are large customers or who have long term relationships with suppliers are offered preferential credit terms. For suppliers the offering of such terms is an aspect of marketing and customer relationship development. The two relationship variables here are significantly correlated, so the extent to which firms have received preferential terms from suppliers with which they have a long term relationship is included in the model to represent the influence of supplier marketing. A number of aspects of the firms trading environment can theoretically affect its level of trade credit use. Firms in markets dominated by large buyers may have less chance to balance the credit they extend and receive, due to the bargaining power of the other party. Firms that make a larger investment in trade debtors, for whatever reason, might also be expected to use more trade credit by value. The firm s size and industry are included as context variables. Log of sales is used to proxy firm size, as in previous studies. The industry sector is represented by dummy variables based on the firm s primary product line. Models of the Extent of Trade Credit Use The significant variables in the model support the effects of the variability of transactions with suppliers and the relative price of trade and institutional credit. Firms with a larger number of suppliers and those which see trade credit as a cheaper 13

form of finance are both more likely to make extensive use of trade credit. The lack of significant variables in these models reflects the general availability of credit, which leads to reduced variation in the dependent variable 9 The stock turnover variable is significant in the model without industry dummies, with a negative sign. A negative coefficient lends support to the impact of the production cycle rather than that of transactions costs. The sign on this variable is consistent with the results of Elliehausen & Wolken (1993), although they interpret this variable as indicating a financing motive on the basis that a high stock levels due to a lengthy production process or difficulty selling the end product could indicate increased business risk and therefore difficulty raising finance. However, as the inclusion of industry dummies in our model, which would reflect intrinsic differences in the length of the production cycle, results in the stock turnover variable being no longer significant this would lend support to the view that its significance in the original model reflects differences in the intrinsic production cycle rather than business risk. Models of Accounts Payable to Total Assets In the accounts payable to total assets model there are significant terms representing transaction costs theory. The sign on the stock turnover variable here supports the impact of uncertainty in purchase transactions, and the stock to total assets ratio is significant, supporting the impact of the volume of purchases. Variables representing financial risk, business risk and constraints on bank credit are all significant in the model with the expected signs. Thus high risk firms, owner managed firms and young firms are all more likely to have a higher value of accounts payable relative to size. A higher level of accounts payable is also correlated with the extent to which bank credit limits are having an adverse impact on the business, but the use of short term finance is not significant in this or the previous model, and so does not provide an indication of whether the two forms of credit are complements or substitutes. There is not support in this model for affect of operational considerations 9. Indeed a five point scale giving more detail of the percentage of purchases on trade credit was 14

on credit use, but the impacts of the firms relationships with customers and suppliers are supported by the significance in the model of the trade debtors to total assets ratio and the extent to which the firm has received preferential terms from suppliers with which it has a long term relationship. The lack of a significant relationship for the variable indicating that the firm s market sector is dominated by large buyers would seem to suggest that the level of credit extension is internally rather than externally determined. Removal of the trade debtors to total assets ratio from the model does not make the variable significant, suggesting the result is not due to interactions between the variables. The log of the firm s sales, which controls for firm size, is significant in the model with a positive sign. This could support the transaction costs theory in that large firms are expected to gain most from reduced brokerage costs but a note of caution is raised, as there are a number of reasons why this result might be obtained. Attracting large firms is the major reason why suppliers vary their credit terms (CMRC (1999)), and as such variations usually involve extending the credit period recipients of such treatment would be expected to have a higher relative level of accounts receivable. Late payment by large firms due to their market power has also been put forward as a cause of the late payment problems in the UK, and again this would result in large firms having a relatively high level of accounts receivable. IV Discussion These results support the view of trade credit as an important factor in the economy. Trade credit is generally seen as a cheaper option for financing purchases than institutional finance; a result which may be linked to the large scale use of net, rather than two-part, terms in the UK. The pervasive nature of trade credit leads to it being seen as a hygiene factor, and therefore it has less influence on supplier choice than might otherwise be expected. The customer-supplier relationship however does influence the credit offering the firm receives, with suppliers offering preferential terms where relationships are beneficial to both parties. The benefits of such relationships may be reflected in the concentration of purchase activity shown by available, but there was insufficient variation to support an ordered probit model. 15

most firms; typically firms obtain 80% or more of their inputs from only a third of the suppliers with which they are actively purchasing. The multivariate results from this study support the transaction costs and financing theories of trade credit as determinants of the level of trade credit use and of the relative value of accounts payable. The firms production cycle is also an influence on the extent to which credit is used for purchases. We suggest that the impact of transaction costs may be coming more from the transaction costs motive than the cash management motive in the current context; firm size is separately controlled for in this study and the cash management motive has less potential advantages than it did in the past for less sophisticated firms, given the sorts of banking service now available. The significance of financing variables in the models, particularly for the accounts payable to total assets ratio model, does not of itself imply a response to credit rationing. However, the fact that variables more indicative of financial difficulty, such as that representing the adverse impact of bank credit limits or the risk score, are only significant in the accounts payable model may be indicative of a finance gap. The use of short/medium term finance is not significant in the models and hence cannot provide any evidence on whether the two types of credit are complements or substitutes. The value of the firm s accounts payable relative to firm size is also influenced by the firm s size, its investment in accounts receivable and marketing and customer relationship building activity by the firms suppliers via preferential credit offers. The presence of such offers supports the use of trade credit for price discrimination. Large firms are found to have a higher accounts payable to total assets ratio, but the exact cause of this is uncertain. In particular it is not clear whether large firms are recipients of attractive credit offers or use market position to demand such facilities. Resolving these ambiguities is an issue to be addressed in future research. References Ackerlof, G (1970), The Market for Lemons: Quantitative Uncertainty and the Market Mechanism, Quarterly Journal of Economics, Volume 84, pp 488-500. 16

Chant, E M; Walker, D A (1988), Small Business Demand for Trade Credit, Applied Economics, Volume 20, pp 861-876. CMRC (1999), Credit Management Quarterly Review, September Issue, Credit Management Research Centre, Leeds, UK Davis, E W; Yeomans, K A (1974), Company Finance and the Capital Market: A study of the effects of firm size, University of Cambridge Department of Applied Economics Occasional Paper 39 DeLoof, M. and M. Jegers (1996), Trade Credit, Product Quality, and Intragroup Trade: Some European Evidence, Financial Management, Volume 25, Number 3, pp 33-43. Deloof, M and M Jegers (1999), rade Credit, Corporate Groups and the Financing of Belgian Firms, Journal of Business Finance & Accounting, Volume 26, Parts 7&8, pp 945-966. Elliehausen, G E; Wolken, J D (1993), The Demand for Trade Credit: An Investigation of Motives for Trade credit Use by Small Businesses, Staff Study 165, Board of Governors of the Federal Reserve System, Washington. Emery, G. W. (1987), An Optimal Financial Approach to Variable Demand, Journal of Financial and Quantitative Analysis, Volume 22, Number 2, pp 209-225. Ferris, S J (1981), A Transactions Theory of Trade Credit Use, Quarterly Journal Of Economics, pp 243-270. Lee, Y W; Stowe, J D (1993), Product Risk, Asymmetric Information and Trade Credit, Journal of Finance and Quantitative Analysis, Volume 28, Number 2, pp 285-300. 17

Long, M. S, Matitz, I. B. and S.A. Ravid (1993), Trade Credit, Quality Guarantees and Product Marketability, Financial Management, Volume 22, Number 4, pp 117-127. Petersen, M. A and R. G. Rajan (1997), Trade Credit: Theories & Evidence, Review of Financial Studies, Volume 10, Number 3, pp 661-691. Schwartz, R A (1974), An Economic Model of Trade Credit, Journal of Financial and Quantitative Analysis, Volume 9, pp 643-657. Schwartz, R A; Whitcomb, D K (1978), Implicit Transfers in the Extension of Trade Credit, in Redistribution Through The Financial System: The Grants Economics of Money and Credit, Boulding, K E; Wilson, T F (eds), Praeger Special Studies, New York, pp191-208. Smith, J K (1987), Trade Credit and Informational Asymmetry, Journal of Finance, Volume 62, Number 4, pp 863-872. Wilson, N; Watson, K; Summers, B (1995), Trading Relationships, Credit Management and Corporate Performance: A Survey, (Credit Management Research Group, University of Bradford Management Centre). Wilson, N; Watson, K; Singleton, C; Summers, B (1996), Credit Management, Late Payment and the SME Business Environment, (Credit Management Research Group, University of Bradford Management Centre). Wilson, N; Singleton, C; Summers B (1999), Small Business Demand for Trade Credit, Credit Rationing and the Late Payment of Commercial Debt: An Empirical Study, in Management Buy-Outs and Venture Capital: Into the Next Millennium, M Wright, K Robbie (eds), Edward Elgar Publishing, UK Wilson, N; Summers, B; Singleton, C (1997), Small Business Demand for Trade Credit, Credit Rationing and the Late Payment of Commercial Debt: An Empirical Study, Working Paper, University of Bradford Management Centre. 18

Table 1 Aspects of Respondents Use of Trade Credit Respondents were asked to give their reaction to various statements about trade credit use on a Likert scale from 1 (Never) to 5 (Always). Percentage of responses Statement Always (5) Frequently (4) Half the Time (3) Occasionally (2) Never (1) Mean Response It is cheaper to finance our purchases through trade credit then to obtain finance elsewhere The payment profile of customers in our industry makes credit from suppliers as necessity We will take an early payment discount if it is offered We have received preferential terms from suppliers with whom we have a long term relationship We have received preferential terms from suppliers for whom we are large customers 36.6 33.8 11.3 10.9 7.4 3.8 32.0 29.8 14.3 13.9 9.9 3.6 24.2 32.7 8.0 30.2 4.9 3.4 18.4 42.9 10.8 23.3 4.5 3.5 15.8 41.4 11.3 25.0 6.5 3.3 19