Debt Specialization

PAOLO COLLA, FILIPPO IPPOLITO, and KAI LI

-The Journal of Finance・Vol.LXVIII, No.5・Oct.2013

Presented by Bray(r08723067)
 Q1: What is debt specialization?

It means one firm which employ only few types of debt

or use one type of debt concentratedly
Q2:Why debt specialization take place?
 Q3:How to choose database
1. Remove utilities and financials

2. U.S. firms traded on Amex, Nasdaq, NYSE, and covered by Compustat from 2002 to 2009

3. Remove firm-years with missing or zero values for total assets or debt

4. Remove firm-years with market or book leverage outside the unit interval

5. Remove firm-years for which the difference between total debt as reported in Compustat
and the sum of debt types as reported in Capital IQ exceeds 10% of total debt.
 Final Sample:
16,115 firm-year and 3,296 unique firms
 Q4: How it classified debt types?
• 1. Commercial Paper
• 2. Drawn credit lines
• 3. Term loans
• 4. Senior bonds and notes
• 5. Subordinate bonds and notes
• 6. Capital leases
• 7. Other debt
 Q5:How to measure
degree of debt specialization
HHI

• If a firm employs exclusively one single debt type, HHI = 1

• If a firm employs seven debt types in equal proportion, HHI = 0
Excl90 = 1
(if a firm obtains at least 90% of its debt from one debt type)

Excl90 = 0
(otherwise)
 Evidence on debt specialization
– Cluster Analysis
• The distribution difference of debt types between clusters
• How to distribute clusters?
• Find the firms that specialize in only one type of debt
• Minimize the variance within clusters
• Maximize the variance between clusters
 Evidence on debt specialization
–Reliance on One Type
• Firm-year observations that obtain
a significant amount of their debt from one single type of debt

• Separate firms into “Rated” and “Unrated”

• Less than 1/5 of observations rely exclusively on one debt type

• 37% observations obtain more than 90% of their debt from one type(Rated)
• 73% observations obtain more than 70% of their debt from one type(Unrated)
 Evidence on debt specialization
–Debt type exceed 30% of total debt
• Not many firms use other debt types
beyond the one upon which we condition

• Reaffirm the idea that there is a higher degree of debt specialization

among unrated firms than among rated firms.
 Evidence on debt specialization
–Credit Rating and Debt Structure
• Mean and median values of debt specialization
and mean and median ratios of different debt types to total debt.

• Firms from investment grade to speculative grade,

they rely more on term loans and subordinated bonds and notes,
and less on senior bonds and notes.

• Low-credit quality firms have a multitiered debt structure

 Q6: Which Firms Specialize?
• Positive Association:
Growth opportunities, Cash holdings, Cash flow volatility, R&D
expenses, Advertising expenses, Unique products

• Negative Association:
Size, Firm age, Profitability, Asset tangibility, Leverage, Credit rating
 Q7:What kind of firms
employ debt specialization

• 1. Firms have higher bankruptcy costs

• 2. Firms are more opaque
• 3. Firms lack access to some segments of the debt markets
 Possible Explanations
• Lowering expected bankruptcy costs

• Economizing on information collection

and monitoring costs

• Constrained access to capital

 Conflicts of Interest among
Debt Holders and Bankruptcy Costs
• Bankruptcy costs arise in part from conflicts of interest among
different claim holders
• An optimal debt structure should minimize expected bankruptcy costs
• The firms with lowcredit quality maximize liquidation value by
borrowing from just one creditor
• Opposite to the firms with highcredit quality
• Lower negotiation costs
• Single creditor benefits more from the high liquidation value
• Higher expected bankruptcy costs should be more specialized
 Information Collection Costs and
Incentives to Monitor
• On equity side, shareholders with concentrated ownership are
effective monitors
• On debt side, relational lenders are generally perceived to be
monitors of corporate borrowers
• An optimal debt structure maximizes the incentives for lenders to
monitor when there is a single senior lender
• Opaque firms facing high information collection and monitoring costs
should have a more concentrated debt structure
• R&D is a major contributor to information asymmetry
 Access to Capital

• Some lender are not willing to lend to certain types of firms,

or indirectly through a price channel

• The constraints on the firm’s ability to reach its desired debt structure.

• Firms with easy access to capital should exhibit

a lower degree of debt specialization.
Multivariate Evidence on Debt Specialization
• Positive association between Tang. , CF volatility
(expected bankruptcy costs)

• Positive association between R&D expenses

(Information collection and monitoring costs)

• Strong negative association between unrated dummy

(Constrained access to capital)
 Conclusion and Suggestion
• First show that most of the firms concentrate their borrowing in only
one of these debt type
• Firms employing few types of debt have higher bankruptcy costs, are
more opaque, and lack access to some segments of the debt market.
• Develop models of debt structure that can account for the various
types of debt empirically examined in this paper
• Examine the persistence of specialization over time.
• Examine the joint determination of amount, maturity, pricing, and
covenants of the various debt types.
Thank You