Commercial paper, corporate finance and the business cycle: A microeconomic perspective

Abstract

Little is known about the characteristics or behavior of commercial paper issuers at the firm level, or about the reasons for the countercyclical issuance of commercial paper in the aggregate. In order to examine these issues we construct a new panel data-set linking Moody's data on commercial paper outstanding with Standard and Poor's Compustat. We find that high credit quality is a requirement for entry into the commercial paper market, but that long-term credit quality (bond rating) is not a sufficient statistic for measuring short-term credit quality. Holding constant long-term credit quality, access to the commercial paper market depends on large size, high collateral levels, high earnings levels, low earnings variance, and large stocks of liquid assets. These characteristics allow firms to issue near riskless short-term debt and supply a near-money asset to the market, thereby reducing their interest costs by the amount of the commercial paper liquidity premium. In measuring the attributes of high credit quality, we find that firms of insufficiently high quality to access commercial paper markets maintain higher stocks of inventories and financial assets. They also display greater cash flow sensitivity of inventories and financial assets. This suggests that lower quality firms without access to commercial paper markets also face financing constraints that lead them to accumulate “buffer stocks” of liquid assets. Finally, in contrast to the known fact that aggregate commercial paper is countercyclical, we find that firm-level paper issuance and sales are positively correlated. Our data support three explanations for this apparent paradox, all of which recognize that commercial paper issuers are atypical by virtue of their unusually high short-term credit quality. First, such high quality firms use commercial paper to finance the accumulation of inventories during downturns. Second, they also use commercial paper to finance accounts receivable. This suggests that commercial paper issuers serve as intermediaries during downturns. Third, it may be that portfolio demand for commercial paper — a highly liquid, safe asset — increases during downturns. This view is consistent with our characterization of commercial paper issuers.