Cross-country differences in trade credit

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Dissertations in Social Sciences and Business Studies

PUBLICATIONS OF

THE UNIVERSITY OF EASTERN FINLAND

DISSERTATIONS | MARKUS MÄTTÖ | CROSS-COUNTRY DIFFERENCES IN TRADE CREDIT | No 157

MARKUS MÄTTÖ

CROSS-COUNTRY DIFFERENCES IN TRADE CREDIT uef.fi

PUBLICATIONS OF

THE UNIVERSITY OF EASTERN FINLAND Dissertations in Social Sciences and Business Studies

ISBN 978-952-61-2606-7 ISSN 1798-5749

This dissertation focuses on using and offering of trade credit in European small and medium-sized firms (SMEs). More specifically it improves our understanding why similar

companies in different countries have so different trade credit behavior. Using a large

sample of European SMEs this dissertation provides new explanations for these differences in terms of financial, legal and

cultural environment.

MARKUS MÄTTÖ

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CROSS-COUNTRY DIFFERENCES IN TRADE

CREDIT

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Markus Mättö

CROSS-COUNTRY DIFFERENCES IN TRADE CREDIT

Publications of the University of Eastern Finland Dissertations in Social and Business Studies

No 157

University of Eastern Finland Kuopio

2017

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Grano Oy Jyväskylä, 2017

Sarjan vastaava toimittaja: Prof. Kimmo Katajala Sarjan toimittaja: Eija Fabritius

Myynti: Itä-Suomen yliopiston kirjasto ISBN: 978-952-61-2606-7 (nid.) ISBN: 978-952-61-2607-4 (PDF)

ISSNL: 1798-5749 ISSN: 1798-5749 ISSN: 1798-5757 (PDF)

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7 Mättö, Markus

Cross-country differences in trade credit Kuopio: Itä-Suomen yliopisto, 2017

Publications of the University of Eastern Finland Dissertation in Social Sciences and Business Studies; 157 ISBN: 978-952-61-2606-7 (print)

ISSNL: 1798-5749 ISSN: 1798-5749

ISBN: 978-952-61-2607-4 (PDF) ISSN: 1798-5757 (PDF)

ABSTRACT

The importance of working capital can be justified by the fact that the leading 2,000 US and European companies have up to US$1.1 trillion in cash unnecessarily tied up in working capital. The existing literature proposes several motives for the use and offering of trade credit, including financial and transactional motives. However, the literature does not explain the observed differences in trade credit levels between countries. This dissertation focuses on cross-country variations in trade credit and working capital management, providing explanations for these differences. Studies in other fields of financial decision making indicate that some factors causing such variations could be the development of a country’s legal and financial system, as well as religion and national culture.

The present study’s results show that the above-cited factors predict the trade credit behaviour of European small- and medium-sized enterprises (SMEs). The findings also indicate that working capital management is more efficient in safer legal environments. Firms operating in a market-based system opposed to a bank-based system have shorter working capital cycles, but the financial system’s effect on trade credit is significant only in countries with French legal origins. Furthermore, the results show that both Hofstede’s and Schwartz’s cultural dimensions have impacts on trade credit and that some of these effects are different in Catholic and Protestant countries. On average, firms operating in Catholic countries hold higher levels of trade credit. Firm behaviour during financial distress varies by country in terms of trade credit. Financially constrained firms use more trade credit during financial distress, especially in bank-based environments. Large firms use their positions for power in negotiations but do so differently in bank-based and market-based environments.

This dissertation provides new evidence on the reasons for cross-country differences in working capital management. Some of these reasons, such as culture,

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are hard to harmonise. However, recognising these reasons, companies and financial institutions can use this information in financial decision making.

Keywords: Trade credit, working capital, cross-country study

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9 Mättö, Markus

Maiden väliset erot yritysten kauppaluotoissa.

Kuopio: Itä-Suomen yliopisto, 2017.

Publications of the University of Eastern Finland Dissertation in Social Sciences and Business Studies; 157 ISBN: 978-952-61-2606-7 (nid.)

ISSNL: 1798-5749 ISSN: 1798-5749

ISBN: 978-952-61-2607-4 (PDF) ISSN: 1798-5757 (PDF)

TIIVISTELMÄ

Käyttöpääoman hallinnan merkitys yrityksille voidaan perustella tosiasialla, että johtavat 2000 yhdysvaltalaista ja eurooppalaista yritystä ovat sitoneet jopa 1,1 biljoonaa dollaria tarpeettomasti käyttöpääomaan. Aikaisempi kirjallisuus tarjoaa kauppaluottojen käytölle useita motiiveja, kuten esimerkiksi rahoituksellinen ja liiketoiminnallinen motiivi. Kirjallisuus ei kuitenkaan selitä kauppaluottojen käytössä havaittuja maiden välisiä eroja. Tämä väitöskirja keskittyy maiden välisiin eroihin kauppaluottojen käytössä ja käyttöpääoman hallinnassa sekä esittelee syitä näille eroille. Muilla rahoituksellisen päätöksenteon tutkimuksen osa-alueilla maiden välisiä eroja on kyetty selittämään mm. oikeus- ja rahoitusjärjestelmien kehittyneisyydellä sekä uskonnolla ja kulttuurilla.

Tämän tutkimuksen tulokset osoittavat, että edellä mainitut tekijät ennustavat eurooppalaisten pienten ja keskisuurten yritysten kauppaluottojen käyttöä. Tulokset osoittavat myös, että käyttöpääoman hallinta on tehokkaampaa turvallisen lakiympäristön maissa. Pankkikeskeisissä maissa toimivilla yrityksillä on lyhemmät käyttöpääoman kiertoajat, mutta rahoitusmarkkinoiden vaikutus kauppaluottojen käyttämiseen on merkitsevää vain ranskalaisen lainsäädännön maissa. Lisäksi tulokset osoittavat, että sekä Hofsteden että Schwartzin kulttuuriset ulottuvuudet vaikuttavat kauppaluottojen käyttöön, ja jotkin näistä vaikutuksista eroavat katolisten ja protestanttisten maiden välillä. Katolisissa maissa toimivien yritysten kauppaluottojen tasot ovat keskimäärin protestanttisia maita korkeammat.

Kauppaluottojen käytöllä mitattuna yritysten rahoituksellinen päätöksenteko taantuman aikana vaihtelee maittain. Rahoituksellisesti rajoittuneet yritykset käyttävät kauppaluottoja taantuman aikana muita enemmän erityisesti pankkikeskeisissä maissa. Suuret yritykset käyttävät hyväkseen asemaansa neuvotellessaan kauppaluottojen ehdoista. Tällainen aseman hyväksikäyttö kuitenkin eroaa pankki- ja markkinaperusteisten maiden välillä.

Tämä väitöskirja tarjoaa uusia syitä maiden välisiin eroavaisuuksiin yritysten käyttöpääoman hallinnassa. Jotkut näistä syistä, kuten kulttuuri, ovat vaikeasti

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yhdenmukaistettavissa. Tunnistaessaan nämä syyt, yritykset ja rahoituslaitokset voivat kuitenkin huomioida ne päätöksenteossa.

Avainsanat: kauppaluotto, käyttöpääoma, maiden välinen tutkimus

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ACKNOWLEDGEMENTS

After reaching this point, I want to express my gratitude for those who have helped me through this project. First I want to thank my supervisors professor Mervi Niskanen and professor Jyrki Niskanen for all the help and guidance throughout the process. Under your supervision it has been a pleasure to go through this work.

I am grateful for my dissertation pre-examiners professor Timo Kärri from Lappeeranta University of Technology and Dr. Jill Collis from Brunel University London for detailed and valuable comments.

For financial support, I thank Univeristy of Eastern Finland (UEF) for the doctoral student position, Jenny and Antti Wihuri Foundation, Nordea bank foundation and Savings bank research foundation. I also want to thank UEF business school for the opportunity to work there during this project.

I want to thank EAA annual congress 2014 and 2016, WFC conference 2014 for valuable comments for my studies. Special thanks also for comments in Accounting tutorial 2014 for professor Pasi Syrjä and 2016 for professor Per Olsson. I would like to thank the Finnish doctoral program Kataja and the Graduate school of Finance for high quality doctoral courses. I also want to thank professor Pertti Töttö and colleague students for scientific discussions in Workshop in statistical methods.

I want to thank my colleagues Riikka Holopainen, Kang Li, Kari Kinnunen, Jukka Karjalainen, Jussi Karjalainen Jukka Kettunen and Jenni Laininen in UEF accounting and finance research team for support and valuable comments in doctoral seminars.

Thanks also for all other colleagues in UEF Business School. It has been a great pleasure to work with you.

Thanks to my parents, Terttu and Aarre Mättö, as well as other relatives and friends for being there for me. Finally, thanks to my wife, Anna and my children, Pihla and Kaapo for encouragement and patience.

Kuopio, September 2017 Markus Mättö

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LIST OF TABLES

Table 1. Summary of the three essays ...38

LIST OF FIGURES

Figure 1. The Cash Gap ...16 Figure 2. Structure of the Dissertation ...19 Figure 3. Accounts Receivable (%) of Total Assets in European SMEs, 2007–

2011. ...25 Figure 4. Impact Chain of Culture ...28

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1 INTRODUCTION

1.1 BACKGROUND

In recent financial research and practical financial decision making, working capital and trade credit have received much attention because trade credit comprises the largest capital employed for the majority of B2B (business-to-business) suppliers in Western and other developed countries. In fact, trade credit is a critical source of funds for both small and large firms worldwide (Demirgüç-Kunt & Maksimovic, 2001). The importance of working capital is justified by the fact that the leading 2,000 US and European companies have up to US$1.1 trillion in cash unnecessarily tied up in working capital (Ernst&Young, 2009). Previous studies indicate that the importance of trade credit varies by country and is likely the highest in industrialised countries, despite substantial variations across them. In terms of leverage, capital structure is very similar in G7 countries; however, differences remain in the use of trade credit (Kneeshaw, 1995; Rajan & Zingales, 1995). Existing theories and evidence provide explanations for the existence of trade credit and firm-level variations, but there are little in the way of clarifications for country-level differences. The aim of this study is to provide explanations for these.

Working capital exists to meet firms’ need to fund their daily operations; it consists of three components—inventories, accounts receivable and accounts payable. Net working capital is calculated as inventories plus accounts receivable less accounts payable. This narrow definition is the most used meaning of working capital in academic literature. An equal measure for effective working capital management is defined as the cash conversion cycle (CCC), which demonstrates the days the net working capital is outstanding. The elements of working capital are related, and managing working capital means managing all of its components. Trade credit is the most important source of short-term external finance for firms and is created when a supplier allows a customer to delay payment. The amount of credit is subject to the value of the goods sold. The time between purchase and payment is negotiable and usually relatively short compared to a bank loan, for example. Funds invested in working capital heavily depend on industry; therefore, in addition to the capital invested, it is important to focus on the cycle of working capital.

Trade credit is a key component of working capital; what makes it special is its appearance in both the liability and asset side of the balance sheet. A supplier grants trade credit to its customer, creating a gap between the trade and the payment. There are numerous reasons for investing in working capital. The first is the limited capability in adjusting working capital levels, especially payment terms. Second, several firm-specific factors, such as size, age, growth, leverage and industry, are associated with working capital and trade credit (Petersen & Rajan, 1997). Figure 1

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presents the basic idea of how firms’ operations generate working capital and why firms need finance (= cash gap). Figure 1 shows one product from the day a company purchases it to the day a customer pays the company for the product. Cash gap demonstrates the days to be financed with alternative funding sources. In many industries, firms need to invest in inventories because customers want products on hand, such as in a grocery store. Several other business motives, such as the security of supply and credit supply to customers, increase working capital levels.

Figure 1. The Cash Gap (Source: Boer, 1999).

In 1802, Thornton, an early economist, recognised trade credit in the British economy.

Since then, in addition to empirical evidence about trade credit, scholars have developed a number of theoretical models. Schwartz (1974) provided an important, modern economic model of trade credit by proposing financing and transaction as two motives for trade credit. The transaction motive was also developed further by Ferris (1981). Schwartz and Whitcomb (1980) and Brennan et al. (1988) later suggested the pricing motive, and Smith (1987) developed a model based on the financial motive in the presence of financial markets. Mian and Smith (1992) provided theoretical explanations for accounts receivable, and Biais and Gollier (1997) complemented previous literature by giving insights into firm behaviour under agency problems and credit constraints. Wilner (2002) developed a model for firms’ willingness to grant credit to their customers who are in financial distress.

Besides the transactional and financial motives, an additional intention for granting trade credit to a customer is to guarantee product quality (Lee & Stowe, 1993; Long et al., 1993).

Financing from various sources and the use of trade credit constitute a complex puzzle. Demirgüç-Kunt and Maksimovic (2001) named two hypotheses based on previous theories about the use of trade credit—‘the substitution hypothesis’ and ‘the complementary hypothesis’ (explained in Section 2.1.2).

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17 In the supply chain, a firm’s use of its negotiation power to control trade terms may give it better possibilities when managing its working capital. Emerson (1962) developed a model where power relationships are based on dependence. El-Ansary and Stern (1972) further developed power measurement on the distribution channel.

The theory and scoring scale have been tested empirically numerous times in the literature on supply chain management (see, e.g., Emery & Marques, 2011).

In addition to the theory about trade credit, existing research show an interesting setting. On the one hand, the importance of working capital management is justified by the amount of money tied up in working capital, and this is associated with firm performance. Previous studies indicate that a shorter cycle of working capital is associated with better firm performance (Baños-Caballero et al., 2012; Enqvist et al., 2014). If this is the case, firms should speed up their cash conversion cycles or lower their working capital levels. It can be argued that the optimal working capital level is zero, or even negative. In fact, if trade credit could be eliminated, about half of a firm’s working capital could be eliminated as well (Maness & Zietlow, 2005). On the other hand, not only payment durations, but also the levels and cycles of working capital and its components, vary by country (Rajan & Zingales, 1995; Demirgüç-Kunt

& Maksimovic, 2001). A study on G7 countries demonstrates that accounts payable to total assets varied from 13.0% in Canada to 29.0% in Italy (Rajan & Zingales, 1995).

Existing research also shows that firms’ payment behaviour varies by country.

According to a 2013 payment index report, Finland had an average business payment duration of about 20 days, with an average delay of about 10 days (Intrum Justitia, 2013). Corresponding durations were about 65 and 95 days, respectively, in Italy and about 60 and 85 days, respectively, in Spain. European firms have faced liquidity problems in different ways. In 2013, 96% of firms in Greece and 43% in Finland had liquidity problems because of delayed payments.

Furthermore, the literature provides evidence about trade credit mostly from the point of view of one country at a time (Petersen & Rajan, 1997; Deloof, 2003; Fabbri

& Klapper, 2008; Baños-Caballero et al., 2012), but there is little evidence on what causes the observed cross-country differences in this field. The purpose of this study is to fill the gap in the current literature by providing several country-specific explanations as to why working capital management and trade credit differ so much between countries. The previous literature on working capital management and trade credit concentrates more on public companies, but there is little evidence on SMEs.

1.2 PURPOSE OF THE DISSERTATION

The purpose of this dissertation is to study why similar firms in the same industry that are in different countries manage their working capital in such diverse ways.

After the foundation of the European Union in 1993, European countries have

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provided an interesting setting to investigate cross-country differences in SMEs’

working capital management. The European Union has will to harmonise legislation among its member countries. Therefore, these regulations are expected to have an effect on the financial markets and financial decision making. In the sense that national culture in each member country is deep and unique, the effect of legislation might be tardy.

The literature does not provide an answer for observed cross-country differences in working capital management or trade credit between European countries. Using data on European SMEs, this dissertation investigates cross-country differences by providing country-level explanations.

The first aim of this dissertation is to explain the observed differences in the legal and financial environments. This study extends the work by Demirgüç-Kunt &

Maksimovic (2001) by investigating the effect of the legal environment on working capital management as a whole, not just trade credit. The second aim is to provide additional explanations in terms of religion and national culture. The current literature shows evidence on the effect of national culture on other fields of corporate finance, but the effect on trade credit has not been studied before. The third aim is to concentrate on firm behaviour during financial crises in different financial environments. After 20 years of European integration, the financial markets still differ between countries. This study is the first to examine cross-country differences in trade credit behaviour during financial crises in Europe.

In practice, the elements of working capital are strongly connected to one another.

Managing working capital means that a firm must handle the levels of both trade credit and inventories simultaneously (Viskari et al., 2011). However, to gain an in- depth understanding of the decision-making process related to individual elements, these must be studied separately. The first study investigates working capital management as a whole while the other two studies concentrate on the trade credit elements of working capital. In the two latter studies, the focus is on trade credit because the idea is to highlight the B2B relationships in corporate finance in the presence of country-specific issues. The data used in these studies do not give the possibility to observe intra-firm inventory management (see, e.g., Viskari et al., 2011).

1.3 STRUCTURE OF THE DISSERTATION

This thesis has two parts. The first part provides theoretical background of the research. The second part consists of three individual studies. Chapter 2 provides the literature review on the theoretical background in the field of working capital management and trade credit and shows reasons behind the cross-country differences in corporate finance. It also discusses the research gaps that arise from the literature. Chapter 3 covers the methodological issues, starting with data

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19 selection, moving then to the research methods and discussing the limitations of the study. In Chapter 4, the overall results and contributions are presented. Chapter 5 consists of a summary of each of the essays, including the research questions and key results. Figure 2 presents the structure of the dissertation and the role of the individual studies.

Figure 2. Structure of the Dissertation.

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2 LITERATURE REVIEW

This chapter reviews the current theories and evidence on trade credit. It also reviews the literature on corporate finance in the hope of finding some of the reasons behind the observed cross-country differences. The trade credit theory provides explanations, such as financial or business motives, for the existence of trade credit.

Empirical evidence also adds in some additional explanations, such as power structures. Several empirical studies provide explanations for cross-country differences in corporate finance; these explanations are legal and financial development, as well as the cultural environment in a country. In addition, this chapter discusses the research gap based on previous research.

2.1 TRADE CREDIT THEORIES AND EVIDENCE

Several theories provide explanations for the use and offer of trade credit. Some of them are based on business motives while others are based on financial motives.

Some theories extend the understanding of trade credit by providing hypotheses for the role of trade credit in a company’s financial pool, that is, they try to explain the relationship between the use of bank loans and trade credit. The most recent evidence provides information about financing within supply chains. In particular, the focus has been on the power structures between the dealing participants.

Schwartz (1974) identified financial and transactional motives as two reasons behind credit sales. The transactional motive occurs because customers benefit from delayed payment, allowing them to smooth the cash and inventory management while suppliers have an opportunity to sell on credit. The financial motive indicates that by granting finance to customers, suppliers may increase their sales volume.

Additionally, suppliers may have easier access to capital markets than their customers, and extending credit gives suppliers the possibility to utilise their capacity to borrow. This means that firms with poor access to capital markets may be financed by their suppliers. Suppliers can use trade credit as a pricing tool (Meltzer, 1960). Customers who pay for purchases on hand pay less than customers with delayed payments. Customers may find trade credit attractive because the cost is lower than with a bank loan or is at least available. Because of their good banking relationships or easy access to financial markets, suppliers may obtain external financing at a lower cost. The importance of a customer or a small number of customers in the market may motivate suppliers to extend more credit. For example, in financial distress, suppliers may want to help customers survive if the latter group generates large shares of the suppliers’ profits. Credit-constrained customers may be

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21 willing to pay a higher interest rate for trade credit than for a bank loan (Wilner, 2000).

In addition to financial and transactional motives, the literature provides a motive concerning product guarantees. In the case customers are uncertain about the quality of the products, suppliers may offer trade credit to convince customers about the quality (Lee & Stowe, 1993; Long et al., 1993; Deloof & Jegers, 1996; Emery & Nayar, 1998). Although trust plays an important role in financial decision making, such as with credit granting (Guiso et al., 2004), it is likely that product guarantee practices and convincing customers about a product’s quality are perceived differently in different cultures and environments.

If the financial motive is dominant, it leads to the question of whether nonfinancial firms will compete with financial institutions. If this is the case, what is their competitive advantage compared to specialised financial institutions such as banks? A widely accepted explanation is asymmetric information. Asymmetric information between firms and financial institutions can prevent the financing of valuable investments (Stein, 2002). By granting trade credit to their customers, firms can alleviate this problem. In other words, firms may have some private information about their customers, hence an advantage over banks (Biais & Gollier, 1997). Firms use more trade credit when bank credit is unavailable, and suppliers lend to these constrained firms to gain an advantage in terms of information about customers (Petersen & Rajan, 1997).

The transaction theory has drawn criticism as well. Because it is acceptable to expect that transaction technology has advanced, researchers should observe decreased trade credit levels. However, this is not the case; thus, another factor must be behind the reasons for offering or using trade credit (Frank & Maksimovic, 2004).

Trade credit levels and payment durations may increase because of agreed-on payment terms or delayed payments. When researchers use firm-level data from financial statements, they cannot easily separate these reasons. Using contract-level data, Klapper et al. (2012) found that large companies use their bargaining power on both sides of a contract, but evidence about financial motives is less clear.

Most of the trade credit theories are relatively old, and they attempt to explain the reasons for the use and offering of trade credit. Empirical evidence has partly succeeded in confirming the theories used to explain the firm-level variations in the offer and use of trade credit. Empirical studies have mainly focused on one country at a time. Some evidence, however, shows that there are also cross-country variations in trade credit (Rajan & Zingales, 1995; Demirgüç-Kunt & Maksimovic, 2001; Casey

& O'Toole, 2014). Trade credit theories themselves do not explain the cross-country differences in trade credit. The current literature also fails to explain the observed cross-country differences in trade credit, especially in Europe and in the presence of the European Union’s formation and financial crisis of 2008.

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2.1.1 Negotiation power and trade credit terms

Recently, a novel approach has emerged within the trade credit literature: the role of negotiation power in trade credit relationships. When trade credit is issued, it is always a contract between dealing participants. When offering trade credit, suppliers evaluate the creditworthiness of customers together with the former’s own business motives. Trade credit terms cover the payment time and the price. In other words, the credit price may be related to the payment duration, and customers can have a discount by giving an early payment. The power structure in the supply chain can also drive credit terms. The dependence between dealing participants is associated with their power relations, which are important in supply chain management (Emerson, 1962; El-Ansary & Stern, 1972). For example, if a supplier is dependent on a customer, the former offers better trading terms.

Large firms may have a market position that enables them to negotiate better credit terms on both sides of a transaction. For example, smaller firms may have only one supplier from which to choose products or services, or large firms may contribute to significant portions of the supplier firm’s sales. Small supplier firms may be willing to suffer delayed payments, even if this presents difficulties, because of the low risk of credit loss (Collis et al., 2013).

Because a firm is either a supplier or a customer of another firm, the dynamics of the supply chain’s financing and logistics should be considered. A firm must simultaneously manage its inventories, accounts payable and accounts receivable. In an ideal situation, the financing of operations goes through the supply chain, enabling balanced financing and logistics in the economy. If an operator in this chain wants to use its negotiation power to adjust its trade terms to its own advantage, it is harmful or costly for another entity in the chain. Empirical evidence shows a firm with low market power is more likely to extend trade credit (Fabbri & Klapper, 2008), which is the case if it has used trade credit as opposed to a bank loan as a funding source. This highlights the importance of trade credit relationships in supply chains and indicates that firms may offer trade credit easily if they can finance it with trade credit received from a third party. A customer’s position in a market is a significant factor when a supplier considers trade terms. However, the market as a whole significantly influences the amount of trade credit granted (Ng et al., 1999). Credit constrained and smaller firms can face difficulties in markets when negotiating trading terms with larger trading partners. These difficulties may occur on either side of a trade. On the customer side, small and constrained firms depend on trade credit finance, but their suppliers may use power when offering credit. On the supplier side, small, especially new, firms are in a difficult position when negotiating trade terms (Wilson & Summers, 2002). In other words, they use trade credit as a tool for building relationships by granting better terms to larger partners.

The evidence on B2B credit relations indicates that SMEs, which depend on their trading partners, are likely to either use their negotiation power or suffer from their

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23 trading partner’s power. Power structures can be reflected by differences in business environments. For example, the power structures in some countries may drive economic behaviour (Fidrmuc & Jacob, 2010). The literature does not provide evidence whether power structure effects on trade credit depend on the financial or cultural environment in place.

2.1.2 Complementary and substitution hypotheses

The previous literature indicates that SMEs’ external source of funds consists mainly of bank finance and trade credit (e.g., Berger & Udell, 1995; Petersen & Rajan, 1997;

Alphonse et al., 2006). The relationship between bank finance and trade credit is theoretically based on a monitoring advantage (Schwartz, 1974). This means that when financing the customer, a supplier obtains valuable information about its customer. Burkart and Ellingsen (2004) criticised this point of view. First, how is it possible that banks as specialised financial institutions frequently lose this monitoring battle? Second, if suppliers have this advantage, why do they finance their customers based only on the purchase amounts? In addition to the two questions above, it is worthwhile to study the supply chains and how credit is extended through these chains. However, it is difficult to empirically study supply chain financing because it demands unique data about the customer–supplier relationships, such as trade terms.

Asymmetric information can cause credit rationing (Stiglitz & Weiss, 1981). It also creates more problems in small business finance, and small firms tend to depend more on banking relationships (Berger & Udell, 1995). Although banks use monitoring in decision making when granting and pricing each loan, how do suppliers use the information when financing their customers?

If the monitoring motive is dominant, how can the differences in the use of trade credit based on firm type or operating environment be explained (Burkart &

Ellingsen, 2004)? The use of finance from different sources may offer an explanation.

Based on theories of trade credit as a source of funds, trade credit can be perceived as complementing or substituting bank finance (Demirgüç-Kunt & Maksimovic, 2001).

According to the substitution hypothesis, financially constrained firms use trade credit as a substitute for bank finance. This requires a supplier’s access to capital markets, as well as information about a customer’s creditworthiness. Previous studies show that firms with limited access to capital markets used and relied more on trade credit (Biais & Gollier, 1997; Petersen & Rajan, 1997; Alphonse et al., 2006;

Coulibaly et al., 2013). Additionally, firms with access to capital markets offer more trade credit to their constrained customers (Petersen & Rajan, 1997).

According to the complementary hypothesis, firms complement their bank loans with their accounts payable. Theoretical work indicates that a customer firm, once

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monitored by its supplier, may advance to higher levels of trade credit when applying for bank financing (Biais & Gollier, 1997; Burkart & Ellingsen, 2004). In this case, profitable investments can be financed by complementary sources. Alphonse et al. (2006) found evidence for not only the substitution hypothesis, but also for several complementary hypotheses. However, the complementary hypotheses more likely hold true for large firms and firms with discrete funds.

The previous literature has some evidence on the role of trade credit in financing SMEs’ operations during a financial crisis (Casey & O'Toole, 2014). However, the literature lacks information on the simultaneous effect of a financial market’s variation and macro-economic state on SMEs’ financing relationships. Because financial markets are still diverse between European countries, the availability of bank loans could also differ, and this may have implications on the finance sources of SMEs

2.2 CROSS-COUNTRY VARIATIONS IN WORKING CAPITAL AND TRADE CREDIT

This thesis focuses on the cross-country differences in working capital and trade credit. Based on the previous literature (Casey & O'Toole, 2014) and the financial data used in this study, there are substantial variations in trade credit levels between European countries. Figure 3 presents the observed cross-country differences in the ratio of accounts receivable to total asset levels of European SMEs. The observed cross-country variation in trade credit offers an opportunity to provide country- specific explanations for the trade credit used in different countries. For example, geographical reasons do not completely explain these differences.

The literature on accounting and finance provides several explanations for cross- country differences in corporate finance, but there is little proof for the reasons behind variations in trade credit. A country’s legal or financial environment, as well as the national culture, has successfully explained cross-country differences in other areas of financial decision making (see, e.g., Breuer & Quinten, 2009). Demirgüç-Kunt and Maksimovic (2001) studied trade credit in 39 countries and found that a country’s legal and financial systems predict its trade credit cycles. They demonstrated large variations in trade credit among countries, as well as in the association of trade credit with the development of the countries’ legal and financial systems. More specifically, they showed that in a more efficient legal system, firms use more bank debt compared to trade credit. They also noted that in a concentrated banking system, firms financed one another more often. Besides Demirgüç-Kunt and Maksimovic (2001) and Rajan, and Zingales (1995), there are no studies that explain cross-country differences in trade credit, and there are none for working capital management as a whole. In addition, Casey and O'Toole (2014) investigated

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25 European SMEs’ finance sources during a financial crisis, but they provided no explanations for the observed cross-country differences.

Figure 3. Accounts Receivable (%) of Total Assets in European SMEs, 2007–2011. (Data source: Amadeus database provided by Bureau van Dijk)

2.2.1 Legal environment

The relation between legislation and business economics has received a lot of attention in recent decades. La Porta et al. (1998) scaled 49 countries’ legal systems into a numerical format for use in statistical analysis. The mechanism behind the link between corporate finance and the legal environment is based on investor protection and shareholder rights. Agency problems and corporate governance are strongly linked with the legal environment in which a company operates. Traditionally, countries have been divided into common law and civil law categories. Common law emerged in England while civil law was derived from Roman law. Afterwards, three legal families have been recognised in civil law, having French, German or Scandinavian origins. Both shareholders’ and creditors’ protection are strongest in common law countries and weakest in French civil law countries. Scandinavian and German civil law countries fall somewhere in between, and the Scandinavian origin should be treated as separate in corporate finance. The French legal system has spread to Italy, the Netherlands, Spain, Portugal and Belgium, for example, whereas the German legal system has been adopted in Austria, Switzerland and the Czech Republic (La Porta et al., 1998).

La Porta et al. (1998) concentrated on laws related to both corporate insiders and outsiders, such as debtors’ relations. Because of the focus on investor protection, bankruptcy laws play an important role. Single items for shareholders’ rights

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measure voting rights and mandated dividends, for example. Creditor rights are measured by the rights of secured creditors and the required capital reserves, for example. The rule of law, which is often used in corporate governance studies, consists of the efficiency of the legal system, the rule of law and corruption. For example, the legal environment affects accounting practices and earnings management (Ball et al., 2000; Burgstahler et al., 2006), the dividend policy (La Porta et al., 2000; Pinkowitz et al., 2006), cash holdings (Pinkowitz et al., 2006), firm growth (Demirgüc-Kunt & Maksimovic, 1998), capital structure (Demirgüc-Kunt &

Maksimovic, 1998; Fan et al., 2012) and trade credit behaviour (Demirgüç-Kunt &

Maksimovic, 2001).

The reasoning behind the legal environment’s effect on working capital management lies partly in agency problems and corporate governance. The literature has more specific explanations. For example, different types of rights of dealing with participants can drive the payment terms when suppliers need to extend their trade credit to convince their customers about product quality (Lee & Stowe, 1993; Long et al., 1993; Deloof & Jegers, 1996; Emery & Nayar, 1998). On the other hand, a more developed legal system offers a trade creditor better possibilities to repossess collateral in the case of bankruptcy (Frank & Maksimovic, 2004). Another view proposes that financial intermediaries, such as banks, also benefit from an efficient legal system, creating more effective lending markets (Demirgüç-Kunt &

Maksimovic, 2001). In this case, bank loans are more easily available, and trade credit is used less as a substitute for bank financing.

The literature does provide some evidence on the country-level legal developments, explaining cross-country differences in trade credit (Demirgüç-Kunt

& Maksimovic, 2001). There is, however, no evidence in the context of European SMEs or on working capital management as a whole. Additionally, European SMEs have faced regulatory changes during the EU’s enlargement and the financial crisis of 2008. These events could have changed the dynamics of SME financing and B2B relationships; therefore, it is important to study cross-country differences in working capital management and trade credit in the 21st century in Europe.

2.2.2 Financial environment

Early economic theories indicate that countries’ financial development creates economic growth. Empirical work provides evidence that the efficiency of financial markets affects both macro- and micro-level economies. Particularly, industries that depend more on external finance grow faster in more developed financial markets (Rajan & Zingales, 1998). However, a study involving developed G7 countries shows that a country’s financial system alone does not predict the capital structure of firms (Rajan & Zingales, 1995). Because companies depend on external finance, financial markets in the country where the firms operate are expected to influence the

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27 availability of external finance. The SMEs are especially dependent on bank loans (Berger & Udell, 1995). Therefore, the banks’ role in current financial markets is a crucial factor when evaluating the SMEs’ possibilities to obtain financing. The structure of banking markets becomes more important in times of economic recession when banks tighten their loan policies and when firms’ access to financing becomes more difficult.

Economists have provided a theoretical background for the behavioural differences among financial systems. Some theories are based on agency problems;

others are based on risk sharing. Theoretical work indicates that a bank-dominated environment should provide better possibilities for success than a market-based environment; on the other hand, a different type of risk sharing gives relatively low asset returns to banks (Allen & Gale, 1997).

Comparing financial environments mostly focuses on bank-based and market- based financial systems. In a bank-based environment, the banks’ share of corporate finance is greater; however, in market-based countries, larger portions of corporate finance come from the stock markets. The stock markets’ efficiency does not have a straight influence on SMEs’ operations, but the preceding definition provides an adequate understanding about the banks’ role in financial markets. Asymmetric information in capital markets reflects the availability and the cost of financing.

External financing is costly for firms because of the risk of adverse selection (Myers

& Majluf, 1984). A theoretical model indicates that when two companies with different costs of external financing operate in the same financial markets, the one with the lower cost extends credit to the other (Frank & Maksimovic, 2004). The firm with the lower cost of external financing may operate as either the customer or the supplier.

From the SMEs’ perspective, it is important to explore how they can access bank financing in different financial environments, especially in a financial crisis. A financial crisis has different influences on banks and financial markets in various financial environments. Countries with less-concentrated bank markets face the effects of crises heavily than countries with more concentrated bank markets (Beck et al., 2006). The SMEs’ financial constraints increase with the banks’ market power, and the market power effect is higher in a bank-based environment (Ryan et al., 2014).

Evidence from one country (Italy) indicates that the effect of variation in financial markets on the access to financing can be seen long after the financial market’s integration (Guiso et al., 2004). Based on these pieces of evidence and the fact that SMEs depend on bank finance, it can be hypothesised that SMEs’ trade credit behaviour differs between countries. At least, the possibility that the financial environment plays a role in the cross-country comparison of trade credit behaviour should be considered. Because one objective in the EU is to harmonise the legislation of member countries, it can be assumed that the structure of financial markets has changed, and this may affect trade credit and working capital management.

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2.2.3 Cultural environment

In addition to the legal and the financial environments, national culture and religion have been used to explain the cross-country differences in financial decision making.

According to Weber (1920), religion explains people’s economic behaviour. Work and savings have created capital growth, and Protestant countries have been more productive than Catholic nations. The church has played an important role in the education and adoption of values. Additionally, other hardly observed differences among nations may be associated with corporate finance. Hofstede (1980) made a significant opening in cultural comparison by creating the scale of work values in a large international company. This scale of cultural dimensions has become a widely used measure in comparative economics, and it was last updated in 2010. In 1994, Schwartz offered a competitive scale of cultural values. After these works, researchers now use the numeral format of cultural values to explain cross-country differences in financial decision making. It can be concluded that scholars have closed the gap between ‘law and finance’ and ‘behavioral finance’ (Breuer & Quinten, 2009).

Almost any definition of culture can be ambiguous. Everything from opera to sports, as well as from language to law, can be involved in culture. Hofstede and Bond’s (1988) definition is as follows: ‘Culture is the collective programming of the mind that distinguishes the members of one category of people from those of another.’

If scholars want to study culture in the sense of the influencing force it has on behaviour and decision making, they have to define it as something that can be observed. Figure 4 describes the mechanism of cultural influence. Invisible cultural values become visible in people’s behaviour (Breuer & Quinten, 2009).

Figure 4. Impact Chain of Culture (Source: Breuer & Quinten, 2009).

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29 In the era of globalisation, people travel, work or move abroad, and companies operate internationally. Cultural differences possibly stabilise, or at least, cultural values become mixed over time. The theory of convergence indicates that people are willing to harmonise their attitudes, behaviours and the economic system. The opposite theory of divergence indicates that at many levels, the harmonisation of culture is not easy, and differences in cultural values remain a long time after integration (Breuer & Quinten, 2009). When researchers use country-specific cultural measures (instead of personal-value measures), they assume that the latter one is accurate, that is, the cultural environment influences financial decision making.

The literature on cultural finance has extensive evidence of the cultural effect on financial decision making. For example, national culture explains the levels of cash holdings (Chang & Noorbakhsh, 2009; Chen et al., 2015), capital structure (Chui et al., 2002), momentum profits (Chui et al., 2010) (Chui, Titman, & Wei, 2010) and dividends (Fidrmuc & Jacob, 2010). Although national culture works as a predictor of corporate finance behaviour, unsurprisingly, it is also associated with financial systems (Kwok & Tadesse, 2006).

Religion is an important part of culture. The literature offers considerably less evidence for the association between national religion and financial decision making than for national culture and financial decision making. Nonetheless, the idea is not new. In addition to Weber, early economists, such as Karl Marx and Adam Smith, took into account the importance of religious effects on economic behaviour (Baxamusa & Jalal, 2016). There are two kinds of approaches in the literature on religion and economy. The first concerns personal values and is based on the idea that religion affects people’s attitudes and behaviour. The second approach is based on the idea that a country’s principal religion influences community values in general, therefore guiding people’s thinking and behaviour.

In the first case, the literature has interesting results about individual-level behaviour. For example, Hong et al. (2001) found that people attending church are more likely to invest in stock markets. Some researchers report the differences between Catholic and Protestant households’ economic behaviour. Catholic households are more risk-averse than Protestant ones; Protestants believe in taking more responsibility for their wealth and invested more in stock markets (Renneboog

& Spaenjers, 2012). The management style may be a result of personal religious affiliation. Baxamusa and Jalal (2016) found that firms headed by Catholic chief executive officers (CEOs) incur less debt, and Protestant CEOs invested more.

In the second case, the literature indicates that a country’s principal religion is a crucial aspect of financial decision making. It is natural that national religion would be related to other country-specific factors. According to La Porta et al. (1999), religion is linked to government efficiency, but the association is sensitive to the legal environment. On the other hand, a country’s main religion explains the cross-country variations in creditor rights better than culture or legal origins, for example (Stulz &

Williamson, 2003).

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Previous findings on the association between national culture or religion and corporate decision making indicate that there is the possibility that the observed cross-country variation in trade credit can partly be explained by national culture or religion. The literature does not provide any evidence for the relationship between national culture and trade credit. European countries provide an interesting field of research in this context. The European Union has made attempts to harmonise legislation; more importantly, it has made the movement of people and capital easier.

If the theory of divergence is dominant, it can be expected that national culture is bounded into a country, and the culture does not easily follow, for example, with CEO when changing country. In that sense, the national culture can still explain the cross-country differences in corporate finance and trade credit.

2.3 RESEARCH GAP

The current literature provides some evidence for cross-country differences on trade credit. It indicates that there are cross-country variations in the trade credit behaviour of European SMEs (Collis et al., 2013; Casey & O'Toole, 2014). The literature does not, however, show evidence for the reasons behind this variation. To my knowledge, there is only one study that attempts to explain these differences by diverse legal and financial environments. Demirgüç-Kunt & Maksimovic (2001) provided some evidence on the association between legal and financial development and publicly traded firms’ trade credit. This thesis expands the literature by providing evidence on the association between the legal and financial environment and cross-country differences in working capital management as a whole. In addition to this, this study is the first one to explain the cross-country differences in working capital management and trade credit in European SMEs. European SMEs is an interesting setting because of European integration. Previously, the effect of integration through the change of legislation and financial markets together with financial crisis on trade credit has mainly been studied in one country at a time.

Furthermore, national culture and religion have successfully explained the cross- country differences in other areas of corporate finance, but not in trade credit. It is interesting to study the role of national culture in the trade credit of European SMEs after and during the integration of Europe. In fact, the current literature about trade credit is quite old, and the current study provides up-to-date evidence on trade credit behaviour in the presence of the latest financial crisis and European integration.

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3 RESEARCH DESIGN

This section describes the data and research methods of this thesis. First, the data selection is justified by the focus, that is, European SMEs. Second, the data are described in terms of basic statistics, such as the number of countries, the number of observations and years included in the analysis. In addition, the data sources are reported. Third, the methodology used in this study is justified by the data and the research questions. Finally, the methodological limitations are discussed.

3.1 THE DATA

The main data used in this thesis consist of the financial data from European SMEs.

These firm-level data are complemented with country-level data, which include measures for legal and financial development, religion and cultural environment and macro-economic data, such as gross national product (GDP).

3.1.1 European context

This thesis concentrates on European countries during financial crises and the expansion of the European Union (EU); the thesis also expands the scope of previous studies by adding several factors that explain the previously observed cross-country variations in trade credit. In addition to measures of legal and financial systems, cultural and religious differences are incorporated. Europe is an interesting region to study in terms of corporate-finance-related issues. The EU was founded in 1993, and now comprises 28 member states, with 19 of them sharing the euro as their common currency. From an economic point of view, this means easier external trade among the member states, a strong and stable currency and stable interest rates. Because the member countries have different histories and cultures, it is worthwhile to study how firms in these countries adapt to shared regulations.

3.1.2 SMEs’ role in trade credit chains

All individual studies of this dissertation involve SMEs. The definition of SMEs follows the EU definition, and the applied limits are (a) staff (10–250 employees) and (b) either turnover (2–50 million euros) or balance sheet total (2–43 million euros).

The importance of SMEs in the economy is widely documented. The SMEs’ share in the GDP and their significance in creating economic growth and employment are undisputed (Beck et al., 2005). The increasing internationalisation of SMEs is one of

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the factors that should be considered when studying firms that finance each other.

Although large firms’ investors are usually separate from management, in the case of small firms, the owner and the manager are the same person. Although the owner–

manager relationship is an essential part of the agency theory, in the case of a firm with a single owner–manager, the agent and information asymmetry problems only concern the relationships with the firm and stakeholders, such as banks and other firms. In B2B trading, this would be very different in a one-person company compared to large ones. For example, in Finland, the supplier pays a lot of attention to the owner–manager–customer’s way of taking on a project (Collis et al., 2013). A personal customer–supplier relationship is a vital way to evaluate trust when granting credit. It is also documented that SMEs face difficulties in financing their operations and growth during and beyond the start-up phase (Collis et al., 2013). This makes the role of trade credit crucial for SMEs.

3.2 DATA DESCRIPTION

The study concentrates on cross-country differences in SMEs’ trade credit behaviour.

The firm-level data cover up to 35 European countries, depending on the country- level variable in question. For example, the measure for a country’s legal development is available in 13 European countries. The financial environment information is available in all countries. Hofstede’s cultural values have been evaluated for 31 European countries, and Schwartz’s cultural measures have been assessed for 27 European countries. Depending on the financial data requirements, the number of countries varies in the analyses. For example, some countries lack continuous annual data for SMEs. The selected years in the analysis are from 2003 to 2011, depending on the research question.

The number of companies in the data varies from 39,595 to 126,593, and the number of firm-year observations varies from 197,975 to 509,923. The financial data are obtained from the Amadeus database provided by Bureau van Dijk. Country- level variables are taken from different sources. The countries’ bank loan statistics come from the International Monetary Fund (IMF), and market capitalisation statistics are provided by the Thomson Reuter Datastream. Countries’ GDP values are obtained from the World Bank database. The major religion of each country comes from the World Factbook of the Central Intelligence Agency (CIA).

Religiousness is taken from Special Eurobarometer 73.1 ebs341 and measures the percentage of people who believe in God. Cultural variables come from the Hofstede Centre and from Schwartz’s original data (Schwartz value survey [SVS], 1998–2005).

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3.3 METHODOLOGY

Although the study concentrates on cross-country variations, the main analysis is based on firm-level data rather than country-level data. In other words, the importance of firm-level variations in trade credit is considered. The analysis is based on a mean comparison and multivariate modelling. Both the firm- and country-level issues are controlled. In robustness tests, the country–industry-level sample and the random sample are used to confirm the results. The dependent variable in the analysis is formulated by the research question. In all studies, the interest in trade credit behaviour is related to the question of how much firms’ assets are bound to working capital or accounts receivable or how well firms can finance their operations with trade credit. Additionally, in the first paper, working capital management is measured by the ratio of working capital to assets and by the cash conversion cycle.

In the third paper, trade credit cycles are considered for a better understanding about a crisis’s effect on the different types of companies and environments.

For the robustness check, there are additional analyses provided for each research question. Additional analyses include the two-stage least squares (2sls) instrumental variable method, fixed- and random-effect regressions and the propensity score matching, for example.

3.4 LIMITATIONS

The main methodological limitations in this thesis result from data availability.

Although the Amadeus database covers a large set of SME financial data, it is not possible to observe trade terms between firms. Therefore, trade credit behaviour is estimated only using financial statement data, and there is no information, for example, whether a large amount of trade credit is the result of trade terms or delayed payments.

Another limitation is the availability of country-level information about legal development, which is available for 13 European countries in the dataset.

Ethical issues have been taken into consideration throughout the research process, as suggested by Kuula (2006). The data used in the analysis do not include any confidential material. All data have been publicly disclosed and are available from the abovementioned data sources so that the analysis can be repeated.

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4 OVERALL RESULTS AND CONTRIBUTION

This thesis contributes to the existing literature in several ways. Most importantly, it provides new explanations for the observed cross-country differences in trade credit and working capital management. Furthermore, the focus of this thesis is on European SMEs, which are rarely studied in working capital and trade credit literature. During its integration, the European has attempted to harmonise the legislation and financial markets between member countries. This thesis expands the knowledge on working capital management and trade credit behaviour of European SMEs during the European integration and financial crisis of 2008. This chapter summarises the most important results of three separate studies. After that, the contribution and implications of the thesis are discussed.

4.1 RESULTS

Trade credit has become an area of interest because it is a critical source for funds and because of the known association between effective working capital management and firm profitability. A firm’s possibility to manage working capital or trade credit is limited, however. Both firm-level and environmental factors cause these limitations. This dissertation aims to provide new evidence about the cross- country differences in trade credit and working capital. Previous studies demonstrate that trade credit levels and cycles vary among countries. These studies also provide possible explanations in terms of the legal and financial environments.

The environmental differences provide good explanations for cross-country differences in trade credit. This dissertation completes previous work by offering new evidence regarding the country-level effect on trade credit. The first of the three studies concentrates on the effect of legal and financial development on working capital management and trade credit behaviour. The second extends the current knowledge in this area by offering other possible explanations in terms of national culture and religion. The third study focuses on trade credit behaviour and power structures during financial crises in different financial markets.

4.1.1 Essay 1. Role of the legal and financial environments in determining the efficiency of working capital management in European SMEs

The first study provides new explanations for cross-country variations in working capital management and trade credit. To the author’s knowledge, the current study is the first to examine cross-country differences in working capital management as a whole. Additionally, it focuses on SMEs, which are rarely studied in cross-country

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35 setups in the field of trade credit. Previous literature indicates that a country’s legal development and financial system explain firm behaviour. The data consist of the financial statements of SMEs in 13 EU-member countries during the 2003–2011 period. The study covers both country–industry-level data and firm-level data. The comparative analysis uses the t- and Wilcoxon–Mann–Whitney tests, as well as linear ordinary least squares (OLS).

The financial environment itself provides a good explanation, but the effect depends on the legal environment. The results indicate that firms operating in a safer legal environment have efficient working capital management. Moreover, firms operating in a market-based system as opposed to a bank-based system have shorter cash conversion cycles, and public companies can take advantage of this environment better than private firms. Interestingly, the market-based environment causes lower trade credit levels only in countries with French legal origins. The results provide new information about cross-country differences in several ways. The legal and the financial environments are associated with working capital management in European SMEs. However, these associations are not straightforward in the sense that an environment’s effect on trade credit depends on both firm and environment types. These findings provide new evidence on the environmental effect on trade credit but raises questions about additional issues and whether firm-specific possibilities to manage trade credit differ among countries.

4.1.2 Essay 2. Religion, national culture and cross-country differences in the use of trade credit: Evidence from European SMEs

The second essay provides unique explanations for cross-country variations by adding in cultural elements. The current literature provides some evidence of the relationship between religion or national culture and financial decision making. This study shows new evidence about the relationship between national culture or religion and trade credit. The use of national cultural value measurements offers the possibility to expand the number of countries to 35. The current study uses both Hofstede’s and Schwartz’s cultural values, as well as the information about each country’s primary religion, to evaluate the cultural effect on trade credit behaviour.

Culture provides an additional explanation for trade credit. Several cultural variables are associated with trade credit. Particularly, the main religion in a country gives a straightforward explanation for trade credit levels. Firms operating in Catholic countries hold relatively higher trade credit levels than firms in Protestant countries. This difference remains after controlling for other cultural values, legal and financial environments and other country-specific factors, such as GDP.

Interestingly, some of the cultural effects are different between Catholic and Protestant countries. Religiousness, measured by the percentage of people believing

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in God, for example, is positively connected with trade credit levels only in Catholic countries.

4.1.3 Essay 3. Trade credit behavior of European SMEs during the 2008 finan- cial crisis

The purpose of the third essay is to discover whether different types of firms behave differently in various financial environments during times of crisis. The literature indicates that credit-constrained firms use more trade credit, and firms with negotiation power may wield it to take advantage when trading deals. Now, the question is whether these firm-level factors work differently in different financial environments during a crisis. The sample consists of SMEs from 23 European countries. The countries are grouped under bank-based or market-based categories.

Because the goal is to compare both the environment and firm types, for a straightforward analysis, firms are also classified by their characteristics. Firm size is a proxy for negotiation power, and each firm’s financial constraint is estimated using several attributes. On average, trade credit levels decrease during the years of crisis, and the reduction is greater in a bank-based environment. Financially constrained firms fund their operations with trade credit in times of crisis, especially in a bank- based environment. An interesting finding is related to firm size and trade credit cycles. Large firms have longer paying cycles in a bank-based environment and shorter collecting cycles in a market-based environment. Thus, different financial systems offer different possibilities for large firms to adjust their trade credit cycles.

4.2 CONTRIBUTION

The current literature provides a theoretical background and evidence on the motives for using and offering trade credit. The potential reasons behind the observed cross- country variations in working capital and trade credit have been studied in less detail, however. The main purpose of this dissertation is to fill this literature gap by proposing country-level explanations for the previously observed cross-country differences. These explanatory factors are applied from accounting and finance literature, and they measure European countries’ legal and financial developments, as well as national culture and religion. The sample of the studies in this dissertation consists of European SMEs, which are rarely used in the literature on international trade credit.

The first study of this dissertation provides new evidence on the association between the legal environment and working capital by examining the working capital management as a whole in European SMEs and focusing on the financial environment’s effect in countries with different legal origins. This is important

Cross-country differences in trade credit

Dissertations in Social Sciences and Business Studies

MARKUS MÄTTÖ

CROSS-COUNTRY DIFFERENCES IN TRADE CREDIT uef.fi

MARKUS MÄTTÖ

CROSS-COUNTRY DIFFERENCES IN TRADE

CREDIT

Markus Mättö

CROSS-COUNTRY DIFFERENCES IN TRADE CREDIT

ABSTRACT

TIIVISTELMÄ

ACKNOWLEDGEMENTS

CONTENTS

LIST OF TABLES

LIST OF FIGURES

1 INTRODUCTION

1.1 BACKGROUND

1.2 PURPOSE OF THE DISSERTATION

1.3 STRUCTURE OF THE DISSERTATION

2 LITERATURE REVIEW

2.1 TRADE CREDIT THEORIES AND EVIDENCE

2.2 CROSS-COUNTRY VARIATIONS IN WORKING CAPITAL AND TRADE CREDIT

2.3 RESEARCH GAP

3 RESEARCH DESIGN

3.1 THE DATA

3.2 DATA DESCRIPTION

3.3 METHODOLOGY

3.4 LIMITATIONS

4 OVERALL RESULTS AND CONTRIBUTION

4.1 RESULTS

4.2 CONTRIBUTION