Credit Risk and Corporate Finance --A Credit-Rating Approach--

Naoko Nonoyama

Summary

In line with ongoing financial reforms， rapid progress is being made in building up the domestic corporate bond market. The focus is shifting from deregulating the primary market to developing the secondary market.
Development of the corporate bond market will increase the share of market-based financial transactions and lead to the development of the market mechanism. At the same time， along with the development of other markets， such as the swap market， the corporate bond market will promote price arbitration among different financing methods. As a result， the borrower's creditworthiness will increase in importance ultimately as a factor in determining financing cost.
Looking at the current status of external financing of listed companies (the value of loans and corporate bonds) from the viewpoint of ratings， we found that (1) the distribution of the amount is concentrated among double-A， single-A， and unrated companies; (2) the ratio of financing by corporate bonds is significantly lower for non-manufacturing industries than for manufacturing industries.
Factors that will alter the market in the future are (1) financing activities of companies rated single-A or higher who enjoy favorable financing costs through issuing corporate bonds; (2) financing activities of non-manufacturing industries， who have a low ratio of corporate bond financing; and (3) changes in the financing activities of unrated companies.
When we classified unrated companies based on ratings criteria， we found that a certain number of them were financially sound enough to qualify as investment-grade companies. By combining with external financing of already-rated companies， the external financing curve became bell-shaped with double-A， single-A， and triple-B rated companies at the center. Furthermore， the slope of the bond financing ratio became even more tightly linked to ratings.
While our analytical results are influenced by the accuracy of our rating formula， considering (1) the trend in the corporate bond market toward unsecured instruments， (2) the lifting of the ban on short-term and medium-term bonds， and (3) the possibility of easing or abolishing remaining regulations， the distribution of companies based on creditworthiness contains factors that will change the market structure in the future. On the other hand， by promoting market segmentation based on creditworthiness， the development of the corporate bond market will put pressure on corporate managements to pay greater attention to their market valuation.