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More Formally, Graham And Harvey (2001) Find That Credit Ratings Are The ...

More formally, Graham and Harvey (2001) find that credit ratings are the second highest concern for CFOs when determining their capital structure, with 57.1% of CFOs saying that credit ratings were important or very important in how they choose the appropriate amount of debt for their firm (Kisgen, 2006, p. 1035).
The ‘rating triggers' are a condition that is attached to some financial assets of the firm, for example their bonds. Rating or credit triggers were introduced in the late 1980s. At that time the investors did not want to deal with risky borrowers and turned to ‘risk-free' investments such as government and state organizations bonds. The supply / demand equilibrium was disturbed, as the risky borrowers started to increase their premiums paid for the borrowing in order to attract demand. To restore the equilibrium the ‘rating triggers' were designed. The credit or rating triggers and other trigger mechanisms enable the lender to be protected in theory where the borrower's creditworthiness deteriorates. Several types of clause may be identified in this category:
Step-up coupons, which provide for automatic increase of the spread if the borrower is
downgraded.
Collateral clauses, which provide for pledging of certain assets to lenders where the
borrower's rating falls.
Immediate repayment of the debt: the borrower is supposed to repay the entire debt to the creditors as soon as his rating falls below a predetermined level (usually from investment to speculative grade).
Margin calls (this clause is usually implemented in third-party contracts or in the case of a guarantee, where the guarantor's rating is not deemed sufficiently sound by its counterparties) (Wiley, 2005 p. 26).
However, a number of criticisms have been pointed out about the rating triggers. It is argued that if the firm is in financial trouble, than the credit triggers will allow borrowers to request their money at the same time, which will push the firm further into an abyss of financial trouble. This in turn is harmful for both the borrowers and the lenders. For example, if a company X finds itself in a financial trouble because the oil prices have jumped sharply then the rating triggers will start working, as the rating agencies downgrade the firm. If the oil prices than decrease to their normal levels, the company would have had a chance to regain its financial strength. However, since the triggers have worked, the lenders start to ask for their money back. The company becomes illiquid and its financial position deteriorates, despite favorable economic conditions.

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