"The COVID-19 pandemic crisis and corporate finance" Ellul, Andrew, Isil Erel, and Uday Rajan Flashcards
How severe was COVID-19 compared to the 2 other biggest shocks to US economy in the 21st century?
The COVID-19, out of the three shocks to the US economy (COVID, GFC and 9/11), is seen as the most severe - expected global GDP shrunk is to be around 5%.
Hence, the authors acknowledge the importance of it on corporate finance and ultimately write this paper to quantify impact of COVID shock.
How did corporations finance themselves?
● Banks
○ 1st line of defense. Firms drew funds from preexisting lines of credit at an unprecedented scale, large banks providing the most funding.
○ Banks now are in much more stable position to deal with shock than during GFC.
● Firm behavior
○ The firm whose bonds have been downgraded (“Fallen angels”) are most likely to aggressively borrow.
○ Among all, BBB-rated and non-investment-grade firms mostly drew down their bank credit lines.
○ AAA-to A-rated firms maintained access to public capital markets and issued bonds and equity.
● Bond market
○ There was a substantial increase for bonds rated A or higher and rated BBB or lower.
○ Firms issued bonds with longer maturities during the crisis while equity issues slowed.
○ Fed’s corporate bond purchases helped raise money cheaply (Talis reading).
Overall, Financial markets functioned smoothly during the early part of the crisis in the sense that firms were able to raise financing quickly.
What are the best policies that should be put in place to help firms recover?
Debt should be raised in the short term because the long-term debt will lead to debt overhang, when the entity cannot take any more debt to finance the future project, and this in turn will slow the recovery.
What was the impact of the pandemic on firms?
● Large profit decrease and equity erosion (research about Italy)
● Big amount of firms had negative net worth –> risking unemployment
● Subsidized (by Fed) financing creates the problem of zombie firms i.e. the companies that survive on credit
Which stocks suffered the least price decreases?
○ Firms in the United States with high ES scores suffered lower stock price declines compared to other firms
○ Customer loyalty translated into higher operating profit margins of firms with high ES scores, even at a time when the economy as a whole was suffering through the first stages of a contraction
○ The volatility of stock returns was lower for firms held by investors with a preference for ES score
