The Trends of Corporate Bond Issuance and their possible explanations. A study on the bond issues by public firms in Belgium, France and Germany

This article investigates corporate bond issues in Belgium, France and Germany, with a particular focus on the propensity to secure these issues.  Differences are observed across countries and over time. This study presents various arguments explaining these differences by building on existing literature, including the creditor rights framework within the ‘law and finance’ strand.

1. Introduction

Different legal regimes often lead to different outcomes for creditors. In some jurisdictions the first creditor to enforce through debt seizure obtains a priority right over the seized assets (e.g., Germany), while in other regimes individual enforcement operates differently (e.g., Belgium). The outcome of individual enforcement can also vary depending on the nature of the seized good(s) (e.g., France).

However, a creditor can obtain the similar outcome through debt contracting: priority over a certain asset and protection against dilution by other claims. This insight inspired an analysis of the propensity to secure debt in Belgium, France and Germany. The legal differences that are present in these countries, could lead to a different ex ante behavior by creditors when structuring debt. Bond issues were selected for exploration due to the easy accessibility of the necessary information within the data source. Aside from looking into the propensity to secure bond issues, the analysis aims to explain the overall trend in bond financing by public firms.

The paper is heavily inspired and influenced by the recent paper in the Journal of Finance by Benmelech, Kumar and Rajan, who performed a similar analysis in the US market.⁽¹⁾

2. Data sources and selection

The Refinitiv Eikon database by LSEG serves as the primary data source, providing comprehensive historical and current financial data for over 175 countries across 60 markets. Two datasets are constructed, focusing exclusively on public firms due to their higher data reliability and market-based incentives.

The first sample includes all active and inactive domestic bond issues of public firms in Belgium, France, and Germany. The second dataset consists of Eurobonds, both active and inactive, issued by public firms incorporated in these countries. Eurobonds are defined as bonds issued in multiple markets, allowing firms to extend their reach beyond domestic markets.

A total of 16,356 domestic bond observations and 71,931 Eurobond observations are analyzed, with data exported from Eikon up until a cut-off date of April 4, 2024. The first documented observations for Belgium, France, and Germany date back to 1979, 1971, and 1930, respectively. Issues are sorted according to the variable 'seniority,' indicating whether the issues are secured. No distinction is made between junior or senior bonds, as these differences do not legally encumber the underlying asset itself.

3. Methodological approach

The data analysis process follows a two-fold approach, with findings discussed on a country-by-country basis. The examination begins with summary statistics to provide initial insights into the dataset. Next, the focus shifts to exploring time series, to try to identify  trends and patterns over time.

4. Key findings and results

Five key findings are identified, accompanied by theoretical explanations for each, with insights drawn from existing literature to support the arguments.

4.1. Low prevalence of secured bonds in Belgium and France

In Belgium and France, a very small percentage, 2,92% and 0,08% respectively, of bond issuance is secured, as opposed to Germany, where 21,63% is secured. There exists no single conclusive argument due to a panoply of factors being at play in the different markets, but several plausible arguments have been proposed in the literature.

One key reason may be that securing bonds is too costly for firms. The process of pledging collateral entails not only standard transactional costs, such as lien filing and asset appraisal fees, but also significant opportunity costs. Maintaining both operational and financial flexibility is often a priority for firms and they don’t want to compromise this by pledging assets. Once assets are pledged as collateral, firms must either retain control over these assets or seek permission from bondholders for future actions. Additionally, keeping assets unpledged may offer substantial value in the future, because it could offer financial breathing room during tougher periods.

A complimentary explanation for the low prevalence of secured bonds is the relative decline in tangible collateral available for firms to pledge. This shift is attributed to changes in the nature of firms, particularly the rise in intangible assets such as patents, trademarks and brand names. These intangible assets are generally more difficult to use as collateral. The proportion of tangible assets, like property and equipment, has decreased. This entails that firms with fewer hard assets face higher liquidation costs, making collateralization more burdensome. The decline in asset tangibility may explain the lower share of secured bonds.

Benmelech et al. (2024) suggest that greater trust in accounting and bankruptcy processes has increased lender confidence in reported cash flows, which leads to decreasing importance of secured debt. Consequently, one explanation for the low prevalence of secured bonds in countries like Belgium and France could be the increased trust in these procedures, potentially driven by European harmonization efforts.

The last suggested explanation may relate to the data screener used, which focuses exclusively on public firms. These firms tend to be larger and face fewer financial constraints as compared to smaller firms, reducing the need to post collateral. Additionally, public firms are audited and they must disclose their books, decreasing opaqueness and thus the incentive to secure.

4.2. Larger propensity to secure in Germany

Bonds are more often secured in Germany than in Belgium and France (21.63%, 2.92% and 0.08% respectively). An argument for this difference can be found in the law and finance literature, which suggest that cross-country differences may be influenced by variations in creditor rights. Stronger creditor rights can lead to more secured debt, as for example more risky or more constrained borrowers can obtain finance due to secured creditors having more power in court. Stronger creditor rights could also justify the additional costs that secured debt imposes.

A key measure for comparing creditor rights across countries is the creditor rights index developed by LLSV (1997, 1998) and updated by Djankov et al. (2007), which scores countries from 0 to 4 based on the strength of their legal protections for creditors.

The larger propensity to secure in Germany can be explained by stronger creditor rights. Germany scores 3 on the creditor rights index, Belgium 2 and France 0. Germany has the highest proportion of secured bonds, followed by Belgium, with France having the smallest.

This argument is not conclusive, as the law and finance literature battles with heterogeneity problems that are not absent here.

4.3. A rise in bond financing in all markets of interest 

A rise in bond financing is observed in all three markets, indicating increased activity in their bond markets, which cannot solely be attributed to economic growth and inflation.

The increase in bond financing is likely due to its resilience during recent recessions. Following the Global Financial Crisis, a shift from bank financing to bond financing occurred in Europe, with a similar but more moderate shift after the COVID-19 Crisis. These crises contributed to the long-term expansion of bond markets in these countries.

4.4. Decline in secured debt issuance in Germany

Over time, Germany shows a decline in the proportion of secured debt. The same factors contributing to the low propensity to secure debt in Belgium and France, may also explain this decline: hidden costs, the rise of intangible assets and the increased trust in bankruptcy procedures and accounting standards.

4.5. Eurobonds are rarely secured

The fact that secured domestic issues are relatively low in all three countries, can be due to the fact that assets are already encumbered by other outstanding debt, such as Eurobonds. Therefore the analysis is extended to Eurobond issues.

The percentage of secured Eurobonds is even lower. This lower propensity to secure Eurobonds compared to the domestic bonds in the three markets may stem from their higher liquidity, which leads to a perception of lower risk. Studies suggest that reduced risk decreases the need for collateral, and securing Eurobonds may not fit the fixed instrument strategy. Additionally, the enforcement of collateral can be burdensome for non-domestic investors, resulting in a preference for internalizing risk. This could for example be done in the pricing mechanism by rewarding a higher risk with a higher price, instead of mitigating the risk by pledging assets.

5. Conclusion

The analysis revealed that only a small percentage of bonds are secured in Belgium and France, while Germany exhibits a higher propensity to secure debt, despite a noticeable decline in secured bond issuance over the past three decades. Cross-country differences can be attributed to variations in their legal regimes. Literature indicates that stronger creditor rights, as seen in Germany, generally correlate with a higher likelihood of securing debt. Despite these differences, all three bond markets have experienced a rise in bond financing over the last few decades, reflecting a long-term trend towards bond financing as a response to recent economic crises.

References

(1) Benmelech, E., Kumar, N. & Rajan, R. (2024). The decline of Secured Debt. The Journal of Finance, 79(1), 35-93. https://doi.org/10.1111/jofi.13308