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Do Firms Target Credit Ratings or Leverage Levels?

Published online by Cambridge University Press:  19 October 2009

Darren J. Kisgen
Darren J. Kisgen*
Affiliation:
Carroll School of Management, Boston College, 140 Commonwealth Ave., Chestnut Hill, MA 02467. kisgen@bc.edu
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Abstract

Firms reduce leverage following credit rating downgrades. In the year following a downgrade, downgraded firms issue approximately 1.5%–2.0% less net debt relative to net equity as a percentage of assets compared to other firms. This relationship persists within an empirical model of target leverage behavior. The effect of a downgrade is larger at downgrades to a speculative grade rating and if commercial paper access is affected. In particular, firms downgraded to speculative are about twice as likely to reduce debt as other firms. Rating upgrades do not affect subsequent capital structure activity, suggesting that firms target minimum rating levels.

Type
Research Articles
Information
Journal of Financial and Quantitative Analysis , Volume 44 , Issue 6 , December 2009 , pp. 1323 - 1344
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2009

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