Why do firms use so much trade credit?

Seminar paper from the year 2009 in the subject Business economics - Banking, Stock Exchanges, Insurance, Accounting, grade: 1,5, European Business School - International University Schlo Reichartshausen Oestrich-Winkel (EBS Business School), language: English, abstract: Trade credit is one of the most important forms of financing for companies. In most European countries, more than 80 % of daily business is financed via trade credit. In Germany, this figure adds up to 94 % of daily business transactions, in Poland up to 92 % (Table 1). Moreover, trade credit represents up to 35 % of the total assets of companies. (Euler Hermes S.A., 2006). Additionally, in more than 95 % of all Belgian companies, accounts payables are present (Huyghebaert, 2006). Ng, Smith, & Smith, (1999) report that during the 1990s, commercial debt adds up to about 2.5 times the amount of the combined value of public debt and primary equity issues. Economically seen, these figures show the importance of trade credit. Considering, however, the high implicit interest rates of trade credit compared to institutional credit,this raises questions: Why is trade credit used, when at the same time lower interest rates for financing could be obtained by specialized institutions? What kind of advantages do suppliers receive by allowing their customers to pay after delivery (i.e. trade credit)?Many theories on trade credit are to be found in literature. This paper targets on showing the most important theories, concentrating on those which explain the wide extension of trade credit in the economy.