Formation And Diffusion Mechanism Of Private Enterprises’ Financial Risk

Faced with external shock such as the global financial crisis, macroeconomic environment is sharply volatile, Chinese private enterprises, especially export-oriented enterprises, suffered from great shock, caught in serious operational difficulties and financial distress. Highly levered firms are more vulnerable to the credit supply shock, funding chain tightened and financial risk increasing. As a matter of fact, firm bankruptcy is rather common throughout the world, WorldCom, Enron, Global Telecom, LTCM, Lehman Brothers, Xinjiang Delong, Jianglong Holdings, Wuxi Suntech. In short, firms’sustainable operational crisis is a significantly theoretical and practical proposition.With economic globalization and regional integration, firms trade frequently, resulting in fund ties, such as trade credit, bank loan, co-guarantee loans, internal capital market in group firms, strategic alliances and joint venture as well. By nature, contact is a double-edged sword. On the one hand, these financial links help firms to save transaction costs, risk diversification, and mitigating financial constraint. On the other hand, the financial relationship between firms is very fragile, especially during severe adverse shock. Initial small shock transmits and amplifies, resulting in contagious defaults and even systematic financial crisis.With the logic analytic framework of "credit network-risk sharing-default correlation-systematic diffusion of financial risk", we indentify the formation and diffusion mechanism of private enterprises’ financial risk, in order to establish early warning and long-term control mechanism of private enterprises’ financial risk. Firstly, we use dynamic logit model to empirically investigate the main determinants of private enterprises’ financial risk. Evidence demonstrates that cash flow, debt and debt structure, debt maturity, and asset tangibility exert significant effect on private enterprises’ financial risk. Further evidence shows that cash flow has long-term ability in forecasting financial distress, yet short-term debt is a sound short-term predictor. Secondly, we indentify the financial risk diffusion mechanism based on counterparty. This study analyzes in depth the private enterprises’ guarantee circle crisis in Zhejiang Province, depicting private enterprises’ guarantee risk diffusion mechanism. Finally, banks’learning from types of other banks may lead to coordination failures. We use dynamic games technique to focus on the diffusion mechanism of private enterprises’ financial risk. Bank strategic complementarities and self-fulfilling belief are the main diffusion mechanism of private enterprises’ financial risk.We make contributions on research on prediction and diffusion of private enterprises’ financial risk in three aspects.Firstly, we use dynamic logic model to empirically investigate the main determinants of private enterprises’ financial risk. Evidence demonstrates that cash flow, debt structure (debt and maturity structure) have significant prediction ability of enterprises’ financial risk. At long prediction horizon, continuous predictor variable such as cash flow from operation becomes more important. Our study enriches related research on enterprises’ investment decision, financing decision, choice of capital structure and cash policy.Secondly, we indentify financial risk diffusion mechanism based on counterparty. Based on private enterprises’ guarantee chain in Zhejiang Province, we focus on mechanism, pattern, characteristics and risk of co-guarantee loans. And combined with representative guarantee chains, We describe in depth the diffusion mechanism of co-guarantee loans of private enterprises. The study demonstrates that bank panic run is the main driver of guarantee circle crisis. We also put forward the games analytic framework of private enterprises’ co-guarantee loans, so as to further understand co-guarantee loans mechanism and prevent risk.Finally, we indentify the financial risk diffusion mechanism based on banks’ expectation. By means of the learning process of creditors, that is, belief updating of the types and actions of other creditors, creditor coordination failures make enterprises susceptible to run. Thus, through the learning process of co-creditors, one enterprise suffering from financial risk might lead to the probability of another enterprise encountering financial crisis increasing. In general, this is information-based financial risk diffusion.