Positive Externalities of Credit Ratings: Customer Downgrades, Supplier Performance, and Investor Perception

ABSTRACT This study examines how a change in information about a customer's creditworthiness affects responses to a supplier's financial information, focusing on earnings response coefficients (ERCs). We use a major customer's credit rating downgrade (CCRD) as a change to the information environment. We find that suppliers' ERCs are weaker following a CCRD, consistent with reduced persistence and growth opportunities. We find evidence supporting investors' reactions: after the downgrade, suppliers are more likely to experience a deterioration in customer relationships, reduced operational efficiency and investment and fewer growth opportunities. These findings highlight a positive externality of credit ratings that are created for debt holders, but are also useful to other stakeholders.