Reverse Trade Credit or Default Risk? Explaining the Use of Prepayments by Firms

This paper provides a detailed empirical study on the use of advance payments by firms. It establishes that some trade credit theories can also be applied to prepayment. The results, obtained from a large panel data set, suggest that financially stronger customers fund the production of their financially weaker suppliers. At the same time, advance payments also occur as a response to transaction risk (in both domestic and international transactions). The empirical findings thus support both the supplier financing and transaction warranty theories of prepayment