THE ECONOMICS OF THE PRIVATE MARKET
Companies Issuing in Both the Public and the Private Markets
As mentioned earlier, some firms that could readily issue straight debt in the public market may be constrained to the private market for more complicated issues, such as leases or project financings. To obtain evidence regarding this hypothesis, we examined differences in private issues between our private market group and a fifth group of firms that issue in the private market even though they have previously tapped the public market for funds. This group, called the public-private group, consists of those firms that are listed in the IDD database as having issued a private placement in 1989 and listed on the COMPUSTAT tape as having a bond rating. It comprises 109 firms, with 175 issues of private debt in 1989.
Several differences exist between the private debt issues of firms in the private market group and those in the public-private group (table 6). The much larger average size of private placement issues by the public-private firms than that of the private market group firms reflects the much larger size of firm in the former group. In addition, the mix of securities issued by the private market firms differs significantly from that of the public-private group in terms of their credit analysis requirements. We define ''complex'' securities to be equipment trusts, lease-backed bonds, leveraged leases, receivables-backed bonds, and variable and floating rate notes. Complex securities appear in the public market, but in many cases they require investors to engage in sophisticated and intensive credit analysis. We define ''simple'' debt securities to be senior securities, secured notes, mortgagebacked notes, debentures, and medium-term notes. Simple securities likely require less in the way of due diligence and monitoring. Measured by the number of issuers and by the dollar amount issued, the percentage of total private issuance in the form of complex securities was much higher in 1989 for public-private group firms than for private market group firms. Conversely, a much higher percentage of total private issuance by private market firms in 1989 was in the form of simple debt. 61 This evidence supports the hypothesis that firms with access to the public market may choose to issue more complex securities in the private market, where the capacity of investors for credit analysis is greater.
The average size of simple and complex issues for the two groups of firms is consistent with the proposition that issuance cost is of secondary importance in determining market choice by borrowers (last two rows of table 6). The average issue size for complex private placements was $576.5 million, suggesting that on the basis of issuance costs alone the public market would have been the appropriate choice. That they were issued in the private market indicates that due diligence and loan monitoring requirements were such that only information-intensive lenders would buy the issues.
Simple securities issued by the public-private group could be issued in either the public or the private market because they require relatively low levels of due diligence and monitoring by lenders. In this case, issuance costs are likely to be a dominant consideration. The average issue size of $50.8 million for the simple securities issued by the public-private group in the private market is consistent with this notion, because the private market reportedly offers lower total costs for issues of that size.