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Rev Fin 1991; 4:175-200
© 1991 the Society for Financial Studies

Article

Financial policy and reputation for product quality

V Maksimovic1 and S Titman2
1 Faculty of Commerce, University of British Columbia, Vancouver, BC, Canada V6T 1Y8
2 University of California, Los Angeles, USA

Abstract

The effect of financial policy on a firm's incentives to maintain its reputation of producing a high-quality product is analyzed. It is demonstrated that in certain situations debt will reduce a firm's ability to credibly offer high-quality products and, as a consequence, will reduce its value. However, for firms with assets that have high salvage values in liquidation, debt may increase their ability to credibly offer high-quality products and, therefore, increase their values.


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