Product Demand Characteristics, Brand Perception, and Financial Policy

Abstract:     
We use a proprietary database of consumer brand evaluation to explore the role of firm-specific demand characteristics in financial decisions. We hypothesize that higher and more inelastic consumer demand for a product reduces the costs of financial distress but can also intensify agency conflicts by increasing firm market power. The empirical analysis shows that firms with stronger demand take on more debt and hold less cash, suggesting that financial distress risk is the primary channel through which brand value affects financial policy. To address endogeneity issues, we instrument for characteristics of product demand by using extreme consumer responses about the actual usage of the brands and arrive at similar conclusions. Taken together, the results suggest that features of demand for a firm’s products affect financial decisions and allow the firm to have higher leverage and smaller cash cushions.

Number of Pages in PDF File: 51

Keywords: product market, consumer demand, capital structure, cash, payout

JEL Classification: G30, G32, G35, G39

working papers series