Firm Reputation and the Cost of Debt Capital

Abstract

We examine the relation between firm reputation and the cost of debt financing. We posit that corporate reputation represents “soft information” not captured by balance sheet variables, which is nonetheless valuable to lenders. Using Fortune magazine’s survey of company reputation, we find an inverse relation between a company’s reputation and its bond credit spreads. We also find that firms with high reputation face less stringent covenants. Further testing shows that bad reputation is a good ex ante predictor of corporate failure. Our study provides evidence that firm reputation is an important consideration in the pricing of corporate public debt.

Keywords: Cost of debt and firm reputation, cost of capital and firm reputation, credit risk and firm reputation, cost of debt and firm intangibles, covenant restrictions and firm reputation, fraud and firm reputation, bankruptcy risk and firm reputation

JEL Classification: G11, G12, G14, G32, G33, M4, L14, D82