The Firm Size and Leverage Relationship and Its Implications for Entry and Business Concentration

Chatterjee, Satyajit; Eyigungor, Burcu

doi:10.21799/frbp.wp.2020.29

Working Paper

The Firm Size and Leverage Relationship and Its Implications for Entry and Business Concentration

Abstract: Larger firms (by sales or employment) have higher leverage. This pattern is explained using a model in which firms produce multiple varieties and borrow with the option to default against their future cash flow. A variety can die with a constant probability, implying that bigger firms (those with more varieties) have a lower coefficient of variation of sales and higher leverage. A lower risk-free rate benefits bigger firms more as they are able to lever more and existing firms buy more of the new varieties arriving into the economy. This leads to lower startup rates and greater concentration of sales.

Keywords: Startup rates; leverage; firm dynamics;

JEL Classification: E22; E43; E44; G32; G33; G34;

https://doi.org/10.21799/frbp.wp.2020.29