Managerial Conservatism, Project Choice, and Debt

• DOI: 10.1093/rfs/5.3.437
• Publication Date: 2002-07-26T18:58:17Z
• Authors: David Hirshleifer; Anjan V Thakor
• Keywords: Leverage (statistics); Conservatism; Agency cost

We show that the incentive for managers to build their reputations distorts firms' investment policies in favor of relatively safe projects, thereby aligning managers' interests with those bondholders, even though are hired and fired by shareholders. This effect opposes familiar agency problem risky debt is imperfectly covenant-protected, wherein shareholders tempted excessively projects order expropriate bondholders. Consequently, when managerial concern reputation results conservatism, it can actually make better off ex ante allowing firm issue more debt. examine how optimal choice leverage from shareholders' standpoint influenced takeover activity, adoption antitakeover measures affects a firm's policy choice.