Optimal Capital Structure, Relation-Specific Investment, and Supplier Competition

A firm's leverage increases its bargaining power and reduces suppliers' relation-specific investment, and so does competition among suppliers. We explore the interaction between leverage and supplier competition, and find that firm leverage decreases with the degree of competition among suppliers. Specifically, leverage decreases with the elasticity of substitution between suppliers. Leverage also decreases with the number of suppliers when the elasticity of substitution is high, and increases with the number of suppliers when the elasticity is low. Empirically, we use the number of supplying industries to proxy the number of supplying firms when the elasticity of substitution is low and find that firm leverage is positively related to the number of supplying industries. Moreover, we find that firm leverage is positively related to input goods heterogeneity