The Effect of Corporate Culture on Capital Structure Policy

Abstract

We empirically investigate the effect of corporate culture on capital structure policy. This paper uses CEO replacement to identify change in corporate culture. We focus on firms that change their debt policy from zero leverage to positive leverage or from positive leverage to zero leverage at least once during their history. We find that the cultural change brought by new CEOs has a significant impact on the continuity of the firm’s existing debt policy. Evidence shows that firms with recent CEO replacement tend to switch their debt policy. Moreover, the magnitude and significance of the association between CEO turnovers and the subsequent debt policy changes are much stronger for cases with external CEO replacement. This documented cultural effect is not driven by firm fundamentals, endogeneity of CEO turnover, strength of corporate governance, merger and acquisition activities, or marginal tax benefits, and is not driven by the subset of firms with multiple policy changes. Furthermore, firms that never change their debt policy over their history have significantly fewer CEO turnovers than firms with policy changes, consistent with new CEOs inducing capital structure changes. Our results suggest that corporate culture exerts an important impact on capital structure policy.