Fitness Versus Fatness : Productivity, Financial Conditions, and the Survival of New Canadian Manufacturing Firms

The recent economic and financial crisis highlights the role of balance sheets on firm survival. This paper considers the role of initial financial leverage (debt-to-asset ratio) on the survival of entrant Canadian manufacturing firms. Due to limited data availability, little is known about how financing affects the performance of young, private firms. This study utilizes a unique administrative dataset, T2LEAP, which contains employment and balance sheet information for all incorporated Canadian firms. We find that there is a non-monotonic relationship between leverage and firm exit (hazard) rate. The hazard rate decreases as leverage increases up to the four quintile of the leverage distribution and then increases for firms in the top leverage quintile. These effects are present while controlling for: firm characteristics, such as size and labour productivity; industry conditions, such as the real exchange rate, the differential US-Canada tariff rates, entry penetration, and the capital-labour ratio; and aggregate conditions in terms of the yield gap