The strategic use of debt reconsidered

We consider a two-stage differentiated goods duopoly model with demand uncertainty linking firms' capital structure choice to their output market decisions. Using a numerical analysis, we study how the equilibrium of the model is affected by demand volatility and the substitutability between products. In doing so, we correct a mistake in earlier papers in this literature. Most importantly, we find that the equilibrium debt level decreases as demand becomes more volatile. (C) 2007 Elsevier B.V. All rights reserved.