Financial health and airline safety

✍ Scribed by Gregory Noronha; Vijay Singal

• Book ID: 102505578
• Publisher: John Wiley and Sons
• Year: 2003
• Tongue: English
• Weight: 173 KB
• Volume: 25
• Category: Article
• ISSN: 0143-6570
• DOI: 10.1002/mde.1133

✦ Synopsis

Abstract

Agency‐cost models suggest that firms may pursue riskier strategies in times of financial distress. For example, stockholders of financially weak firms in industries where quality cannot be observed ex‐ante have an incentive to compromise safety and quality to maximize current period profit. However, there exists only a modest amount of empirical evidence that relates financial health to the risk‐taking behavior of firms.

We explore this relationship for the airline industry. Using bond ratings to proxy for financial health and airline mishaps to measure safety, we find a significant correlation: airlines with higher quality bond ratings are less likely to experience mishaps than airlines with lower quality ratings. On average, a whole letter grade better bond rating is associated with a 10% lower probability of a mishap. Copyright © 2004 John Wiley & Sons, Ltd.