Firm Reputation and Horizontal Integration∗
Hongbin Cai† Ichiro Obara‡
March 14, 2008.
Abstract
We study effects of horizontal integration on firm reputation. In an environment where customers
observe only imperfect signals about firms’ effort/quality choices, firms cannot maintain
good reputation and earn quality premium forever. Even when firms choose high quality, there
is always a possibility that a bad signal is observed. Thus, firms must give up their quality
premium, at least temporarily, as punishment. A firm’s integration decision is based on the
extent to which integration attenuates this necessary cost of maintaining a good reputation.
Horizontal integration leads to a larger market base for the merged firm, which leads to a more
effective punishment and a better monitoring by eliminating idiosyncratic shocks in many markets.
But it also allows the merged firm to deviate in a more sophisticated way: the merged
firm may deviate only in a subset of......

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Title: Rust
Approximate Word Count: 2237
Approximate Pages: 9 (250 words per double-spaced page)

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