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Please use this identifier to cite or link to this item:
http://hdl.handle.net/2451/26941
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| Title: | Why Do firms Merge and Then Divest: A Theory of Financial Synergy |
| Authors: | Fluck, Zsuzsanna
Lynch, Anthony |
| Issue Date: | 8-Oct-1998 |
| Series/Report no.: | FIN-98-036 |
| Abstract: | This paper develops a theory of mergers and divestitures wherein the
motivation for mergers stems from the inability to finance marginally
profitable, possibly short-horizon projects as stand-alone entities due
to agency problems between managers and potential claimholders. A
conglomerate merger can be viewed as a technology that allows a
marginally profitable project, which could not obtain financing as a
stand-alone, to obtain financing and survive a period of distress. If
profitability improves, the financing synergy ends and the acquirer
divests assets to avoid coordination costs. Since it is the project's
ability to survive as a stand-alone that causes the divestiture,
divestiture decisions are interpreted as good news by the market in our
model. Further, our theory is able to reconcile two important but
seemingly contradictory empirical findings: 1) mergers increase the
combined value of the acquirer and target (Jensen and Ruback (1983),
Bradley et al. (1988) and Kaplan Weisbach (1992)): and, 2) diversified
firms are less valuable than more focused stand-alone entities (Berger
and Ofek (1995), Lang and Stulz (1994), and Servaes (1996)).
Diversification adds value in our model by facilitating the financing of
positive net present value projects that cannot be financed as
stand-alones. At the same time, because these same projects are only
marginally profitable, diversified firms are less valuable than stand-alones. |
| URI: | http://hdl.handle.net/2451/26941 |
| Appears in Collections: | Economics Working Papers
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