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The Flip Side of Financial Synergies: Coinsurance Versus Risk Contamination

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  • Albert Banal-Estañol
  • Marco Ottaviani
  • Andrew Winton

Abstract

This paper characterizes when joint financing of two projects through debt increases expected default costs, contrary to conventional wisdom. Separate financing dominates joint financing when risk-contamination losses--that are associated with the contagious default of a well-performing project that is dragged down by the other project's poor performance--outweigh standard coinsurance gains. Separate financing becomes more attractive than joint financing when the fraction of returns lost under default increases and when projects have lower mean returns, higher variability, more positive correlation, and more negative skewness. These predictions are broadly consistent with evidence on conglomerate mergers, spinoffs, project finance, and securitization. The Author 2013. Published by Oxford University Press on behalf of The Society for Financial Studies. All rights reserved. For Permissions, please e-mail: journals.permissions@oup.com., Oxford University Press.

Suggested Citation

  • Albert Banal-Estañol & Marco Ottaviani & Andrew Winton, 2013. "The Flip Side of Financial Synergies: Coinsurance Versus Risk Contamination," Review of Financial Studies, Society for Financial Studies, vol. 26(12), pages 3142-3181.
  • Handle: RePEc:oup:rfinst:v:26:y:2013:i:12:p:3142-3181
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    File URL: http://hdl.handle.net/10.1093/rfs/hht049
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    Cited by:

    1. Giovanna Nicodano & Luca Regis, 2014. "Complex organizations, tax policy and financial stability," Carlo Alberto Notebooks 359, Collegio Carlo Alberto, revised 2015.
    2. Giovanna Nicodano & Luca Regis, 2015. "Ownership, Taxes and Default," Working Papers 7/2015, IMT Institute for Advanced Studies Lucca, revised Jul 2015.
    3. Mikel Bedayo, 2016. "Creating associations to substitute banks’direct credit. Evidence from Belgium," Working Paper Research 315, National Bank of Belgium.
    4. Mikel Bedayo, 2017. "Creating associations as a substitute for direct bank credit. Evidence from Belgium," Working Papers 1704, Banco de España;Working Papers Homepage.
    5. Michela Altieri & Giovanna Nicodano, 2016. "The Apparent Diversification Discount," Carlo Alberto Notebooks 465, Collegio Carlo Alberto.

    More about this item

    JEL classification:

    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance

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