Why Do Firms Merge and Then Divest? A Theory of Financial Synergy
This article develops a theory of mergers and divestitures. The motivation stems from inability to finance marginally profitable projects as stand-alones due to agency problems. A conglomerate merger is a technology that allows these projects to survive a period of distress. If profitability improves, the financing synergy ends and the acquirer divests the assets. The authors' theory reconciles two seemingly contradictory empirical findings. Mergers increase the combined values of acquirers and targets by financing positive net present value (NPV) projects that cannot be financed as stand-alones. At the same time, because these projects are only marginally profitable, conglomerates are less valuable than stand-alones. Copyright 1999 by University of Chicago Press.
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