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Corporate Spin-Offs, Bankruptcy, Investment, and the Value of Debt

  • Hennessy, David A.

In a risk-neutral stochastic environment where bankruptcy is possible, it is well-established that coinsurance incentives may lead creditors to prefer mergers over spin-offs, while shareholders may prefer spin-offs. This paper shows that there are two distinct reasons for this. One is due to the concavity of the debt payoff function in the face value of the debt, while the other arises from imperfect covariation in ultimate firm values. For the latter reason, conventional measures of covariation are not sufficient to evaluate the impact on ex-ante debt value. Also considered are the effects of mergers and spin-offs on investment decisions.

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Paper provided by Iowa State University, Department of Economics in its series Staff General Research Papers with number 1898.

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Date of creation: 01 Oct 2000
Date of revision:
Publication status: Published in Insurance: Mathematics and Economics, October 2000, vol. 27, pp. 229-235
Handle: RePEc:isu:genres:1898
Contact details of provider: Postal: Iowa State University, Dept. of Economics, 260 Heady Hall, Ames, IA 50011-1070
Phone: +1 515.294.6741
Fax: +1 515.294.0221
Web page: http://www.econ.iastate.edu
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  1. Higgins, Robert C & Schall, Lawrence D, 1975. "Corporate Bankruptcy and Conglomerate Merger," Journal of Finance, American Finance Association, vol. 30(1), pages 93-113, March.
  2. Saman Majd & Stewart C. Myers, 1987. "Tax Asymmetries and Corporate Income Tax Reform," NBER Chapters, in: Taxes and Capital Formation, pages 93-96 National Bureau of Economic Research, Inc.
  3. Jerry R. Skees & J. Roy Black & Barry J. Barnett, 1997. "Designing and Rating an Area Yield Crop Insurance Contract," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 79(2), pages 430-438.
  4. Scott, James H, Jr, 1977. "On the Theory of Conglomerate Mergers," Journal of Finance, American Finance Association, vol. 32(4), pages 1235-50, September.
  5. Larry G. Epstein & Stephen M. Tanny, 1980. "Increasing Generalized Correlation: A Definition and Some Economic Consequences," Canadian Journal of Economics, Canadian Economics Association, vol. 13(1), pages 16-34, February.
  6. Boland, Philip J. & Proschan, Frank, 1988. "Multivariate arrangement increasing functions with applications in probability and statistics," Journal of Multivariate Analysis, Elsevier, vol. 25(2), pages 286-298, May.
  7. Berger, Philip G. & Ofek, Eli, 1995. "Diversification's effect on firm value," Journal of Financial Economics, Elsevier, vol. 37(1), pages 39-65, January.
  8. Galai, Dan & Masulis, Ronald W., 1976. "The option pricing model and the risk factor of stock," Journal of Financial Economics, Elsevier, vol. 3(1-2), pages 53-81.
  9. Rothschild, Michael & Stiglitz, Joseph E., 1970. "Increasing risk: I. A definition," Journal of Economic Theory, Elsevier, vol. 2(3), pages 225-243, September.
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