Separate or Joint Financing? Coinsurance, Risk Contamination, and Optimal Conglomeration with Bankruptcy Costs

70 Pages Posted: 17 Mar 2012

See all articles by Albert Banal-Estañol

Albert Banal-Estañol

Universitat Pompeu Fabra - Department of Economics and Business (DEB); City University London - Department of Economics

Marco Ottaviani

Bocconi University - Department of Economics

Andrew Winton

University of Minnesota - Twin Cities - Carlson School of Management; Shanghai Jiao Tong University (SJTU) - Shanghai Advanced Institute of Finance (SAIF)

Date Written: January 31, 2012

Abstract

This paper analyzes the determinants of the optimal scope of incorporation in the presence of bankruptcy costs. Bankruptcy costs alone generate a non-trivial trade-off between the bene…fit of coinsurance and the cost of risk contamination associated with financing projects jointly through debt. This tradeo-off is characterized for projects with binary returns, depending on the distributional characteristics of returns (mean, variability, skewness, heterogeneity, correlation, and number of projects), the structure of the bankruptcy cost, and the tax advantage of debt relative to equity. Our predictions are broadly consistent with existing empirical evidence on conglomerate mergers, spin-offs, project …finance, and securitization.

Keywords: Bankruptcy, conglomeration, mergers, spin-offs, project …finance

JEL Classification: G32, G34

Suggested Citation

Banal Estañol, Albert and Ottaviani, Marco and Winton, Andrew, Separate or Joint Financing? Coinsurance, Risk Contamination, and Optimal Conglomeration with Bankruptcy Costs (January 31, 2012). AFA 2013 San Diego Meetings Paper. Available at SSRN: https://ssrn.com/abstract=2023714 or http://dx.doi.org/10.2139/ssrn.2023714

Albert Banal Estañol (Contact Author)

Universitat Pompeu Fabra - Department of Economics and Business (DEB) ( email )

Barcelona, 08005
Spain

City University London - Department of Economics ( email )

Northampton Square
London, EC1V 0HB
United Kingdom

Marco Ottaviani

Bocconi University - Department of Economics ( email )

Via Gobbi 5
Milan, 20136
Italy

Andrew Winton

University of Minnesota - Twin Cities - Carlson School of Management ( email )

321 19th Avenue South
Department of Finance
Minneapolis, MN 55455
United States
612-624-0589 (Phone)
612-626-1335 (Fax)

Shanghai Jiao Tong University (SJTU) - Shanghai Advanced Institute of Finance (SAIF) ( email )

Shanghai Jiao Tong University
211 West Huaihai Road
Shanghai, 200030
China

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