Asset Volatility and Capital Structure: Evidence from Corporate Mergers
46 Pages Posted: 22 Feb 2014 Last revised: 16 Mar 2017
Date Written: March 15, 2017
We exploit the cross-sectional variation in asset volatility and leverage changes around merger to identify the effect of firm risk on capital structure. We find that firms respond strongly to the diversifying effects of merger, partially through the choice of payment method. Our estimates imply that 33% of the post-merger increase in leverage and 27% of the decrease in cash are due to reduced firm risk. Our findings provide direct evidence for the coinsurance effect of merger on debt capacity. They also suggest that firm risk is a first-order determinant of leverage, consistent with the trade-off theory of capital structure.
Keywords: Capital structure, Mergers and acquisitions, Cash holdings
Suggested Citation: Suggested Citation