Evidence on the Association between Mergers and Capital Structure

Financial Management (1972); Autumn 84, Vol. 13 Issue 3, p39

Posted: 27 Aug 2014

See all articles by Ronald E. Shrieves

Ronald E. Shrieves

University of Tennessee, Knoxville - Department of Finance

Mary Pashley

Tennessee Technological University; University of Tennessee, Knoxville

Date Written: 1972

Abstract

This article examines whether merger per se may be related to changes in the capital structure of the participating firms. The findings are consistent with the existence of merger-related incentives to increase financial leverage for a significant subset of merging firms. No evidence has been found that supports the latent debt capacity hypothesis. There is a strong relationship between merger accounting procedures (purchase vs. pooling) and relative increases in leverage accompanying mergers. This relationship reflects the potential for increased debt capacity and/or wealth shifting by the managements of acquiring firms. The terms of purchase of the acquired company were consistent with an immediate increase in leverage in the merging entities. Analysis of the year-by-year relative leverage positions of purchase merger firms indicates an immediate and persistent relative increase in financial leverage. Similar investigation of pooling accounting mergers detects no such systematic changes in leverage. Finally, analysis of the relationship between pre-merger cash flow correlation for merging firms and relative changes in leverage tend to support both the increased debt capacity theory and the coinsurance wealth transfer theory.

Suggested Citation

Shrieves, Ronald E. and Pashley, Mary and Pashley, Mary, Evidence on the Association between Mergers and Capital Structure (1972). Financial Management (1972); Autumn 84, Vol. 13 Issue 3, p39, Available at SSRN: https://ssrn.com/abstract=2487459

Ronald E. Shrieves (Contact Author)

University of Tennessee, Knoxville - Department of Finance ( email )

Knoxville, TN 37996
United States

Mary Pashley

University of Tennessee, Knoxville ( email )

The Boyd Center for Business and Economic Research
Knoxville, TN 37996
United States

Tennessee Technological University ( email )

446 Freeze St.
Cookeville, TN 38505
United States

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