Financial Leverage Changes Associated with Corporate Mergers
Posted: 11 Nov 2001
The financial motivation theory on mergers hypothesizes that mergers can create value by increasing debt capacity. Consistent with the increased debt capacity hypothesis, our results show that the average financial leverage (debtdivided by debt plus equity) increases significantly from 32.1% one year before mergers to 38.4% one year after mergers. In a direct test of the hypothesis, cross- sectional regression analysis shows that the change in financial leverage is significantly positively correlated with announcement period abnormal returns. The analysis controls for other tax and operating performance related benefits. We conclude that the stock market incorporates benefits from anticipated financial leverage increases at the time of the merger announcement.
JEL Classification: D46
Suggested Citation: Suggested Citation