Spinoff Wealth Effects and the Dismantling of Internal Capital Markets
34 Pages Posted: 23 Nov 2001
Date Written: March 2001
We provide evidence directly linking spinoff announcement returns to the pre-spinoff conduct of internal capital markets. Firms' internal capital markets may enhance value by channeling capital to divisions with superior investment opportunities (high Tobin's q), and/or by starving divisions with poor opportunities (low Tobin's q). Alternatively, these markets may reduce value by doing just the opposite. We examine whether the dismantling of internal capital markets contributes to the effects of spinoffs on shareholder value by estimating a model of the announcement return. The key explanatory variable is a measure of investment efficiency that accounts for the amount and direction of capital subsidy from parent to division, and the division's q-ratio relative to that of the parent. We find evidence of higher announcement returns when the parent allocates capital to the divested division in a seemingly inefficient manner.
Keywords: spinoffs, internal capital markets, investment efficiency, divestitures
JEL Classification: G31, G34
Suggested Citation: Suggested Citation