The Cost of Capital Effect of M&A Transactions: Disentangling Coinsurance from the Diversification Discount

30 Pages Posted: 17 Sep 2018

See all articles by Patrick Bielstein

Patrick Bielstein

Barclays PLC

Mario Fischer

Technische Universität München (TUM)

Christoph Kaserer

Technische Universität München (TUM)

Date Written: September 2018

Abstract

This study argues that in corporate diversification there is a bright side (coinsurance effect) and a dark side (diversification discount). While diversification might reduce systematic risk by its impact on the cost of financial distress, it might increase systematic risk because of inefficient cross‐subsidization at the same time. Building on an extension of the model of Hann, Ogneva, and Ozbas ([Hann, R. N., 2013]), we analyze mergers and acquisitions in the US over the period 1985 to 2014. We find the coinsurance effect to decrease the cost of capital by 36  basis points for the average firm. However, at the same time, we observe a 7  basis points increase in the cost of capital related to the inefficiency of the firm's internal capital market. Both effects are statistically significant and robust to endogeneity concerns, different empirical specifications, and variable measurement.

Keywords: corporate diversification, cost of capital, internal capital markets, M&A transactions

Suggested Citation

Bielstein, Patrick and Fischer, Mario and Kaserer, Christoph, The Cost of Capital Effect of M&A Transactions: Disentangling Coinsurance from the Diversification Discount (September 2018). European Financial Management, Vol. 24, Issue 4, pp. 650-679, 2018, Available at SSRN: https://ssrn.com/abstract=3248612 or http://dx.doi.org/10.1111/eufm.12177

Patrick Bielstein (Contact Author)

Barclays PLC ( email )

1 Churchill Place
London, E14 5HP
United Kingdom

Mario Fischer

Technische Universität München (TUM) ( email )

Arcisstrasse 21
Munich, DE 80333
Germany

Christoph Kaserer

Technische Universität München (TUM) ( email )

Arcisstr. 21
Munich, D-80290
Germany
+49 89 289 25489 (Phone)
+49 89 289 25488 (Fax)

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