Alternative Investing

Investigating the Economic Role of Mergers

Topics - Alternative Investing

${ numberSection } ${ text }
Investigating the Economic Role of Mergers

A growing body of empirical evidence documents that mergers may be an efficient way to reallocate assets within the economy. Ample evidence on post-merger stock returns and operating performance suggests that mergers on average increase value, and lead to improved profitability. This paper adds to that literature by suggesting how mergers can help firms and industries grow and restructure, particularly in response to shocks.

Overall, our analysis indicates that mergers play a dual economic role. On one hand, mergers, like internal investments, are a means for companies to increase their capital base, in response to good growth prospects. Both merger and non-merger investment are positively related to the firm’s sales growth and its Tobin’s q — the ratio of its market value to its replacement cost.

On the other hand, mergers appear to facilitate industry contraction. The clustering of mergers by industry suggests that mergers are often a response to industry shocks. We find that mergers within a single industry are negatively related to capacity utilization during the 1970s and 1980s; that is consistent with the view that mergers are an effective means for industries with excess capacity to rationalize and induce exit.

In addition, we find that within these contracting industries, acquiring companies tend to be the firms with better performance, perhaps even better management, and lower leverage and capacity utilization. This all suggests that this industry rationalization and asset reallocation results in improved efficiency.

Published in

Journal of Corporate Finance

This document has been provided to you solely for information purposes and does not constitute an offer or solicitation of an offer or any advice or recommendation to purchase any securities or other financial instruments and may not be construed as such. The factual information set forth herein has been obtained or derived from sources believed by the author and AQR Capital Management, LLC (“AQR”) to be reliable but it is not necessarily all-inclusive and is not guaranteed as to its accuracy and is not to be regarded as a representation or warranty, express or implied, as to the information’s accuracy or completeness, nor should the attached information serve as the basis of any investment decision. This document is not to be reproduced or redistributed to any other person. The information set forth herein has been provided to you as secondary information and should not be the primary source for any investment or allocation decision. Past performance is not a guarantee of future performance. 

This material is not research and should not be treated as research. This paper does not represent valuation judgments with respect to any financial instrument, issuer, security or sector that may be described or referenced herein and does not represent a formal or official view of AQR. The views expressed reflect the current views as of the date hereof and neither the author nor AQR undertakes to advise you of any changes in the views expressed herein. 

The information contained herein is only as current as of the date indicated, and may be superseded by subsequent market events or for other reasons. Charts and graphs provided herein are for illustrative purposes only. The information in this presentation has been developed internally and/or obtained from sources believed to be reliable; however, neither AQR nor the author guarantees the accuracy, adequacy or completeness of such information. Nothing contained herein constitutes investment, legal, tax or other advice nor is it to be relied on in making an investment or other decision. There can be no assurance that an investment strategy will be successful. Historic market trends are not reliable indicators of actual future market behavior or future performance of any particular investment which may differ materially, and should not be relied upon as such. 

The information in this paper may contain projections or other forward-looking statements regarding future events, targets, forecasts or expectations regarding the strategies described herein, and is only current as of the date indicated. There is no assurance that such events or targets will be achieved, and may be significantly different from that shown here. The information in this document, including statements concerning financial market trends, is based on current market conditions, which will fluctuate and may be superseded by subsequent market events or for other reasons.