Corporate mergers: capital structure and post-merger performance

Abstract

Considered to be an extremely important component of corporate finance and a factor with major impact on corporate performance and profitability, capital structure is an aspect expected to report changes before, during and after major corporate events such as Mergers and Acquisitions. Any decision and adjustment of capital structure may have an unprecedent impact on a company’s performance or even its existence. Literature of corporate structure has related adjustment of capital structure to corporate business performance. This paper aims to examine the effect of adjustments on capital structure, through changes on leverage and adjustments on leverage deficit, on the financial performance of acquiring companies listed in the U.S. stock market. Out of all companies that engaged in M&A activity during 2006 and 2015, we have chosen the 415 acquirers with the biggest M&A deals. The sample at hand was selected to cast away limitations such as lack of financial data and non-published M&A information. To measure the financial performance of the firms, the Return on Equity (ROE) and Return on Assets (ROA) ratios were deployed as indicators and consider our independent variables to be the changes on leverage and adjustments on leverage deficit. The analysis was conducted through the Tobin’s Analysis, also known as a censored regression model, during the pre-merger year as well as five years after the completion of the merger. Our results show that changes on leverage have a negative effect on both short term and long-term business performance after the merger. Also, we find that companies that sustain higher levels of financial flexibility report better post-merger performance. Moreover, our findings indicate that companies that move closer to their target ratio of leverage achieve better performance. Finally, we conclude that financial flexibility is indeed more important to acquirers on the long-run and lower levels of leverage seem to move companies to better business performance.