Essays on the firm value with bankruptcy risk and reverse takeover

Abstract

This study provides explanations for a diversification discount under the efficient internal capital market, an advantage of a business group, and pooling on reverse takeover equilibrium caused by information asymmetry. First, we provide a counterexample to the conventional viewpoint that a diversification discount results from the inefficient internal capital allocation. In our financing game model firms have outstanding debts, and internal capital markets are efficient in diversified firms. We find that a diversification discount can be observed, when the level of debt is high. Under information asymmetry, single firms may invest only in the projects with high NPVs or go bankrupt. However, diversified firms with efficient internal capital markets are able to invest in a broader set of positive NPV projects. As a result, the average values of surviving single firms can be higher than those of diversified firms. We apply our results to the empirical findings in literature. Second, an affiliate of a business group is an independent legal entity with limited liability while a division of a diversified firm is not. In spite of the difference, prior studies rarely distinguish between them. We provide a simple model focusing on their different investment strategies and firm values including two kinds of tunneling: within-group tunneling and external tunneling. While a business group is notorious for its tunneling, interestingly, when the success probability of a project is low, the high level of within-group tunneling affects the group value positively. Besides, with both within-group and external tunneling, a variety of results can be seen. Finally, a reverse takeover (RTO) is often used as an alternative way of IPO. We investigate the case in which a firm`s choice between an IPO and an RTO may provide differential signals when investors do not observe the firm value. We assume that the firm value is the sum of the soft value and the hard value, where the sof...