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Free Cash Flow, Golden Parachutes, and the Discipline of Takeover Activity
Author(s) -
Subramaniam Chandra,
Daley Lane A.
Publication year - 2000
Publication title -
journal of business finance and accounting
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.282
H-Index - 77
eISSN - 1468-5957
pISSN - 0306-686X
DOI - 10.1111/1468-5957.00304
Subject(s) - free cash flow , investment (military) , monetary economics , cash flow , agency (philosophy) , business , cash , mergers and acquisitions , capital (architecture) , capital investment , economics , finance , law , political science , philosophy , epistemology , politics , archaeology , history
We conjecture that golden parachutes are initiated when the agency cost of free cash flow is most severe. We examine the relation between golden parachutes and investment levels in firms that have been successfully acquired. Our results support these three conclusions. First, target firms overinvest prior to an acquisition when golden parachutes are present. Second, the acquirers of targets with golden parachutes reduce investment subsequent to the takeover. Third, the reversal in capital investment by the combined firm is correlated with the magnitude of the target’s pre‐acquisition overinvestment. The latter findings indicate the takeover acts as a disciplining mechanism with the acquirer reversing the target overinvestment subsequent to the acquisition