The Q-Theory of Mergers

15 Pages Posted: 24 Jan 2002

See all articles by Boyan Jovanovic

Boyan Jovanovic

New York University - Department of Economics

Peter L. Rousseau

Vanderbilt University - Department of Economics

Date Written: January 2002

Abstract

The Q-theory of investment says that a firm's investment rate should rise with its Q. We argue here that this theory also explains why some firms buy other firms. We find that 1. A firm's merger and acquisition (M&A) investment responds to its Q more -- by a factor of 2.6 -- than its direct investment does, probably because M&A investment is a high fixed cost and a low marginal adjustment cost activity, 2. The typical firm wastes some cash on M&As, but not on internal investment, i.e., the 'Free-Cash Flow' story works, but explains a small fraction of mergers only, and 3. The merger waves of 1900 and the 1920's, `80s, and `90s were a response to profitable reallocation opportunities, but the `60s wave was probably caused by something else.

Suggested Citation

Jovanovic, Boyan and Rousseau, Peter L., The Q-Theory of Mergers (January 2002). NBER Working Paper No. w8740, Available at SSRN: https://ssrn.com/abstract=298264

Boyan Jovanovic (Contact Author)

New York University - Department of Economics ( email )

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Peter L. Rousseau

Vanderbilt University - Department of Economics ( email )

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615-343-8495 (Fax)

HOME PAGE: http://www.vanderbilt.edu/econ/faculty/rousseau.html

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