A theory of LBO activity based on repeated debt-equity conflicts

Andrey Malenko and Nadya Malenko

Journal of Financial Economics, 2015, vol. 117, issue 3, 607-627

Abstract: We develop a theory of leveraged buyout (LBO) activity based on two elements: the ability of private equity-owned firms to borrow against their sponsors׳ reputation with creditors and externalities in sponsors׳ reputations due to competition and club formation. In equilibrium, the two sources of value creation in LBOs, operational improvements and financing, are complements. Moreover, sponsors that never add operational value cannot add value through financing either. Club deals are beneficial ex post by allowing low-reputation bidders with high valuations to borrow reputation from high-reputation bidders with low valuations, but they can destroy value by reducing bidders׳ investment in reputation. Unlike leverage of independent firms, driven only by firm-specific factors, buyout leverage is driven by economy-wide and sponsor-specific factors.

Keywords: Leveraged buyouts; Private equity; Reputation; Debt-equity conflicts; Club deals (search for similar items in EconPapers)
JEL-codes: D44 G24 G32 G34 (search for similar items in EconPapers)
Date: 2015
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (14)

Downloads: (external link)
http://www.sciencedirect.com/science/article/pii/S0304405X15001002
Full text for ScienceDirect subscribers only

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:117:y:2015:i:3:p:607-627

DOI: 10.1016/j.jfineco.2015.06.007

Access Statistics for this article

Journal of Financial Economics is currently edited by G. William Schwert

More articles in Journal of Financial Economics from Elsevier
Bibliographic data for series maintained by Catherine Liu ().