Working Paper No. 511

Why Mergers Reduce Profits, and Raise Share Prices

Published: March 12, 1999. Revised December 3, 2001.Pages: 38Keywords: Mergers & acquisitions, defensive merger, coalition formation, antitrust policyJEL-codes: G34, L13, C78

Why Mergers Reduce Profits, and Raise Share Prices Sven-Olof Fridolfsson and Johan Stennek


We demonstrate a "preemptive merger mechanism" which may explain the empirical puzzle why mergers reduce profits, and raise share prices. A merger may confer strong negative externalities on the firms outside the merger. If being an "insider" is better than being an "outsider", firms may merge to preempt their partner merging with someone else. Furthermore, the pre-merger value of a merging firm is low, since it reflects the risk of becoming an outsider. These results are derived in a model of endogenous mergers which predicts the conditions under which a merger occurs, when it occurs, and how the surplus is divided.

Interdisciplinary European Studies

The European Union in a Changing World Order

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This book explores how the European Union responds to the ongoing challenges to the liberal international order. These challenges arise both within the EU itself and beyond its borders, and put into question the values of free trade and liberal democracy. 

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