The effects of declining demand and asset specificity on mergers

Mergers represent the reallocation of capital, such as physical assets, as well as productive and organizational capabilities, between firms within and across industries. In declining industries, firms can use mergers to consolidate their capital within the industry to reduce excess capacity and possibly lower the cost of production or they can use mergers to diversify their capital to serve in other alternative industries. The purpose of this dissertation is to examine the factors that affect a firm's decision to pursue these merger strategies in declining industries. In particular, the focus of the analysis is on the effects of demand conditions and the characteristics of capital that firms possess on a firm's merger decisions. First, I develop theoretical models to illustrate that the likelihood of consolidating capital within the industry will decrease and the likelihood of diversifying capital out of the industry will increase when demand declines. In contrast, the likelihood of consolidating capital within the industry will increase and the likelihood of diversifying capital out of the industry will decrease when capital becomes more specific to the industry. Then, I test empirically these relationships using data from U.S. manufacturing industries from 1987 to 2001. In general, the empirical findings show some support for the theoretical prediction.