Does Forecasted Operating Synergy Explain Merger-Induced Capital Structure?

We estimate operating synergies from a unique hand-collected dataset on management's forecasts of merger incremental cash flows. We find that forecasted synergies induce acquirers to make leverage-increasing acquisitions. Institutional investors and bidders' credit rating enhance that relation and certify synergy forecasts. We find that forecasted synergies also enhance post-merger debt capacity. Synergies encourage acquirers to make acquisitions leading to larger overleverage too. Conversely, overpaying acquirers engage in leverage-reducing acquisitions. The larger the forecasted synergies, the more positive the market response to the announcement of leverage-increasing and over-levered deals, supporting the view that such bidders will have better payment ability and may put the leverage into good use in the future. Results support dynamic trade-off theory indicating that firms proactively alter their leverage towards a value-maximizing target. Results are confirmed using Propensity Score Matching technique