A Comment on "Business Combinations: An Exchange Ratio Determination Model".

Abstract The article comments on an article dealing with business combinations. Economists encounter serious difficulties in trying to provide motives for the merger phenomenon. In the case of horizontal and vertical mergers, the expected benefits from economies of scale seem to provide an acceptable explanation for the merger. However, this motive cannot explain the more popular kind of business combination, the conglomerate merger, where the economic functions of partners in the merger are unrelated and hence no economies of scale are expected. In imperfect capital markets, the situation is no longer so clear cut. It can be argued that if risk reduction via merger can be achieved less costly than by rearranging individual portfolios, then the economic benefit of such a business combination is apparent. This will be the case when transaction costs involved in a merger are lower than the sum of transaction costs paid by stockholders diversifying their portfolios. The exchange ratio problem is one of conflict among parties who can gain by cooperation despite their opposing interests.