Subsidiary Debt, Diversification, and Debt Pricing

Author: Michaela Altieri (Goethe University and SAFE)

Title: Subsidiary Debt, Diversification, and Debt Pricing

Abstract: I examine the relationship between subsidiary debt and the cost of borrowing of multi-segment firms. I take advantage of a new regulation on segment reporting to show that multi-segmentms issuing not subsidiary public debt have a 25% higher cost of debt with respect to similar stand-alone firms. While subsidies to low-growth opportunity segments increase firm value, they also increase the agency cost of debt for multi-segment firms. Therefore, the public debt of subsidiary firms solves this friction on the internal capital allocation. Consistent with the agency argument, I also show that multi-segment firms issue subsidiary debt after the reform when the volatility of the cash flow increases. Overall, the paper shows that the subsidiary debt is a key distinctive in determining the financing policy of multi-segment firms.