Abstract
Cross-owners, investors who have stakes in both the acquiring and target firms, are likely to focus on the total portfolio wealth effects from mergers and acquisition transactions, rather than the wealth effects of the target or bidder. Cross-owners may be less concerned with value destroying deals because their lack of gains, or even losses, as ownership in the acquiring firm can be offset by benefits derived from their ownership in the target firm. In contrast, shareholders with no cross-ownership, but own shares in either the target or the acquiring firm only, consider the value prospects for the target, thus producing heterogeneous incentives among shareholders to accept an offer. We investigate this heterogeneity within targets of 481 US negative premium deals and find substantial heterogeneity in acquisition incentives within the target firm shareholder base. Target shareholders in negative premium acquisitions experience negative wealth effects, but institutional cross-owners of negative acquisition premium deals realize positive wealth effects. We also find strong evidence of a size effect, where the observed wealth effects are amplified in larger deals. The divergent interests within the target shareholder base, with the attendant heterogeneous incentives to support deals, limits the monitoring capacity of institutional owners in negative premium deals.
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Notes
Conversely, greater ownership concentration may reduce firm value by over-monitoring, as it could discourage managers from making costly firm-specific investments, thereby missing out of profitable investment opportunities (Aghion and Tirole 1997).
Other effects that stem from cross-ownership have also been identified within the context of intra-industry competition. He and Huang (2017) investigate the effects of institutional cross-ownership of same-industry firms on product market performance and behavior. They find that cross-ownership by large institutional owners is beneficial for the cross-owned firm through product market collaboration (e.g., joint ventures) and improved innovation and operating profitability. Azar et al. (2018), however, report evidence of anticompetitive effects of cross-ownership within the airline industry.
Harford et al. (2011) conduct a shareholder-level analysis of cross-ownership and report evidence that the size of cross-holdings is too small to influence acquisition incentives. They find that bidders do not bid more aggressively, even when cross-ownership stakes are large, and they contend that cross-ownership does not explain value-reducing acquisitions. Furthermore, using a sample of takeovers in the United Kingdom, Becht et al. (2016) find that cross-holdings are too small to affect voting outcomes.
The M&A literature, including Schwert (1996), has shown that anticipation of an acquisition attracts informed trading, which can cause a high run-up in the target stock price prior to an announcement. The price of the target firm 4 weeks prior to the acquisition announcement serves as a good cutoff point to avoid including the price-run up in the calculation of the acquisition premium.
In addition to the premium calculated based on the target market value four weeks prior to the announcement, premium based on target valuations one week and one day prior to the announcement were also constructed. The differences among these samples is negligible; therefore, we use premium based on market values 4-week prior to the acquisition.
The use of this screen is standard in the M&A literature (e.g., Chemmanur et al. 2009). This criterion ensures that the proposed deal has a material impact on the acquirer’s future performance.
We evaluate the effectiveness of our PSM methodology by testing for mean and median differences in the matching criteria. We detect no significant difference in the variables between the test and control sample after the matching, and we therefore conclude that our PSM matching procedure is effective. We do not show the results of this matching procedure here for the sake of brevity; however they are available upon request.
The negative premium deal is therefore similar to fire-sales, where the price paid for the assets as well as prevailing market prices are below the assets best use (Eckbo and Thorburn 2008; Coval and Stafford 2007; Ang and Mauck 2011). Negative premium deals differ from fire-sales in that the former deals are not automatic as is often the case in fire-sale bankruptcy. Furthermore, a negative premium offer involves a price paid for target shares that is lower than prevailing market prices, but in fire-sales, there is no alternative for the sale of shares since the shares of firms in fire-sale are often suspended or have ceased to trade (Eckbo and Thorburn 2008).
Transaction cost economics provides a similar explanation of unrelated firm pairs and asset intangibility. Riordan and Williamson (1985) argue that the more specific the asset is to the operation at hand, the more difficult it is to price that particular asset, since the market for that asset is much less liquid. Furthermore, there may be additional costs associated with transferring assets of high specificity to alternative uses, thereby reducing the price paid by acquiring firms for target assets.
This is motivated by Moeller et al. (2004) who find that deal size is an important determinant of merger returns.
The daily price path of the negative premium target’s stock at the time of the bid announcement suggests that the market responds differently to a negative premium bid than the typical bid involving a positive premium, as the movement in the 3 days around announcement (day = −1, 0, + 1) is larger in magnitude for positive premium targets. Negative premium bids account for 3.7% of total deals during the observed period, so it is an uncommon occurrence. The smaller magnitude in the negative premium target price response may be explained by the market participants’ lack of familiarity with negative premium bids.
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Acknowledgements
We would like to thank the anonymous referees and Cheng-Few Lee (the editor) for insightful comments and suggestions. Comments from seminar participants at the 25th Annual Global Finance Conference are also acknowledged. We are responsible for any remaining errors. Erin acknowledges financial support from the Social Sciences Humanities Research Council (SSHRC) Doctoral Fellowship, Grant #752-2015-1266.
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Erin Oldford, Social Sciences Humanities Research Council (SSHRC) Doctoral Fellowship #752-2015-1266.
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Appendices
Appendix 1: Variable definitions
Variable ID | Description |
|---|---|
AssetIntangDummy | Dummy variable, equals 1 if there is target operates in high technology industry, and 0 otherwise (Cao and Madura 2011) |
BidderCompDummy | Dummy variable, equals 1 if the transaction involves more than one bidder |
CashDummy | Dummy variable, equals 1 if transaction is financed with all-cash |
CrossDummy | A dummy variable that equals one if the firm is cross-held by institutional owners in any of the four quarters in the year of the acquisition and zero otherwise |
DebtMarketLiquidity | Debt market liquidity: Commercial and industrial loans > $1 m (Officer 2007) |
EPS growth | The growth in earnings per share (EPS) from the previous year to the current year |
EquityMarketLiquidity | Equity market liquidity: IPO volume (Officer 2007) |
ICR | Interest coverage ratio = Interest expense / EBIT |
LogTA | Log of total assets for the target firm |
logTA_Bidder | Log of total assets for the bidding firm |
NegPrem | Sample deals involving a negative acquisition premium |
NumCross | The number of common institutional blockholders to the target and acquiring firm |
PosPrem | Sample deals involving a positive acquisition premium |
RelatedDummy | Dummy variable, equals 1 if there is target and bidder share the same SIC code, and 0 otherwise |
ROA | Return on assets = Net income / Total Assets |
TargetInitiatedDummy | Dummy variable, equals 1 if there is deal was initiated by the target firm (as determined by press coverage on Factiva), and 0 otherwise |
TenderOfferDummy | Dummy variable, equals 1 if the transaction is a tender offer, and 0 otherwise |
Tobin's q | Total market value of the firm / total asset value of the firm |
ToeHoldDummy | Common shares owned by acquirer at announcement |
TotalCrossOwn | The sum of the percentage of holdings of all cross-holding institutions in the sample firms (He and Huang 2017) |
Appendix 2 Figures
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Oldford, E., Otchere, I. Institutional cross-ownership, heterogeneous incentives, and negative premium mergers. Rev Quant Finan Acc 57, 321–351 (2021). https://doi.org/10.1007/s11156-020-00946-1
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DOI: https://doi.org/10.1007/s11156-020-00946-1