*Indicates significance at 2% level.
†Significance at 1% level.
‡Significance at 5% level.
Source: Mueller (1980).
Healy, Palepu, and Ruback (1992) studied the postacquisition accounting data for the 50 largest U.S. mergers between 1979 and mid-1984, and use industry performance as a benchmark against which acquirers’ performance may be tested. Asset productivity improves significantly for these firms following acquisition, which contributes to higher operating cash flow returns relative to their nonacquiring peers. Acquirers maintain their rates of capital expenditure and R&D relative to their industries, suggesting that the improved performance is not at the expense of fundamental investment in the business. Most importantly, the announcement returns on stock for the merging firms is significantly associated with the improvement in postmerger operating performance, suggesting that anticipated gains drive the share prices at announcement.
FINDINGS ABOUT THE DRIVERS OF PROFITABILITY
The studies yield a number of interesting insights about the determinants of M&A profitability.
Expected synergies are important drivers of the wealth creation through merger. Houston, James, and Ryngaert (2001) studied the association of forecasted cost savings and revenue enhancements in bank mergers and found a significant relationship between the present value of these benefits, and the announcement day returns. The market appears to discount the value of these benefits, however, and applies a greater discount to revenue-enhancing synergies, and a smaller discount to cost-reduction synergies. De-Long (2003) also studied bank mergers and found that investors responded positively to mergers where one partner was inefficient, and where the merger focuses geography, activity, and earnings: All are symptomatic of synergy gains. Chapter 11 discusses the valuation of synergies and its impact on share prices.
Value acquiring pays, glamour acquiring does not. Rau and Vermaelen (1998) found that postacquisition underperformance by buyers was associated with “glamour” acquirers (companies with high book-to-market value ratios). Value-oriented buyers (low book-to-market ratios) outperform glamour buyers. Value acquirers earn significant abnormal returns of 8 percent in mergers and 16 percent in tender offers, while glamour acquirers earn a significant –17 percent in mergers and insignificant +4 percent in tender offers.
Restructuring pays. Chapter 6 summarizes the research findings on restructurings, divestitures, spin-offs, carve-outs, and the debate over whether diversification pays better than a strategy of focus. The sale or redeployment of underperforming businesses is greeted positively by investors. But whether diversification helps or hurts is a matter of debate today. Informed wisdom these days probably sides with the antidiversification stance, though new findings suggest that it is not diversification or focus that matter. Rather it is continually reshaping the business to respond to the environment that matters.
M&A to build market power does not pay. Studies by Ravenscraft and Scherer (1987), Mueller (1985), and Eckbo (1992) reveal that efforts to enhance market position through M&A yield no better performance, and sometimes worse. Studies by Stillman (1983) and Eckbo (1983) find that share price movements of competitive rivals of the buyer do not conform to increases in market power by buyers. The studies suggest that the sources of gains from M&A do not derive from anticompetitive combination of firms.
Paying with stock is costly; paying with cash is neutral. Chapter 20 reviews the research on how form of payment is associated with returns to investors. Asquith, Bruner, and Mullins (1987), Huang and Walkling (1987), Travlos (1987), Yook (2000), and Heron and Lie (2002) found that stock-based deals are associated with negative returns to the buyer’s shareholders at deal announcements, whereas cash deals are zero or slightly positive. This finding is consistent with theories that managers time the issuance of shares of stock to occur at the high point in the cycle of the company’s fortunes, or in the stock market cycle. Thus, the announcement of the payment with shares (like an announcement of an offering of seasoned stock) could be taken as a signal that managers believe the firm’s shares are overpriced.
Returns vary over time. The studies show a slight tendency for bidder returns to decline over time: Returns appear to be higher (more positive) in the 1960s and 1970s than in the 1980s and 1990s, except for deals in technology and banking, where returns to bidders increase in the 1990s.10 Moeller et al. (2003) reported a dramatic decline in bidders’ returns from 1997 to 2001. Fan and Goyal (2002) found that the average return to bidders and targets combined rises from 1962 to 1996.
M&A regulation is costly to investors. Wier (1983) and Eckbo (1983) found evidence suggesting that Federal Trade Commission antitrust actions benefit competitive rivals of the buyer and target. Jarrell and Bradley (1980) and Asquith, Bruner, and Mullins (1983) found that returns to merging firms were significantly higher before than after implementation of the Williams Act of 1968. Schipper and Thompson (1983) considered four regulatory changes between 1968 and 1970, and found wealth-reducing effects associated with increased regulation.
Rule of laws and property rights matter in cross-border deals. Chapters 5 and 12 discuss the impact of country risks on the success of cross-border mergers. Kuipers et al. (2003) found that “foreign acquirers earn significantly higher returns when the rule of law is strong in their country, and their associated U.S. targets earn significantly lower acquisition premiums.” (
