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Bustup Takeovers of Value‐Destroying Diversified Firms
Abstract
The authors examine whether the value loss from diversification affects takeover and breakup probabilities. They estimate diversification's value effect by imputing stand-alone values for individual business segments and find that firms with greater value losses are more likely to be taken over. Moreover, those acquired firms whose losses are greatest are most likely to be bought by leveraged buyouts associations, which frequently break up their targets. For a subsample of large diversified targets, higher value losses increase the extent of posttakeover bustup and post-takeover bustup generally results in divested divisions being operated as part of a focused, stand-alone firm. Copyright 1996 by American Finance Association.
... The creation of a diversified firm may lead to advantages such as a reduction of financing costs and information gaps, and could on average contribute to outperformance relative to industry-related peers (Stein, 1997;Burch & Nanda, 2003;Ghosh, 2001). However, the disadvantages, such as lower R&D spending, increased inefficiency and reduced effectiveness of internal control systems, appear to be more substantial (Stimpert & I.M., 1997;Berger & Ofek, 1996). Empirical research indicates that industrial diversification occasionally results in a reduction of firm value. ...
... According to the agency theory, industry diversification could lead to increased complexity, causing the acquisition to be manager-specific and thus making the manager costly to replace (Shleifer & Vishny, 1989). Berger and Ofek (1996) investigated the so-called "conglomerate discount", suggesting that the values of the individual firms are higher than the combined value. The findings are compelling; on average, the conglomerate is worth 12% to 15% less than the sum of its counterparts. ...
... In Berger & Ofek (1996), diversified firms appear to perform significantly lower, compared to the scenario when they operated as stand-alone business. In the context of industry diversification, the agency theory could explain at least part of the value destruction, by means of managerial entrenchment. ...
This research provides additional evidence on the effects of mergers and acquisitions on the operational performance of target firms, which are located in Germany and operate in industrial manufacturing. The research contains two comprehensive analyses of 45 and 70 target firms, originating from deals completed between 2009 and 2011, and uses three performance metrics. By employing four established estimation methods, tracing operational performance data from 2007 to 2014, the study concludes an overall increase in operational performance, following an acquisition. In line with research on the agency
theory, target firms are found to be underperforming relative to industry peers, prior to acquisition. Moreover, negative effects are documented for industrial related acquisitions, private equity transactions and cross-border deals, although none of the deal-characteristics are consistently statistically significant.
In contrast to existing literature, convincing post-acquisition outperformance of large firms is observed, relative to strong post-acquisition underperformance of small firms.
... Diversification often increases the cost of operation, causing conflict in form of greater managerial and organizational complexity (Chakrabarti et al.. 2007). Berger and Ofek (1995) have examined the effects of diversification of products or services and (Ghoshal 1987) examines the international diversification on corporate performance. ...
... Diversification often increase operating costs, leading to conflicts in the form of greater managerial and organizational complexity (Chakrabarti et al.. 2007). The effect of diversification of products or services have been studied by Berger and Ofek (1995). Meanwhile, Ghoshal (1987) examined the effect of international diversification on corporate performance. ...
This paper investigates the causal relationship between environmental complexity, policy of Bank Indonesia, diversification strategy, and performance in the banking industry. Data banking industry in East Java, in 2007-2009, is used. Structural Equation Modelling (SEM) was used as an analytical tool. Diversification strategies are grouped into related-diversification strategy (bank's main income) in form interest-based income and unrelated-diversification strategy (fee-based income), income that is outside the interest income (other services). The study findings suggest the diversification strategy is able to mediate relationship between environmental complexity with performance, but related-diversification strategy can not improve performance. Similarly, today bank has been change the banking strategy of related-diversification into unrelated-diversification. The higher complexity of environment, the greater need for BI intervention (BI policy). These findings provide important implications for bank managers and regulators in Indonesia, particularly banks in East Java.
... While some studies suggest that geographic expansion reduces risk because it decreases monitoring and financial distress costs (Diamond, 1984;Ramakrishnan and Thakor, 1984;Boyd and Prescott, 1986;Gropp et al. 2011;Goetz et al., 2016), others suggest that geographic expansion increases risk because it becomes more complex for banks to monitor and manage risk (Jensen, 1986;Berger and Ofek;1996;Serves, 1996;Denis et al., 1997, Winston 1999Brickley et al., 2003 andBerger et al., 2005). ...
... While some studies suggest that geographic expansion reduces risk because it decreases monitoring and financial distress costs (Diamond, 1984;Ramakrishnan and Thakor, 1984;Boyd and Prescott, 1986;Gropp et al. 2011;Goetz et al., 2016), others suggest that geographic expansion increases risk because it becomes more complex for banks to monitor and manage risk (Jensen, 1986;Berger and Ofek;1996;Serves, 1996;Denis et al., 1997, Winston 1999Brickley et al., 2003 andBerger et al., 2005). ...
... Empirical evidence on the inefficient management hypothesis and the existence of the MCC is generally mixed and inconclusive. Prior studies either find no support for or evidence against the inefficient management hypothesis (Franks and Mayer, 1996;Berger and Ofek, 1996;Agrawal and Jaffe, 2003). 1 Notwithstanding, some contradictory empirical evidence supports the existence of a thriving MCC (Asquith, 1983;Lang et al., 1989). ...
... 1 Additionally, these studies find that targets earn negative but insignificant abnormal returns, zero returns and positive abnormal returns in the period prior to acquisitions (Jensen and Ruback, 1983). Berger and Ofek (1996) also find that a firm's return on equity ratio does not affect its probability of being acquired. From an extensive literature review and an empirical study looking at both target accounting and stock market performance, Agrawal and Jaffe (2003) conclude that there is little evidence to support the assertion that underperforming firms are more likely to become takeover targets. ...
Using combinations of accounting and stock market performance measures, we advance a comprehensive multidimensional framework for modelling management performance. This framework proposes “poor” management, “myopia”, “hyperopia” and “efficient” management, as four distinct attributes of performance. We show that these new attributes align with, and extend, existing frameworks for modelling management short-termism. We apply this framework to test the management inefficiency hypothesis using UK data over the period 1988 to 2017. We find that takeover likelihood increases with “poor” management and “myopia”, but declines with “hyperopia” and “efficient” management. Our results suggest that managers who focus on sustaining long-term shareholders value, even at the expense of current profitability, are less likely to be disciplined through takeovers. By contrast, managers who pursue profitability at the expense of long-term shareholder value-creation are more likely to face takeovers. Finally, we document the role of bidders as enforcers of market discipline.
Keywords: Hyperopia, inefficient management hypothesis, management performance, myopia, takeovers
JEL Classifications: G14, G32, G34, M41<br/
... Again research on bank diversification has been varied and extensive, on; the impact of diversification across markets on deposit rates (Radecki, 1998;Barros, 1999); the effect of diversification on bank market valuation (Laeven and Levine, 2007;Deng and Elyasiani, 2008;Schmid and Walter, 2009) and the linkage between diversification and performance (Berger et al., 2010). Indeed the focus of most of these studies has been on the benefits from economies of scope, managerial skills and efficiency (Petersen and Rajan, 1994;Iskandar-Datta and McLaughlin, 2007;Drucker and Puri, 2009) or the costs (Berger and Ofek, 1996;Servaes, 1996;Denis et al., 1997;Berger et al., 2010) and associated risks with diversification (De Young and Rolands, 2001;Stiroh, 2004a;Lepetit et al., 2007). ...
... The argument against diversification hinges around the issue of focusing on the traditional line of business for a bank for maximum advantage from specialisation. It is argued that diversification results in a lack of focus and creates higher associated costs and reduced profits (Berger and Ofek, 1996;Servaes, 1996;Denis et al., 1997;Berger et al., 2010). ...
... However, both strategies can also be value-destroying. Due to concerns of managerial agency, firms are often discouraged from conducting unrelated acquisitions (Fama & Jensen, 1983) as studies show that managers prefer to use diversifying acquisitions as an instrument to reduce their own risks related to unemployment and personal wealth (Berger & Ofek, 1996). For related deals, paying significant premiums can be a serious concern for shareholders as it leads to value-destruction. ...
... Similarly, unrelated domestic deals are often concerning for shareholders. Shareholders face agency concerns in these deals as management may use them to boost job security as well as personal wealth (Berger & Ofek, 1996 A final important consideration for the market is deal complexity. Prior literature in managerial discretion suggests that task environment complexity alters the role of managerial discretion in a positive way (Boyd, 1995;Finkelstein & D'Aveni, 1994). ...
Financial implications for buyers in mergers and acquisitions (M&A) have been a topic of fascination with academics and practitioners for decades. Despite extensive business research dedicated toward investigating whether and how acquirers perform financially in the short and long terms following M&A, so far, the clarity of our understanding about these issues remains elusive. This doctoral thesis seeks to bring more clarity to these questions by examining complex interactions among several key aspects of M&A. Chapter 1 investigates how acquirer experience influences long-term performance through key pre- and post-transaction decisions and how such indirect influence differs in domestic and cross-border contexts. Chapter 2 explores the configurations of deal and acquirer characteristics as well as acquirer corporate governance mechanisms corresponding to positive acquirer cumulative abnormal returns (CAR). Chapter 3 investigates the interactive effects among host countries’ formal institutions, acquirer characteristics and corporate governance mechanisms on acquirer CAR. Finally, Chapter 4 examines the influence of business news reports on acquirer CAR.
... Again research on bank diversification has been varied and extensive, on; the impact of diversification across markets on deposit rates (Radecki, 1998;Barros, 1999); the effect of diversification on bank market valuation (Laeven and Levine, 2007;Deng and Elyasiani, 2008;Schmid and Walter, 2009) and the linkage between diversification and performance (Berger et al., 2010). Indeed the focus of most of these studies has been on the benefits from economies of scope, managerial skills and efficiency (Petersen and Rajan, 1994;Iskandar-Datta and McLaughlin, 2007;Drucker and Puri, 2009) or the costs (Berger and Ofek, 1996;Servaes, 1996;Denis et al., 1997;Berger et al., 2010) and associated risks with diversification (De Young and Rolands, 2001;Stiroh, 2004a;Lepetit et al., 2007). ...
... The argument against diversification hinges around the issue of focusing on the traditional line of business for a bank for maximum advantage from specialisation. It is argued that diversification results in a lack of focus and creates higher associated costs and reduced profits (Berger and Ofek, 1996;Servaes, 1996;Denis et al., 1997;Berger et al., 2010). ...
... However, Morgan and Samolyk (2003) suggest that, depending on preferences, diversification could lead to an increase in risk. Berger and Ofek (1996), Servaes (1996) and Denis et al. (1997) indicate that it is beneficial for banks to concentrate on specialized products with management's expertise and to leave investors themselves to diversify. According to Lang and Stulz (1994), Berger and Ofek (1995), Boyd et al. (1998) and Park (2000), diversification in the banking industry is linked to an increasing risk of insolvency owing to the conflicts of interest between managers and shareholders, as well as between managers and debt holders. ...
This paper analyzes the effects of banking diversification and focus strategies on the profitability and risk of Chinese banks in the post-crisis years (2008–2019). For this purpose, semiparametric estimates are used. The main results indicate that Chinese banks do not gain much benefit in terms of profitability and risk from following income or asset diversification strategies, although the former are more beneficial than the latter. These results have important implications for the design of specific diversification strategies for different types of banks. Results suggest that state-owned banks could benefit from a greater degree of diversification to obtain more profits and simultaneously decrease their risk levels, while national shareholding commercial banks and city commercial banks should evaluate these strategies with more caution as the benefits from them are less obvious.
... Diversified firms are able to maintain more stable revenue streams by not being highly reliant on any single asset class (Pfeffer and Salancik 1978). However, some scholars argue that when external capital markets became efficient (beginning in the 1980s), inefficient internal capital markets (Shin and Stulz 1998), higher agency costs (Jensen 1986), and the strategy of diversification may have led to value loss and increased the possibility of bust-up takeovers (Berger and Ofek 1996). ...
... A part of the literature claimed the positive side of diversification on the firms' performance, reducing the risk and improving the stability of the firms (Drucker & Puri, 2009;Senyo et al., 2015;Nisar et al., 2018). At the same time, the other part found the opposite results (Banerjee & Velamuri, 2015;Berger & Ofek, 1996;Jensen, 1986;Servaes, 1996). However, the need at present is to shift the approach of the management towards a strategic viewpoint regarding the level of diversification. ...
Personality and Emotions are essential attributes that differentiate one individual from another. A thorough understanding of both constructs can be beneficial for uncovering the linkages in human behaviour. This review sought to determine whether emotional intelligence (EI) was only a measure of personality traits or a distinct concept. In this article, a systematic review is presented of the relationship between personality traits and emotional intelligence, through a review of 80 research papers spanning from the year 2000 to 2021. Papers have been critically
examined to identify the type of study, sample and models that have been employed over the years. Interest in this topic has gradually increased over the years and continues till today. The findings suggest that there is a relational and predictive relationship between emotional intelligence and personality traits; however, the results can vary depending on the combination of measures used. Additionally, personality traits are more closely associated with trait EI than ability EI. Despite the strong correlation between the two constructs, EI has been shown to be a reliable predictor of other variables beyond personality traits. Relation between EI and personality traits can vary among young and older individuals but the data available to support this claim is insufficient. The findings and research gaps that were
identified through this review have relevance for many different research domains.
... (Ramkrishnan and Thankor 1984) argued that diversification of income by banks increases banks credibility of overcoming information asymmetry while assessment of loan applications and monitoring of loans already approved. Studies also indicate that banks focus on only one area exploits the managerial competency and expertise of banks (Berger and Ofek 1996). ...
... This estimator includes a finite number of moment restrictions and control for serial correlation in both balanced and unbalanced panel data sets. The advantage of the first- 29 For more analysis about the advantages and disadvantages of diversification, refer to the following papers: Jensen (1986), Berger and Ofek (1996), Denis et al. (1997), and Servaes (1997). 30 Those formulations include error-component regression models, seemingly unrelated regressions with error-components, and simultaneous equations with error-components (Biglaiser and Brown, 2003). ...
This study contributes to the relevant literature in five ways. First, the study provides
more evidences on how real activities, such as privatization, affect the development of
financial sector. Second, by examining the impact of privatization on financial structure, the study provides more evidence on how privatization has a relative different impact on the development of the banking sector compared to the financial market. Third, by applying new theoretical approaches, the study provides a new analysis on the choices of financing of privatized firms. In the Egyptian context, this enriches the relevant literature by providing new evidence on how privatization affects the financial decisions of privatized firms. Fourth, the study contributes to the relevant literature by examining the lending and risk-taking behavior of privatized banks. Fifth, a uniqueness of the study is the identification of main differences among privatized firms, other publicly listed firms, and state-owned firms. In addition, the study identifies the main differences among privatized financial institutions and privatized non-financial institutions. The study constructs a new dataset that includes data about these firms and institutions.
Previous empirical studies, e.g. Kikeri, et al., 1994, Torino, 2003, Segal, 2004, Kotler
and Lee, 2007, focused mainly on the impact of privatization on investments, foreign direct investment, employment, budget deficit, market competition, economic growth, the
performance of the financial sector, and overall economic welfare, in particular in developed countries. Those studies ignored another important dimension with respect to the relationship between the privatization and the financial structure. In addition, while those studies focused on the impact of privatization on the banking sector performance and stock market returns, they ignored the different relative impact of privatization on the banking sector compared to the financial market. In addition, those studies ignored the choices of financing of privatized firms, and if exists, they focused on cross-country analysis and ignored such analysis at country-level, in particular in developing countries.
... Several empirical tests have supported an inverse relationship between capital concentration and diversification strategy (Mak and Lim, 1999;Lins and Servaes, 1999;Cappa et al., 2020). Large shareholders prefer specialization rather than diversification because the latter contributes to the deterioration of the value of the share (Lane et al., 1998;Berger and Ofek, 1996). ...
The purpose of this article is to study the influence of internal governance mechanisms on the diversification and growth strategy of Saudi firms in the non-oil sector. Considering a sample of 70 Saudi companies observed over the period 2006-2014 and using the Linear Regression method, correlated panels, corrected standard errors (PCSEs). Our empirical results show the structure of the board of directors that motivates Saudi firms to run less risk and diversify all activities rather than refocus the group's activity. We have shown that the presence of the largest shareholder has a positive effect on the diversification strategy. These results support our basic assumptions that firms with a high concentration of capital favor diversification rather than the risk that accompanies the growth of the firm's overall activities. In line with our reasoning and consistent with previous research, our main contribution is that the control mechanisms are not neutral with regard to the diversification strategy. The verification of these assumptions in the Saudi context makes it possible to enrich the verification of the positive relationship between governance and the diversification of firms.
... Generally, the investigation following agency theory identifies a negative effect of the existence of largeblock shareholders on the level of diversification (Amihud and Lev, 1981;Berger and Ofek, 1995;Denis et al., 1997). As a consequence, diversification is advantageous for the managers, but it's not the case for the shareholders, where it reduces the value of the firm (Berger and Ofek, 1996). According to the strategic approach, studies show an absence of a link between Controlling shareholders and diversification (Lane et al., 1998;. ...
This study examines the ownership characteristics that influence the decision to diversify. The Logit model was used to show that ownership structure influences the probability of diversification. Empirical tests show that the presence of the first large shareholder increases the probability of diversification during the financial crisis period. This behavior is observed for the coalition of second and third shareholders only for periods during and after the crisis. The average level of probability for firms to be diversified is between 20% and 50%. Furthermore, results show that industrial firms and more willing to be diversified than firms in the financial sector.
... Diversified firms are able to maintain more stable revenue streams by not being highly reliant on any single asset class (Pfeffer and Salancik 1978). However, some scholars argue that when external capital markets became efficient (beginning in the 1980s), inefficient internal capital markets (Shin and Stulz 1998), higher agency costs (Jensen 1986), and the strategy of diversification may have led to value loss and increased the possibility of bust-up takeovers (Berger and Ofek 1996). ...
Researchers have paid little attention to the situation of revenue diversification in social enterprises. This paper addresses this issue by exploring the nature of revenue diversity in social enterprises in China, and its relationship with financial health. A logistic regression analysis for a sample of 372 social enterprises indicated that the enterprises had low levels of revenue diversification, and their revenue structures varied among the subsectors in which they operate. Revenue diversification had a significant negative impact on financial health, but the effects were more than offset after considering the total income. Implications for social entrepreneurs are discussed.
... (Ramkrishnan and Thankor 1984) argued that diversification of income by banks increases banks credibility of overcoming information asymmetry while assessment of loan applications and monitoring of loans already approved. Studies also indicate that banks focus on only one area exploits the managerial competency and expertise of banks (Berger and Ofek 1996). ...
... Based upon the past evidence, existing literature can be divided into four groups. One group of researchers declares benefits of revenue diversification (Grossman, 1994;Hughes et al., 1994;Berger and Ofek, 1996;Campa and Kedia, 2002;Landskroner et al., 2005;Baele et al., 2007;Sanya and Wolfe, 2011;Mercieca et al., 2007) while others discussed the negative trade-off between diversification and risk-adjusted performance (Lepetit et al., 2008;Craigwell and Maxwell, 2006;Ismail et al., 2015;DeYoung and Roland, 2001;Carlson, 2004;Stiroh, 2004;Acharya et al., 2006;Stiroh and Rumble, 2006). The third group of researchers insisted that diversification is irrelevant to firms' performance (Goddard et al., 2008;Amidu and Wolfe, 2013;Armstrong, 2014;Aslam et al., 2015). ...
Purpose
The purpose of this study is to review the literature related to the influence of revenue diversification on banking sector performance. Further, the determination of the scope and the empirical estimation of the revenue diversification is also the area of investigation to synthesis with future research area.
Design/methodology/approach
The systemic literature review process used by Opoku et al. (2015) is applied. In total, 68 Journal articles are studied after applying specified review protocols. The information gathered from the selected articles is presented and summarized in specified tables and charts formats for easy understanding.
Findings
The comprehensive literature review showed that much of the work in this area is done in the USA and the Asian region. To explore the impact of revenue diversification on banking performance in developing countries is a literature gap. While going through the existing literature, it is clear that researchers have not reached at any conclusion about the exact impact of revenue diversification on banking performance. It is also found that non-interest income ratio and Herfindahl-Hirschman index (HHI) (revenue) index are the most common proxies of revenue diversification. However, other studies also input the HHI (loans) index, number of ATM’s and number of branches as a proxy for diversification.
Research limitations
This systematic literature review is based on specific review protocols, and therefore, it might be possible that some of the important work is not included in it due to time restrictions.
Originality/value
The banking sector has shown tremendous growth in revenue sources in past two decades. Keeping in view the importance of the banking sector within an economy, the dramatic shift of revenue sources and their impact is important to determine that eventually will help to define the future research area. In past research studies, there exists clear disagreement about the possible impact of revenue diversification on banking performance. This systemic literature review is an attempt to draw conclusions about the exact impact of revenue diversification. Therefore, the outcome of the study will be very valuable for both banking practitioners and academicians.
... On the other hand, some studies, for example, by Berger and Ofek (1996) and Denis et al. (1997) argue that the costs of diversification might outweigh the benefits. Proponents of focus argue that diversified banks can suffer from diluting the comparative advantage of management by going beyond their existing expertise (Klein and Saidenberg 1998), competition induced by diversification (Winton 1999), and increased agency costs resulting from value-decreasing activities of the managers who have lowered their personal risk (Laeven and Levine 2007). ...
In this paper, we develop a contingent claim model to examine the optimal bank interest margin, i.e., the spread between the domestic loan rate and the deposit market rate of an international bank in distress. The framework is used to evaluate the cross-border lending efficiency for a bank that participates in a government capital injection program, a government intervention used in response to the 2008 financial crisis. This paper suggests that government capital injection is an appropriate way to recapitalize the distressed bank, enhancing the bank interest margin and survival probability. Nevertheless, the government capital injection lacks efficiency when the bank’s cross-border lending is high. Stringent capital regulation, suggested to prevent future crises by literature, leads to superior lending efficiency when the government capital injection is low.
... When banks limit the range of companies only to downstream sectors, the credit risk significantly increases and frequently leads to the banks' collapse. Conversely, Jensen [1986] and Berger and Ofek [1996] provide evidence against diversification. They argue that banks focusing on crediting entities from a narrow range of economic sectors achieve greater profits due to enhancing specialization, improving managerial skills and achieving economies of scale in their operations. ...
The relaxed monetary policy of central banks conducted after the global financial crisis has led to the establishment of zero or even negative interest rates. Based on data from the ECB and central banks of the EU Member States for the years 2008–2016, it has been noted that the long-term maintenance of ultra-low interest rates contributes to a reduction in net interest margin and interest income, particularly in smaller banks and retail banks. Banks systematically increase the share of non-interest income in the structure of income from banking activity. The largest category of such income is fees and commissions, largely related to the performance of deposit and credit activities. The second sources of non-interest income are the bank trading activities. That income is characterized by the highest volatility, which makes it a source of risk and cannot be treated as a stabilizer of banks’ income during times of economic downturn and slowing down in lending.
... The pursuit of unrelated diversification strategies is easily observable to external parties. If firms with unrelated diversification strategies are perceived as underperforming, they often come under pressure to reduce their diversification through divestment or demerger (Hamilton and Chow, 1993;Haynes et al., 2000), or otherwise become subject to takeover (Berger and Ofek, 1996). As a result, the performance consequences of unrelated diversification among the fewer remaining firms pursuing this strategy will have become better because firms with greater capacities to manage unrelated diversification should have faced less pressure to de-diversify (Mackey et al., 2017). ...
We study the relationship between diversification and firm performance in the context of the decline in levels of diversification over time. We argue that the pressure to reduce diversification may have more strongly affected those firms whose diversification strategies were most detrimental to firm performance. We employ meta‐analytical regression (MARA) in order to test our hypotheses, using a total of 267 primary studies containing 387 effect sizes based on 150,000 firm‐level observations from over 60 years of research on the diversification–firm performance relationship. The findings suggest that levels of unrelated diversification have decreased, whereas levels of related diversification have increased since the mid‐1990s, following an initial decrease in the 1970s and 1980s. Furthermore, we find that the relationship between unrelated diversification and firm performance has improved significantly over time, whereas the relationship between related diversification and performance has remained relatively stable.
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... , Chow and Kritzman(2001), Clarke et al.(2002), Kaya et al.(2012), Philips and Liu(2011), Sharpe(2002)등을 포함하고, 국내에는 남재우, 황정욱(2013), 신성환(2002), 최영민 (Diamond, 1984;Ramakrishnan and Thakor, 1984). 다른 한편으로, 다각화는 이해상충(conflicts of interests) 등의 문제를 초래하여 금융기관의 성과에 악영향을 미칠 가능성이 있다는 점도 제시되었다 (Berger and Ofek, 1996). ...
Research Summary
From the perspective of the divesting firm, do divestitures to private equity (PE) acquirers perform differently from divestitures to corporate acquirers? If so, why? This question‐based, empirical study shows that on average, divestitures to PE acquirers correlate with lower divesting firms' shareholder returns than divestitures to corporate acquirers. The study explores whether these lower returns when divesting to PE acquirers are explained by the differences in PE acquirers' distinct value creation strategies when it comes to target selection, ownership, or transaction timing. The results reveal that divesting firms' lower shareholder returns when divesting to PE acquirers are more likely correlated with differences in value creation by PE acquirers due to their distinct ownership and transaction timing strategies, but not their selection strategies.
Managerial Summary
Private equity (PE) firms are prominent buyers of corporate divestitures, and PE firms' strategies for creating value when acquiring divested businesses tend to differ from those of corporate buyers. Yet the performance implications, from the perspective of the divesting firm, of divesting a business to a PE acquirer versus a corporate acquirer are not clear. In this study, I explore the differences in returns to firms divesting to PE acquirers versus those divesting to corporate acquirers. First, on average, divesting firms' returns are lower when divesting to PE acquirers. Second, these lower returns are more likely to occur when the PE acquirer may be expecting to create less value, or when firms choose to divest at a suboptimal time.
Recent studies suggest that greater exposure to the market for corporate control matters for managers and shareholders since it affects firms’ ex‐post risk of experiencing a stock price crash. The findings though question the direction of the effect. In contrast, in this study, we are the first to examine the effects of firms’ ex‐ante risk of experiencing a stock price crash, a likely antecedent of which is managers’ concealment of news on aspects of the market for corporate control. We find that higher crash risk leads to greater takeover target likelihood. This relationship, which is robust to duly circumventing reverse causality, depends to a significant extent on inferior managerial quality and greater managerial discretion around financial accruals, affording richer insight into the notion that correction of managerial behaviour is a stimulus for the market for corporate control, but one that depends on the likely extent of managers’ concealment of news. We also concurrently find that actual takeover targets with higher crash risk generate a lower bid premium and receive more payment with stock. Overall, our findings strongly suggest that decision‐making in the market for corporate control is at least partially explained by incentives linked to opportunistic prices and takeovers of lemons.
The financial crisis that began in 2008 and its lingering aftermath have caused many intellectuals and politicians to question the virtues of capitalist systems. This book analyzes both the strengths and weaknesses of capitalist systems. The volume opens with articles on the historical and legal origins of capitalism. These are followed by articles describing the nature, institutions, and advantages of capitalism: entrepreneurship, innovation, property rights, contracts, capital markets, and the modern corporation. The next set of articles discusses the problems that can arise in capitalist systems including monopoly, principal agent problems, financial bubbles, excessive managerial compensation, and empire building through wealth-destroying mergers. Two subsequent articles examine in detail the properties of the “Asian model” of capitalism as exemplified by Japan and South Korea, and capitalist systems where ownership and control are largely separated as in the United States and United Kingdom. The volume concludes with an article on capitalism in the twenty-first century by Nobel Prize winner Edmund Phelps.
This study has empirically tested the relationship between diversification and firm performance using balanced panel data on 1759 firms in India. We include firms across all industries in the manufacturing and service sector during the period 2012–2018. Our dynamic panel estimation results indicate that diversification measured by count, entropy index, or weighted diversification index, does not have a statistically significant impact on performance measured by Tobin’s Q and Return on Assets (ROA). The results hold irrespective of firm size, firm age, and group affiliation. Our robustness test, applying 2SLS method, corroborates the above findings for ROA but shows a negative relation with Tobin’s Q for some measures of diversification.
p>This thesis focuses on the perfonnance and strategy of small EU banks and their relationship with their target market segments: Small and Medium sized Enterprises (SMEs) and private households. To this end, three distinct lines of research are pursued in this thesis. We start with an investigation of whether small EU banks benefit from diversification within and across business lines, and the impact that the regulatory environment has on such diversification strategies. Second, we examine the determinants of bank financing relationships for SMEs from a bank, SME and regional dimension. Following this, we investigate the evolution of the funding strategies adopted by small EU banks and analyse whether customer deposits are still a key funding source in their overall strategic focus. Using different economic approaches and different samples, we present robust evidence that small EU banks do not benefit from direct diversification benefits within and across business lines and an inverse association between non-interest income and bank performance is observed. Bank and firm level variables are found to have both negative and positive impacts on SME bank financing relationships, with the regional growth and fmancial system variables showing that relationship banking can be affected by the market and socio-economic structure of specific European regions. Customer deposits are still featuring strongly within EU small banks' balance sheets and are still the main driver in their provision ofloans to SMEslhouseholds which confirms the importance of such banks in the economic growth of regional Europe. The empirical results give rise to numerous important public policy considerations. Against a background of increasing consolidation in European banking systems and significant changes in the regulatory environment within which fmancial institutions operate, our analyses suggest that small EU banks still have a major role to play in the European financial arena. The financial intermediation process between banks and SMEs/households is still prevalent and the evidence shows that this fosters growth in the regions we analyse. Obstacles that hinder such growth between SMEs and banks is limiting their potential expansion in both scale and scope.</p
By categorizing managerial confidence attributes into overconfidence, rational, and diffidence with the methodology used in the finance literature, we investigate how company boards strategically select CEO replacements from the senior management pool with different confidence attributes. In normal retirements, company boards tend to select the succeeding managers of the same confidence attribute as the retiring CEOs. If the boards fire company CEOs, they tend to select rational successors irrespective of the confidence attributes of the ousted CEOs. Such board inclination of picking rational successors also occurs when corporate operation is at the recession stage or corporate strategy is changed surrounding succession. The evidence indicates that managerial confidence attribute is an important consideration of the board in the CEO selection process and the board deliberately selects the CEO with a certain attribute to move the firm in a planned direction. This article is protected by copyright. All rights reserved
This study investigates the impact of banks' diversified income structure on profitability among Tunisian banks during 2010-2018. We examine banks’ profitability using accounting and market measures as relevant indicators. We focus on each category of non-interest income separately rather than on non-interest income as an overall measure to provide a clearer analysis helping bank managers assess relevant strategies, and show that income structure diversification enhances banks’ profitability, albeit with their mixed effects. The empirical analysis of panel data indicates that Tunisian bank’s market-to-book value is very sensitive to all types of non-interest income. Banking activity diversification improves stock market profitability particularly in large banks and a safe macroeconomic environment. However, only fees and commissions incomes increase Tunisian banks’ assets profitability. Positive fees and commissions incomes’ effect is more pronounced for large banks and in a deflationary environment. We conclude by recommending to Tunisian banks, the diversification of their activities and the search for non-interest income while trying to control the costs of adopting these innovations, to take the necessary precautions, and to develop their personal skills.
We model the simultaneous determination of bank non-interest income and net interest income while considering bank risk, capital holdings and regulatory quality. Declines in net-interest income are associated with increased non-interest income. In contrast, net interest income shows negligible sensitivity to changes in non-interest income. Increased non-interest income is associated with increased capital holdings after the GFC (with no evidence of volatility increasing regulatory arbitrage). Non-interest income is associated with worsening loan quality. Thus, bank conglomeration does not reduce information asymmetry in the loan portfolio. We establish that the Chinese banking system did not adjust its revenue mix in the same manner as other banks in our regional sample. We argue that increased non-interest income should result in increased prudential surveillance by national regulatory authorities, with a particular focus on loan quality.
Notre étude dresse un état des lieux des travaux consacrés aux caractéristiques des firmes cibles d’OPA. Il est déduit qu’il n’y a pas un profil type de ces firmes, mais plusieurs profils dans la mesure où ces dernières ont été acquises pour des motivations distinctes, lors de vagues de F&A différentes, et que chaque vague est particulière par ses caractéristiques. En outre, il ressort selon des études récentes que les variables financières de marché pourraient être plus prédictives que les variables comptables en matière de repérage des cibles d’OPA.
How do we assess new forms of economic organization? As with other innovations, the value of a new organizational form is initially unknown. When assets are traded in financial markets, the information embodied in prices represent one mechanism through which organizational innovations are evaluated. We apply an experimental-learning framework to explore the influence of the capital markets on economic organization, using the conglomerate merger wave of the 1960s and 1970s as an empirical context. In our setting, the initial market popularity of conglomerates, followed by their rapid decline, is indicative of investors attempting to determine the value of a new organizational form. We provide event-study evidence that investors systematically updated their beliefs about the value of the conglomerate form based on new information (positive or negative) about the largest and most newsworthy conglomerates. Our results suggest that financial market participants make judgments not only about specific companies, but about organizational structure itself.
We find that the acquirer's (1) abnormal returns at merger and acquisition (M&A) announcements and (2) long-term abnormal returns after acquisitions increase with target firm insiders’ net purchase ratios. Further, acquisition synergies, measured as the (1) acquirer-target combined cumulative abnormal returns at M&A announcements and (2) changes in three-year operating performance after acquisitions, increase with target insider net purchase ratios. Notwithstanding, targets with higher insider net purchase ratios receive higher takeover premiums. Overall, our findings suggest that, even under the SEC's “short-swing rule,” target insider trading prior to the M&A announcement serves as a credible signal for acquisition outcomes.
Purpose
This study proposes a qualitative analysis to identify takeover target criteria according to French Mergers and Acquisitions (M&A) practitioners.
Design/methodology/approach
A principal component factor analysis, applied to responses from 42 French M&A practitioners, highlighted four factors that summarize information about predictive variables and which explain the occurrence of takeover.
Findings
According to the surveyed practitioners, four main axes explain 83% of the occurrence of takeover. These axes reflect motivations related to the undervalued target theory, synergy theory and agency theory. The first factor defined by the size of the company, its rate of return and turbulence in the sector. A second factor opposed market value and dividend payout ratio to the liquidity variable. The last two factors are called the debt factor, structured by the debt variable and the value creation factor, which opposed the value creation variable and transaction volume to the growth opportunities variable. The results therefore confirmed the importance of some predictor variables tested in previous studies and showed different results.
Research limitations/implications
This study was limited in terms of sample size. The low number of responses obtained reflects the sensitivity of the subject, insofar as it highlights the predictive model used by M&A practitioners (professional secrecy). Future investigations will involve in extending the questionnaire approach to a larger sample of continental European M&A practitioners.
Originality/value
Predicting takeover targets has been the subject of abundant literature. The results do not converge and are sometimes contradictory. This paper undertakes a field study conducted using a questionnaire survey to detect predictive variables used by M&A practitioners in their identification of a target firm. The authors aim to identify a relevant indicators favorable to the occurrence of a takeover bid and which are/or not handled by the literature.
Perception of industry professionals is that these bonds behave no differently than non-callable bonds. However, make-whole callable bonds are almost twice as likely to be retired early as non-callable bonds. Analysis of which bonds/firms include make-whole call provisions as well as of retirement events suggests the call provision aids firms in precautionary refinancing and in paving the way for major corporate events like M&A. Detailed analysis of news reports reveals three motivating rationales: 1) to refund the debt at low current interest rates, 2) as a result of a merger or acquisition, 3) as a mechanism for paying out excess cash.
The governance of the company has been a topic that has gained increasing importance in the corporate world. Although its beginnings in terms of formal discussion date back to the mid-70,
the underlying concept has its roots long back in time. The problem originates from the agency theory, which exposes a conflict of interest between shareholders and suppliers. There are several definitions of Corporate Governance, all pointing to a system of internal and external mechanisms that mitigate the agency problem among the different participants of the large modern company. Among some factors that can shape the significance of relationships within the company are legal systems, which give rise to the relative importance of both external mechanisms, as the market, and internal mechanisms such as the board of directors.
This study presents a theoretical model that links chief executive officer (CEO) overconfidence to the value loss of corporate diversification. Consistent with the model's prediction, the findings show that diversified firms run by overconfident CEOs experience value loss compared to diversified firms run by their rational counterparts. Empirically, the value loss is economically significant and ranges between 12.5% and 14.1%. In addition, the model predicts heightened corporate refocusing activity by overconfident CEOs who pursued diversified investments in the past once realized returns fail to match initial expectations. The empirical odds of corporate refocusing decisions are 67% to 98% higher when past diversifications are undertaken by overconfident rather than rational CEOs. Another prediction of the model is that overconfident CEOs exhibit preference for diversified investments, especially in the presence of ample internal funds. This prediction is also strongly supported by the data. Overall, this study proposes CEO overconfidence as a unified and consistent explanation of why firms pursue value-destructive corporate diversification policies and later adopt refocusing policies aiming to restore value.
Research Summary
Control‐magnifying (pyramidal) business groups – multiple tiers of partially‐owned listed affiliates and fully‐owned private affiliates, a dominant organizational form around the world – are virtually absent in America today. Using newly‐assembled historical data, we show that such groups were ubiquitous in the US economy in the 1930s. They came under attack because of their economic and political sway: Some New Deal reforms – proscriptions against public utilities pyramids, intercorporate dividend taxes and rules governing investment companies – were explicitly aimed at deterring existing groups and preventing new ones from forming. Others, e.g., estate taxes and securities law reforms, may have also worked against them. No single reform triggered the immediate dissolution of groups; they broke up under an ongoing anti‐big business sentiment. These events offer lessons for policymakers today.
Managerial Summary
Most listed US firms are “standalone” – they do not control, and are not controlled by, other listed firms. Control‐magnifying (pyramidal) business groups – multiple tiers of partially‐owned listed affiliates and fully‐owned private affiliates (e.g., Samsung or Tata) – are ubiquitous around the world but virtually absent in America. In such groups, the combination of multiple tiers and partial ownership enables control over vast corporate empires. Using newly‐assembled historical data, we show that the US corporate ownership as we know it today is a recent phenomenon: pyramidal groups were common in America of the 1930s. President Roosevelt, who regarded their economic and political power as excessive, initiated a sequence of reforms which appears to have worn these groups down and probably also kept new ones from forming.
We investigate the effects of target initiation in M&As. We find target-initiated deals are common and that important motives for these deals are target economic weakness, financial constraints, and negative economy-wide shocks. We determine that average takeover premia, target abnormal returns around merger announcements, and deal value to EBITDA multiples are significantly lower in target-initiated deals. This gap is not explained by weak target financial conditions. Adjusting for self-selection, we conclude that target managers’ private information is a major driver of lower premia in target-initiated deals. This gap widens as information asymmetry between merger partners rises.
We study the effects of accounting losses on CEO turnover. If accounting losses provide incremental information about managerial ability, boards can utilize the information in losses to assess CEO's stewardship of assets, which is why losses may serve as a heuristic for managerial failure. We find a positive relation between losses and subsequent CEO turnover after controlling for other accounting and stock performance measures. We also find that losses are associated with an increase in board activity and that losses predict poor operating performance and future financial problems. Our results explain why CEOs manage earnings to avoid losses. © Michael G. Foster School of Business, University of Washington 2018.
We estimate diversification's effect on firm value by imputing stand-alone values for individual business segments. Comparing the sum of these stand-alone values to the firm's actual value implies a 13% to 15% average value loss from diversification during 1986–1991. The value loss is smaller when the segments of the diversified firm are in the same two-digit SIC code. We find that overinvestment and cross-subsidization contribute to the value loss. The loss is reduced modestly by tax benefits of diversification.
We find that asset sales lead to an improvement in the operating performance of the seller's remaining assets in each of the three years following the asset sale. The improvement in performance occurs primarily in firms that increase their focus; this change in operating performance is positively related to the seller's stock return at the divestiture announcement. The announcement stock returns are also greater for focus-increasing divestitures. Further, we find evidence that some of the seller's gains result from a better fit between the divested asset and the buyer.
In this paper, the authors show that Tobin's q and firm diversification are negatively related throughout the 1980s. This negative relation holds for different diversification measures and when they control for other known determinants of q. Further, diversified firms have lower q's than comparable portfolios of pure-play firms. Firms that choose to diversify are poor performers relative to firms that do not but there is only weak evidence that they have lower q's than the average firm in their industry. The authors find no evidence supportive of the view that diversification provides firms with a valuable intangible asset. Copyright 1994 by University of Chicago Press.
This collection is the first comprehensive selection of readings focusing on corporate bankruptcy. Its main purpose is to explore the nature and efficiency of corporate reorganisation using interdisciplinary approaches drawn from law, economics, business, and finance. Substantive areas covered include the role of credit, creditors' implicit bargains, non-bargaining features of bankruptcy, workouts of agreements, alternatives to bankruptcy, and proceedings in countries other than the United States, including the United Kingdom, Europe, and Japan.
Managerial utility, 186. — Methods and definitions, 191. — Growth rate of demand, 193. — Imitative products, 197. — The supply
of finance, 199. — The rate of profit, 200. — Completion, 202. — Interpretation, 204. — Maximizing versus satisficing, 207.
Greater corporate focus is consistent with shareholder wealth maximization. Diseconomies of scope in the 1980s are confirmed by a trend towards focus or specialization, a positive relation between stock returns and focus increases, and the failure of diversified firms to exploit financial economies of scope (coinsurance of debt or reliance on internal capital markets). Large focused firms were less likely to be subject to hostile takeover attempts than were other firms, but diversified firms were distinguished in the 1980s mostly by being relatively active participants, as both buyers and sellers, in the market for corporate control.
We estimate continuous-time event-history models of the acquisition of conglomerate vs. non-conglomerate and predatory vs. friendly acquisitions among the 1962 Fortune 500 between January, 1963, and December, 1968. Our analysis of predatory acquisitions reveals that there were strong disciplinary motivations for these acquisitions in the 1960s. Q ratios were, by a large margin, the most important determinant of predatory acquisition likelihood. Surprisingly, however, corporate boards appear to have provided little alternative to predatory acquisition as a monitoring mechanism during this period. Friendly acquisitions, on the other hand, were concentrated among firms with low price-earnings ratios and high return on equity, suggestive of the earnings manipulation story often associated with conglomerate acquisitions. Our analysis of conglomerate acquisitions reveals that there were strong disciplinary motivations for conglomerate acquisitions during this period. Conglomerate targets had low Q ratios and were as likely as non-conglomerate targets to be acquired in a predatory fashion. We find no evidence that conglomerate acquisitions were motivated by a desire to improve earnings-per-share numbers, as some have maintained.In addition, regardless of type or tenor, we find managerial ownership, firm size, and industrial organization motivations for acquisition are consistently important determinants of acquisition likelihood.
This paper presents evidence on changes in operating results for a sample of 76 large management buyouts of public companies completed between 1980 and 1986. In the three years after the buyout, these companies experience increases in operating income (before depreciation), decreases in capital expenditures, and increases in net cash flow. Consistent with the operating changes, the mean and median increases in market value (adjusted for market returns) are 96% and 77% from two months before the buyout announcement to the post-buyout sale. The evidence suggests the operating changes are due to improved incentives rather than layoffs or managerial exploitation of shareholders through inside information.
Several published studies claim that acquisition targets can be accurately predicted by models using public data. This paper points out a number of methodological flaws which bias the results of these studies. A fresh empirical study is carried out after correcting these methodological flaws. The results show that it is difficult to predict targets, indicating that the prediction accuracies reported by the earlier studies are overstated. The methodological issues addressed in this paper are also relevant to other research settings that involve binary state prediction models with skewed distribution of the two states of interest.
We examine post-acquisition performance for the 50 largest U.S. mergers between 1979 and mid-1984. Merged firms show significant improvements in asset productivity relative to their industries, leading to higher operating cash flow returns. This performance improvement is particularly strong for firms with highly overlapping businesses. Mergers do not lead to cuts in long-term capital and R&D investments. There is a strong positive relation between postmerger increases in operating cash flows and abnormal stock returns at merger announcements, indicating that expectations of economic improvements underlie the equity revaluations of the merging firms.
For a sample of successful tender offers, we find that the shareholders of high q bidders gain significantly more than the shareholders of low q bidders. In general, the shareholders of low q targets benefit more from takeovers than the shareholders of high q targets. Typical bidders have persistently low q ratios prior to the acquisition announcement while target q ratios decline significantly over the five years before the tender offer. Our results are consistent with the view that takeovers of poorly managed targets by well-managed bidders have higher bidder, target, and total gains.
This study attempts to assess differences in the financial characteristics of target and non-target firms using logit analysis and a case-control methodology in which control groups are matched by size or industry. The results indicate that unregulated non-financial target firms are characterized by low q ratios (market/replacement values) and to a lesser extent high current financial liquidity. Measures of financial leverage were not found to be significant.
This paper empirically examines one motive for takeovers: to change control of firms that make acquisitions that diminish the value of their equity. Firms that subsequently become takeover targets make acquisitions that significantly reduce their equity value, and firms that do not become takeover targets make acquisitions that raise their equity value. Within the sample of acquisitions by targets, the acquisitions that reduce equity value the most are those that are later divested either in bust-up takeovers or restructuring programs to thwart the takeover. This evidence is consistent with theories advanced by Robin Marris (1963), Henry G. Manne (1965), and Michael C. Jensen (1986) concerning the disciplinary role played by takeovers. Copyright 1990 by University of Chicago Press.
The corporate-control market The conventional approach to a merger problem takes corporations merely as decision-making units or firms within the classical market framework. This approach dictates a ban on many horizontal mergers almost by definition. The basic proposition advanced in this paper is that the control of corporations may constitute a valuable asset, that this asset exists independent of any interest in either economies of scale or monopoly profits, that an active market for corporate control exists, and that a great many mergers are probably the result of the successful workings of this special market. Basically this paper will constitute an introduction to a study of the market for corporation control. The emphasis will be placed on the antitrust implications of this market, but the analysis to follow has important implications for a variety of economic questions. Perhaps the most important implications are those for the alleged separation of ownership and control in large corporations. So long as we are unable to discern any control relationship between small shareholders and corporate management, the thrust of Berle and Means's famous phrase remains strong. But, as will be explained below, the market for corporate control gives to these shareholders both power and protection commensurate with their interest in corporate affairs. A fundamental premise underlying the market for corporate control is the existence of a high positive correlation between corporate managerial efficiency and the market price of shares of that company.
The author examines changes in the pricing and financial structure of large management buyouts in the 1980s. Over time, (1) buyout price to cash flow ratios rose in absolute terms (particularly in deals financed using public junk bonds); (2) required bank principal repayments accelerated, leading to sharply lower ratios of cash flow to total debt obligations; (3) private subordinated and bank debt were replaced by public junk debt; and (4) management teams and dealmakers took more money out of transactions up front. These patterns are consistent with an 'overheating' phenomenon in the buyout market. Preliminary post-buyout evidence lends some support to this interpretation. Copyright 1993, the President and Fellows of Harvard College and the Massachusetts Institute of Technology.
This paper presents evidence on systematic changes in the pricing and financial structure of 124 large management buyouts completed between 1980 and 1989. We find that over tine (1) prices increased relative to current cash flows with no accompanying decrease in risk or increase in projected future cash flows; (2) required bank principal repayments accelerated, leading to sharply lower ratios of cash flow to total debt obligations; (3) private subordinated debt was replaced by public debt while the use of strip-financing techniques declined; and (4) management teams invested a smaller fraction of their net worth in post-buyout equity. These patterns of buyout prices and structures suggest that based on ex ante data, one could have expected lower returns and more frequent financial distress in later buyouts. Preliminary post-buyout evidence is consistent with this interpretation.
The current trend toward corporate focus reverses the diversification trend of the late 1960s and early 1970s. This article examines the value of diversification when many corporations started to diversify. The author finds no evidence that diversified companies were valued at a premium over single segment firms during the 1960s and 1970s. On the contrary, there was a large diversification discount during the 1960s but this discount declined to zero during the 1970s. Insider ownership was negatively related to diversification during the 1960s but, when the diversification discount declined, firms with high insider ownership were the first to diversify. Copyright 1996 by American Finance Association.
This paper analyzes how managerial control of voting rights affects firm value and financing policies. It shows that an increase in the fraction of voting rights controlled by management decreases the probability of a successful tender offer and increases the premium offered if a tender offer is made. Depending on whether managerial control of voting rights is small or large, shareholders' wealth increases or falls when management strengthens its control of voting rights. Management can change the fraction of the votes it controls through capital structure changes, corporate charter amendments, and the acquisition of shareholder clienteles.
This paper studies a sample of large acquisitions completed between 1971 and 1982. By the end of 1989, acquirers have divested almost 44 percent of the target companies. The authors characterize the ex post success of the divested acquisitions and consider 34 percent to 50 percent of classified divestitures as unsuccessful. Acquirer returns and total (acquirer and target) returns at the acquisition announcement are significantly lower for unsuccessful divestitures than for successful divestitures and acquisitions not divested. Although diversifying acquisitions are almost four times more likely to be divested than related acquisitions, they do not find strong evidence that diversifying acquisitions are less successful than related ones. Copyright 1992 by American Finance Association.
A capital structure theory based on corporate control considerations is presented. The optimal debt level balances a decrease in the probability of acquisition against a higher share of the synergy for the target's shareholders. This leads to the following implications: (1) the probability of firms becoming acquisition targets decreases with their leverage; (2) acquirers' share of the total equity gain increases with targets' leverage; (3) when acquisitions are initiated, targets' stock price, targets' debt value, and acquirers' firm value increase; and (4) during the acquisition, target firms' stock price changes further; the expected change is zero and the variance decreases with targets' debt level. Copyright 1991 by American Finance Association.
This paper surveys capital structure theories based on agency costs, asymmetric information, product/input market interactions, and corporate control considerations (but excluding tax-based theories). For each type of model, a brief overview of the papers surveyed and their relation to each other is provided. The central papers are described in some detail, and their results are summarized and followed by a discussion of related extensions. Each section concludes with a summary of the main implications of the models surveyed in the section. Finally, these results are collected and compared to the available evidence. Suggestions for future research are provided. Copyright 1991 by American Finance Association.
This article, which is based on the author's Presidential address to the American Finance Association in 1993, argues that squeezing out excess capital and capacity is one of the most formidable ongoing challenges facing not only the U.S. economy, but the economies of all industrialized nations. In making this argument, the article draws striking parallels between the 19th-century industrial revolution and worldwide economic developments in the last three decades. In both periods, technological advances led to not only sharp increases in productivity and dramatic reductions in prices, but also massive obsolescence and overcapacity. And much as the great M&A wave of the 1890s reduced capacity by consolidating some 1,800 companies into roughly 150, the leveraged takeovers, LBOs, and other leveraged recapitalizations of the 1980s provided “healthy adjustments” to overcapacity that was building in many sectors of the U.S. economy.
To help public companies make the necessary adjustments to overcapacity, the author urges them to consider adopting some of the features of private equity, including significant equity stakes for managers, high leverage or payouts, and the recruiting of active investors as “partners in the business.”
This paper analyzes the relation between takeover gains and the q rations of targets and bidders for a sample of 704 mergers and tender offers over the period 1972-87. Target, bidder, and total returns are larger when targets have low q ratios and bidders have high q ratios. The relation is strengthened after controlling for the characteristics of the offer and the contest. This evidence confirms the results of the work by L. Lang, R. Stulz, and R. A. Walkling (1989) and shows that their findings also hold for mergers and after controlling for other determinants of takeover gains. Copyright 1991 by American Finance Association.
The interests and incentives of managers and shareholders conflict over such issues as the optimal size of the firm and the payment of cash to shareholders. These conflicts are especially severe in firms with large free cash flows--more cash than profitable investment opportunities. The theory developed here explains 1) the benefits of debt in reducing agency costs of free cash flows, 2) how debt can substitute for dividends, 3) why diversification programs are more likely to generate losses than takeovers or expansion in the same line of business or liquidation-motivated takeovers, 4) why the factors generating takeover activity in such diverse activities as broadcasting and tobacco are similar to those in oil, and 5) why bidders and some targets tend to perform abnormally well prior to takeover.
The publicly held corporation has outlived its usefulness in many sectors of the economy. New organizations are emerging. Takeovers, leveraged buyouts, and other going-private transactions are manifestations of this change. A central source of waste in the public corporation is the conflict between owners and managers over free cash flow. This conflict helps explain the prominent role of debt in the new organizations. The new organizations' resolution of the conflict explains how they can motivate people and manage resources more effectively than public corporations. McKinsey Award Winner. Harvard Business Review, (September-October 1989) (Revised 1997) Eclipse of the Public Corporation Michael C. Jensen * Harvard Business Review (September-October 1989) (Revised 1997) The publicly held corporation, the main engine of economic progress in the United States for a century, has outlived its usefulness in many sectors of the economy and is being eclipsed. New organizations ...
Corporate control and the politics of finance
- Jensen