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Sunday, June 05, 2005

Why Do Bad Takeovers Happen To Good Investors?

Takeovers are exciting: the financial press like them, investors of the target often make out financially, and CEOs of acquirers get to run bigger firms (and make more money). The New York Times has a nice piece titled "What Are Mergers Good For?". The article talks at length about bad mergers (how and why they happen). As far as business press reporting, it does a much better job than usual. Some of the highlights:
  • Acquirers often use deals to mask declining performance;
  • Executives of merging firms have a lot of of money at stake - executive compensation is often tied to the size of the firm, In addition, there's stock and option holdings to consider.
  • There's little monitoring involved.
  • There are some good quotes by Robert Bruner (a very well known University of Virginia B-School professor), who has a book coming out shortly on the topic, titled "Deals From Hell: M&A Lessons That Rise Above The Ashes" that looks interesting (it was just reviewed in last week's Wall Street Journal.
In short, it's a good illustration of agency problems in play (and suitable for classroom use). There's also a really cool graphic on the first page. Make sure to click on it.

Hat tip to The Big Picture for the link.

Update: Bruner has a very nice (and quite readable) summary of the evidence on the outcomes of mergers on the Social Science Research Network, titled "Does M&A Pay." The paper's pretty readable by academic standards (in fact, I've gone over it with my undergrads). However, in case you don't feel like wading through it, here's the abstract:
Following the largest M&A wave in history, it is appropriate to assess the evidence on the profitability of this activity. One popular view is that merger activity is highly unprofitable. Does research sustain this view? This paper reflects on what it means for M&A to 'pay' and summarizes the evidence from 12 informal studies, 120 scientific studies from 1971 to 2003, and five surveys of the scientific evidence published in 1979, 1983, 1987, 1989, and 1992. This review comments on the several formal and informal research approaches and highlights findings for the broad activity as well as niches of special note. The mass of research suggests that target shareholders earn sizable positive market-returns, that bidders (with interesting exceptions) earn zero adjusted returns, and that bidders and targets combined earn positive adjusted returns. On balance, one should conclude that M&A does pay. But the broad dispersion of findings around a zero return to buyers suggests that executives should approach this activity with caution.

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