Anticipating Corporate Takeovers and the Method of Payment: A Variance-Covariance Non-Stationarity Approach

The previous literature mainly assumes that the mergers and acquisitions (M&As) and their payment-forms are unpredictable prior to the first bid announcement day. Using a sample of 125 completed acquisitions between U.S. public firms from 2003 to 2006, I find that a bid offer is anticipated on average 187 trading days before the announcement day in 86% of deals. The market also anticipates the payment-form in 62% of deals. It takes on average three months for the market to pinpoint the most likely payment-form of the anticipated deals. Moreover, the announcement of Cash (Mixed and Equity) offers contains the least (most) unexpected information for the market. This paper introduces an empirical time series solution to identify the anticipation dates, i.e. non-stationarity in the variance-covariance structure of the joint target and acquirer daily return series. I hypothesize that the variancecovariance of the joint price process can shift during the pre-announcement period in response to anticipating a potential M&A deal and its payment-form. The empirical identification of the proposed solution is also investigated by testing for existence of similar anticipation shifts in a benchmark sample, i.e., a random sample of non-M&A firms. Similar shifts occur much less frequent in the benchmark sample compared to the M&A sample, indicating that the likely mechanism for observing those shifts is the M&A and paymentform anticipations. Key words: Mergers and Acquisitions; method of payment; forecasting; change points; variance; covariance; correlation; merger arbitrage JEL codes: G14 -­‐ G17-­‐ G34 1 The author is a PhD candidate in Finance at Stockholm Business School, Stockholm University, SE-106 91 Stockholm, E-mail: [email protected], http://www.sbs.su.se/en/About-us/Contact-us/PhD-Candidates/Mohammad-Irani/ I would like to thank Lars Nordén, Rickard Sandberg, Martin Holmén, Johan Stennek, Joakim Westerlund, Mariassunta Giannetti, Catalin Starica, and Chris Adcock for comments and discussions. I also thank seminar discussants and participants at: the second National PhD Workshop in Finance (Stockholm, 2013), the 3rd PhD Conference (Stockholm University, 2014), and the 63rd Annual Meeting of Midwest Finance Association (Orlando, 2014).