Financing Bidders in Bankruptcy and Takeover Auctions (Job Market Paper)

A firm is sold in a cash auction in which cash-constrained bidders must raise external financing if they win the takeover contest. This paper shows that a bidder’s expected payoff after paying the seller and repaying his financier does not depend on the financier’s ability to extract rent. For any given security type, an increase in the cost of financing (e.g., a higher interest rate) is fully passed on to the seller. The type of financing (e.g., debt or equity) depends on whether bidders can raise capital at competitive terms or are locked in to an investor. Finally, the seller can induce all bidders to bid more aggressively by offering alternative financing, even if bidders ultimately raise financing from outside investors. Journal of Economic Literature Classification Codes: D44, G32, G33, G34.