CEO overconfidence and bid premia in mergers and acquisitions

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MSc Business Economics

Corporate Finance

Master thesis

CEO overconfidence and Bid Premia in Mergers and Acquisitions

Abstract

This study examines the impact of target firm CEO confidence on bid premium in mergers and acquisitions. The findings show that a new, continuous measure of target CEO confidence is significantly positively related to the bid premium while the traditional, dichotomous measures of Malmendier and Tate(year) do not show a significant correlation with the premium.

Liu, Yang

August 2015

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Statement of Originality

This document is written by Yang Liu who declares to take full

responsibility for the contents of this document.

I declare that the text and work presented in this document are original

and that no sources other than those mentioned in the text and its

references have been used in creating it.

The Faculty of Economics and Business is responsible solely for the

supervision of completion of the work, not for the contents.

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Acknowledgement

I would like to thank my supervisor Dr. Florian Peters for guiding and

supporting, of my Master thesis, for his patience, motivation, and

immense knowledge. His guidance helped me in all the time of

developing the models and writing of thesis. I could not have imagined

having a better supervisor and mentor for my Master thesis.

I would like to thank my friends who give me great support and share

ideas with me. Your help is the light of darkness which give me

inspiration and direction.

Finally, I would like to thank my family for the love, support and

encouragement I have gotten over the years. Although I live far away

from my family this year, I can always feel you stand behind me and give

me strength.

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Over the past few decades, mergers and acquisitions activities are everywhere in the financial market. In general, merger and acquisition are one of the main activities in the corporate finance field. And in this study, I am going to focus on mergers and acquisitions bid premium, which shows the extra premium that target companies could get after mergers and acquisitions transactions. Relying on various previous scholars that discussing merger and acquisition bid premium, many authors respond different answers by different perspectives. For instances, Jaggi (2006) argues that CEO cash compensation contributes a lot to merger and acquisition, however, which moderated when CEOs have shareholdings in the firm. In addition, Grinstein & Hribar (2003) proof that powerful CEOs receive more bonus from mergers and acquisitions. As they explain, powerful CEO means the CEOs who have more influence to board decisions. Also, they proved that target firm size tend to engage in the larger deal and CEOs get the higher bonus. Alternatively, there is another way to consider merger and acquisition, using CEOs' characteristics. Rovenpor (1993) discusses high-level CEOs beliefs could influence the merger and acquisition activities, which specifically means belief in synergy, "bigger is better", and, the last one, self-confidence. As the result, he finds CEO believes that "bigger is better" may not a proper explanation for a company's merger and acquisition activities, CEO believes in synergy are sometimes related to a company's merger and acquisition activities, however, CEO self-confidence shows a positive relationship with the merger and acquisition activities.

Overconfidence is one of the foundations of the behavioral finance hypothesis. The main beliefs that characterize behavioral finance in this field are listed by Baberis and Thaler (2003). Theirs studies provide an idea that overconfidence people believe they able to do better than anyone else or at least above average, also, they believe they could achieve an outstanding result. The interesting thing is that, we know, of course, one-half of people are above average and another is beyond average. However, the people who feel better than others never actually compare themselves with other people or sample. For instance, probably 90% drivers on the street believe they are above the average, which of course is impossible. This study tries to examine the previous literature about overconfidence as it relates to merger and acquisitions with a special focus on measuring the effect of overconfidence CEOs on bid premium. Although there is not a clear way to combine these two things, overconfidence and bid premium, together, this study tried to absorb different thoughts in the various field on confidence and merger and acquisition.

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This study try to explore an alternate way to address this topic and tried to offer some suggestions about this topic in some directions.

The previous literatures are basically investigating the relationship between the mergers and acquisitions and the acquirer firms. So this study tries to find some linkages between bid premium and target firms. In principle, the CEOs of target firms should contribute great during the mergers and acquisitions, and they know their firms best so they assumed to sell the companies at a good price. When shareholders get well paid from the deal, which can be measured by the bid premium, CEO can get proper compensated. So it supposed to be a win-win situation. Further, overconfident CEOs are outstanding since they overvalue their companies, they are more likely to bargain harder and negotiate deeper with the bidders.

This study captures the confidence measure for target CEOs from 2006-2015 in the US market. To discuss the relationship between the overconfidence character and the mergers and acquisitions bid premium, this study first cleans up the data and do a simple Pearson correlation coefficients test to find out the rough linkage in these two variables. Second, this study does an OLS regression on the mergers and acquisitions bid premium and the overconfidence, testing the significance of this model. Finally, this study adds some control variables to adjust the model. Further, this study does a robustness check at last to test if target CEOs confidence really influence mergers and acquisitions outcome.

The literature on overconfidence about investing decisions is well developed and rich. Because this field is more direct and plain on the relationship regarding CEO character and decision result. On one hand, knowing there’s a relationship between CEO overconfidence and investing is kind of help to build a hypothesis for this study, one the other hand, mergers and acquisitions are not an investing activity. Mergers and acquisitions are not as simple as an investment, it has more complicated and longer influence to CEOs. For instance, when facing an investment opportunity, the only thing CEOs care about is the feedback of this activity. They do not need to concern more about their own career and further step. If the investment is a success, then they get the bonus back simply, otherwise, if the investment fails, they will suffer what they deserve. But in merger and acquisition, things are more complicated. As a CEO of a target firm, if he bargains harder when facing the merger and acquisition, the deal value could be higher, but after acquired, the acquired firm may nominate a new CEO to replace the target CEO. So what should they do when this embarrassing situation appear?

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With that said, mergers and acquisitions are distinctive events for corporates, however, they are also with great uncertainty. And given this attention, this study tries to find some linkages from previous literature. Agency theories suggest that managers may have different interests towards shareholders in mind when pursuing mergers and acquisitions. Managers are seeking for best personal interests but not company interests, which could explain a bit why target CEOs may not bargain harder during the mergers and acquisitions. Alternatively, the overconfidence explain suggests that, even if the managers do have the same interests as shareholders by heart, they may not make the best decisions for themselves as the result of overconfidence, which is a former behavioral bias.

However, confidence but not only overconfidence is also an interesting topic to discuss with. According to the findings in this study, target CEO confidence has a positive relationship with bid premium. And this positive relationship shows that confidence itself would contribute to CEOs’ performance, but this kind of effectiveness doesn’t show clearly on overconfidence CEOs.

And Long-holder is another way to measure overconfidence, which constructed not conditional on the moneyness of the options but base on the expiration date of the option packages rather than the end of the vesting period. Unfortunately, Long-holder doesn’t show anything positive regarding to target CEOs and bid premium’s relationship.

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2 Literature review

The idea of this study is to investigate the association between the effect of CEO overconfidence, CEO compensation, and CEO ownership and the mergers and acquisitions bid premium. Before clarifying methodology about examining the association between bid premium and CEO

compensation, it’s better to review previews works in this field. The review supports that the variables are chosen and how the variables are defined. In this study, the bid premium is influenced by CEO overconfidence, CEO cash-based compensation, and ownership control. The literature on overconfidence are rich and vast, also the literature on mergers and acquisitions are plentiful as well. However, not many scholars discuss the relationship between

overconfidence and mergers and acquisitions. Hence, this study absorbs the correlated theory from different perspective in overconfidence or mergers and acquisitions. As Gupta and Misra (2007) explained, during the mergers and acquisitions, it is intuitively plausible that profitable deals entail greater risk than non-profitable deals. Overconfident CEOs prefer risky deals because they overvalue the deal so that they may consider the deal is not that much risky and would like to invest. Although CEOs have conflicts with shareholders on personal interest, in mergers and acquisitions, CEOs and shareholders would make agreement when facing takeover. Regarding to the overconfident CEOs, especially to target firm CEOs, their interests are

consistency with shareholders’ interests, even more aggressive. This study will discuss prior literature by dependent variables and independent variables.

2.1 Mergers and Acquisitions

Previous scholars have proof that there are various motivating factors for mergers and acquisitions and most motivations are grounded in the efficiency theory or generally based on synergistic gains. (Copeland & Weston [1992]; Berkovitch & Narayanan [1993]; Bradley Desai, & Kim [1988]) Decline of agency problem, which considered to be another motivating factor for mergers and acquisitions. One of the possible explanation is that acquisition might solve agency problem. For instance, Mueller (1969) argues that acquisitions may become a way of not being a solution to the agency concerns. Another plausible reason for mergers and acquisitions is that sometimes they are triggered by CEOs' self-interest, including their motivation to extend their area of influence and power by increasing the firm size and cash compensation as the result of higher responsibilities associated with enhanced firm size. Jensen (1986) states that the availability of free cash flows could also encourage CEOs to engage in acquisition activities. In this case, CEOs may increase the firm size beyond the optimal level by underinvesting to utilize free cash flows. The main motivation for such acquisitions is apparently to raise the CEOs

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interest in the form of power over resources, which could result in higher wealth through stock ownership and compensation (Jensen [1986]). The statement of enhancing power over resources has been further explained by Roll (1986) from the Hubristic Theory perspective. He argues that the executives may become overconfident in valuing the target, and their motivation to acquire the target is to increase their sphere of influence. However, it can be argued that CEO hubristic behavior resulting in a higher bid premium could produce negative returns for the acquiring firm in the future.

Bradley (1998) argues there is a negative association between bid premium and managerial ownership, suggesting that the CEOs of acquiring firms are not willing to pay a high premium on bid price. Because shareholders are not interested in activities which cannot increase their wealth. According to the studies from existing scholars, no study has directly evaluated the impact of bid premium on the shareholders’ wealth, but there still have some works evaluated whether there is a change of shareholders’ wealth between pre-acquisition and post-acquisition.

One of the hypothesis of this study evaluates whether CEOs would pay a high bid premium to enhance their personal benefits in the form of higher cash compensation in the post-acquisition period. Additionally, this study also evaluates the impact of CEO overconfidence, CEOs’ ownership in the firm and size-contraction activities undertaken by the acquiring firms during the post-acquisition period on the magnitude of bid premium.

2.2 Overconfidence

Overconfidence refers to individuals who believe they have more knowledge or information than others, so they have a higher expectation or more positive forecast than most people. Here, overconfident CEOs suggest that they overestimate the return of risky acquisition or underestimated the expense and failure possibility of the event. As the result, overconfident CEOs tend to be more aggressive in acquisitions event or investments. (Baker, Ruback, & Wurgler, 2007; Heaton, 2002; March & Shapira, 1987; Malmendier & Tate, 2005a, 2005b, 2008; Roll, 1986).

Barberis and Thaler (2003) list two potential causes of overconfidence – self-attribution bias and hindsight bias. Self-attribution bias is the inclination people may have to claim personal credit for success and meanwhile blame luck or other people for failure. Hindsight bias is tendency that people may have to say that they predicted an event or that it was unavoidable. Doukas and

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Petmezas (2007) and Menkhoff and Nikiforow (2009) discuss self-attribution bias in terms of the “better-than-average” effect, with the latter providing data from a research of fund managers, where the main response of the fund managers in a question asking them to compare themselves with their peers indicates they believe themselves can do better than average. An additional cause of overconfidence was provided by Oskamp (1965), in this study, he discusses the impact of increasing level information to the overconfident decision. As the result of the research, he proves that CEOs are more confident when they received more cases information, even if some of the information is inaccurate and refuted by subsequent information. Meanwhile, he also concludes that, at a point, the accuracy of decision reaches a ceiling since the information gathering process. However, the confidence in a decision continues growing without limited. Therefore, CEOs are “reluctant” to change their assessment and investment when facing new evidence, the decision becomes irrational. Finally, he observed that experienced CEOs are less likely to be overconfident than non-experienced CEOs.

Kahneman and Tversky (2000) provide another cause of overconfidence in their discussion. The tendency of subjects not only including the aspects of decisions which they are unfamiliar into decision-making process but also separating beliefs from their special situation. Other causes could be found in the scholars which investigate whether CEO will be overconfidence if they believe they can control the outcome, or if they are highly invested in future projects, or if the feedback will bring a positive support to their decisions.

From the agency problem perspective, CEOs always has conflicts with shareholders because of different risk preferences. Specifically, shareholders are risk-neutral as they are widely diversified, however, CEOs are more risk-averse since their compensation are dependent on the firm performance. This implies that shareholders would like to take a greater risk when this is an acquisition opportunity which indicates a positive return. CEOs, on the other hand, would not interested in taking the risk to obtain an uncertain future gain when meeting a huge expense happening. So, in this case, CEOs have different interest with shareholders, especially when meeting an M&A, since CEO can’t make sure if he could still stay in this company or facing a retire. Therefore, the option is a good way to identify if this CEO have faith in the company where he is working. When CEO holding a large amount of option instead of cash-based pay, it means that this CEO has a good and bright forecast for this company. In particular, when facing an acquisition, holding unexercised option is a firm proof that this CEO believes this acquisition will achieve a great success. And when calculated confidence measure meets a certain criterion

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suggests the confidence of this CEO has above the average, then we can say this CEO is an overconfident CEO.

Malmendier and Tate (2005) is one of very few paper discussing the effects of overconfident managers on corporations. They investigate that managerial overconfidence for corporations and prove that overconfident CEOs are more sensitive to cash flow than non-overconfident CEOs. In other words, when there is an available cash flow, overconfident CEOs invest more. And in the following paper, they argue that overconfidence affects merger and acquisition decision. They find overconfident CEOs pay more to target firm because they overvalue the target price, especially when internal financing is available to fund acquisitions.

Billett and Qian (2008) show the reason which makes CEO confidence is passed success. They find evidence that CEOs are more likely to engage in acquisitions following successful acquisitions than following failure ones. However, the follow-up acquisitions tend not to be profitable anymore.

2.3 CEO Compensation

Speaking of CEO compensation, some early work considered cash awards is more sensitive to bid acquisition premium. Executive pay has many exist forms, such as cash salary, cash bonus, stock, option, retirement pension and various other rewards. This study focuses on the changes in compensation and firm performance during pre-acquisition and post-acquisition. Bikki (2006) examined cash pay is a proper way to represent CEO compensation. However, in this study equity-based pay is the measure of CEO compensation, since long-term incentives consistent with CEO reputation and performing ability. In this study, overconfidence is used as an aspect of CEO compensation explaining why CEO is bargaining harder when a merger or acquisition happens. CEO overconfidence is one of the reasons that CEO will bargain harder when the company faces a merger or acquisition. Mark (2016) captures CEO's bargain power using two sets of variables, based on pay slice and labor market competition. And they concluded that the CEOs with higher bargain power have more intensity option. Agrawa (1994) find that acquisitions attempted to occur more frequently in industries where CEOs have positive abnormal compensation. Target CEOs are more likely to be replaced when a bid succeeds than when it fails. CEOs of target firms who lose their jobs basically fail to find another senior executive position in any public corporation within three years after the bid. Consistent with Fama's (1980) notion of "ex-post settling up", post-bid compensation changes of CEOs retained after an acquisition attempt are negatively related to several measures of their pre-bid abnormal

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compensation.

2.4 Ownership

Sometimes there is no significant relationship between corporate performance and CEO compensation. According to prior works, the reason is boards of directors are more likely to allow the effects of firm performance when CEO take in charge of the company (Bentson 1985). Cash awards cannot reflect entire CEO performance, in other words, CEO has a vested interest in the firm's performance because he is given options and stocks. On the other hand, when CEO doesn't hold the significant position in the firm, Kerr and Bettis (1987) suggested that it’s difficult to expect a strong disciplining effect from securities ownership because the linkage between executive performance and securities price is tenuous. An alternatively study argues that higher managerial ownership has more chance to consistency with shareholders’ interests in the firm. Hence, CEOs with higher ownership will act more like a shareholder but not a manager anymore. (Hubbard & Palia [1995]).

2.5 Firm Size

Finkelstein (1989) has pointed out firm size is an element which affects executive compensation. And Moeller (2003) states firm size plays an important role in gain from the acquisition. Apart from the acquisition of public firms paid by equity, small firm gain more from announcing acquisition than large firms. Because the shareholders in large firms suffer wealth loss when they announce acquisitions of public firms. Based on this prior evidence, a significant change in acquisition premium is expected after acquiring from firm size variable. In addition, small firms have an advantage in acquisition because of its lower bid price and unknown growth rate. By contrast, big firms are harder to find a suitable buyer. However, in Elena Cefis (2008), they argue that mergers and acquisitions do not affect the firm size distribution when considering the entire population of firms. This may depend on a number of facts: that entries and exits may balance the effects of mergers and acquisitions s, that the distribution may aggregate opposite effects at the sector level, and that international mergers and acquisitions, which are excluded from the dataset, may have the most apparent effect on the overall population because they tend to involve the largest firms. Here, this study applies the first kind argument that firm size plays an important role in mergers and acquisitions. In spite of mergers and acquisitions may not affect the firm size distribution, firm size may still have an important meaning to mergers and acquisitions.

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3 Hypotheses

3.1 Bid premium and CEO overconfidence

Overconfident CEOs are holding higher expectation than others to the future returns of investments. This is the fundamental of why overconfident CEOs will bargain harder when facing mergers and acquisitions. They either overestimate the future returns or underestimate the project expense, which makes them have different ideas with other people who are non-overconfident. Hence, the first and the most important hypothesis has been proposed:

H1: There is a positive association between the bid premium and target CEO's level of overconfidence (as measured by the moneyness of the CEO's option holdings).

3.2 Bid premium and CEO cash based payment

This paper argues that the payment of a higher bid premium is motivated by the CEO’s motivation to achieve higher compensation during the post- acquisition period. Based on the arguments advanced by Jensen (1986) and Mueller (1969), this study presents the theory that, in addition to extending their sphere of influence (giving themselves self-satisfaction), the CEOs would like to pay a higher bid premium to achieve their objective of acquiring the target firm, so that they could enhance their cash compensation during the post-acquisition period. This study tests this expectation on the following hypothesis:

H2: The above association is especially strong when CEO has high cash based payment in the firm. 3.3 Bid premium and CEO ownership

Hubbard and Palia (1995) provide a negative association between bid premium and CEO ownership in the firm, suggesting that CEOs would be discouraged to pay a high bid premium if they have shareholdings in the firm. This is because their ownership in the firm would synchronize their interests with the shareholders. This study, therefore, conjectures that the positive association between bid premium and changing in CEO compensation will be especially strong when the CEO has no shareholdings or when he or she has insignificant shareholdings in the firm. The following hypothesis is developed to test the impact of CEO ownership:

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4 Methodology

4.1 Sample Construction

This study examines the association between CEO overconfidence and acquisition bid premium over 2006-2015 this ten-year. The databases which used in this study are ExecuComp, CRSP, Compustat/CRSP Merged, and Thomson One, and all these databases can be acquired from wrds online.

This study constructs four main dependent variables: CEO confidence, CEO compensation, CEO ownership, and firm size. According to previous scholars, there is a positive relationship between CEO compensation and the bid premium, same relationship as CEO ownership and firm size.

The way of how CEO compensated has to be a significant element in price construction in acquisitions since cash-based pay accelerates acquisition processing and avoids delaying which are linked with registering securities when the stock is used as the initial form of consideration. In addition, Fishman (1989) states that the use of cash may stop other bidders by signaling a high valuation for the target firm. In the opposite, cash-based pay may generate immediate capital gain tax for the shareholders of the target firm (e.g., Travlos [1987]), which may encourage the target firm’s shareholders to ask for higher premium (e.g., Slutsky & Caves [1991]). This study captures the impact of cash-based pay or noncash based pay for acquisitions on the bid premium by using the control variable of payment mode.

The borrowing capacity of a target firm could influence the pricing decision as well. Walkling and Edmister (1985) find that the target firm with a lower-leverage during the five-year period preceding the acquisition would demand a higher premium. Similarly, Slusky and Caves (1991) argue that the difference between a lower-leveraged target firm and a higher-leveraged acquirer may have a positive linkage with bid premium. As suggested in the literature, this study uses the variable of leverage, that is, the ratio between total debt and equity of the target firm to control for the impact of this factor on the bid premium.

4.1.1 Dependent variable

Measure of bid premium Some of the scholars have defined the bid premium based on the

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premium calculated on the basis of twenty days before the acquisition announcement date. In this study, the bid premium is presented based on the twenty-day premium.

Bid premium is defined as the difference between the estimated real value of a company and the actual price paid to obtain it. Acquisition premium represents the increased cost of buying a target company during a merger and acquisition. So here I follow Jaggi 92006), use the difference between market price and target price (twenty days before), divided by target price (twenty days before). All the data is acquired over 2008-2017. The market data can be download from CRSP, and the target price can be downloaded from

Premium =()*+,- /*01, − 3)*4,- 5-61+ /*01, 789:7; <=;> ?9@AB9 3)*4,- 5-61+ /*01,_{789:7; <=;> ?9@AB9}

4.1.2 Independent variable

Measure of CEO Confidence Here for the CEO confidence, I follow the literature which

using an option based measure of overconfidence. The idea behind this primary measure is that because a CEO’s wealth is undiversified, a rational CEO will exercise deep in-the-money options soon after the options vest. Hence, continue holding unexercised options is an important signal that this CEO is overconfidence, who has an above average expectation to the company performance. Using prior research method, the overconfidence should be identified by Holder67, a measure suggests that some CEOs are overconfident when they above 67% of the entire sample. Doing this, I calculate Confidence following Humphery (2015) way:

Confidence =I,)* ,JK 1L65, /*01, − M/-06J ,N,*105, /*01, M/06J ,N,*105, /*01,

Jenner & Lisic (20015) defined the Average strike price as the difference between the Stock price and the Average value per vested option. And then define the standard of divide CEO into overconfidence and non-overconfidence by the Holder 67 measure. Holder 67 is an indicator that means if the confidence measure is not up to 67% of total CEOs, this confidence should be non-overconfidence. That is to say, only the CEOs who have the confidence over 67% of all CEOs in the sample could be classified as overconfidence CEO.

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essential effect has been proved by many prior scholars, for instance, XXX. Here in this paper, I keep traditional way using cash compensation, which represents annual salary and bonus, and these two elements could be obtained from ExecuComp. since stock-based compensation may generate endogeneity, which two elements could be obtained from ExecuComp. The period is as same as other variables, from 2008 to 2017.

Measure of ownership The ownership of CEO is defined by its option holding. When CEO

has the stock option >2%, I define it equals to 1, otherwise, when CEO has option <=2%, I set it as 0. The option contents can be acquired from ExecuComp as well.

Yaniv Grinstein & Paul Hribar (2003) find that CEO who has more ability to influence board decision will have a more outstanding bonus. Since CEO with more power would tend to engage in larger deals relative to their company's size. In this case, CEO ownership is also a significant factor to explain the bid price premium.

Measure of firm size Larger firms generally have more resources than smaller firms. Due to

acquiring other firms requires resources (Hoskisson & Hitt, 1990; Hoskisson, Hitt, Johnson, & Moesel, 1993), we controlled for firm size using the natural logarithm of each firm’s total assets.

4.2 Regression Model

The bid premium (PREM)is regressed on the average change in CEO compensation (COMPAC), CEO ownership in the firm (OWNER), and control variables discussed above.

The following ordinary least squares (OLS) regression model is used to examine the association between bid premium and change in CEO compensation:

OPQRSTR = U_V(XYZ[\]^Z_^) + U_b XYcde_ + U_f ghZ^i + U_j k\l^ + U_m nop + U_q ros + e_t

Dependent Variable

Premium = Bid premium paid by the acquiring firm i to the target firm j for period t, calculated

as a difference between the market price on the acquisition day and twenty days before the acquisition.

PREM =()*+,- /*01, − 3)*4,- 5-61+ /*01, 789:7; <=;> ?9@AB9 3)*4,- 5-61+ /*01,_{789:7; <=;> ?9@AB9}

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Test Variables

XYZ[\]^Z_^=The proportion of average unexercised option over average exercise option price

Confidence =I,)* ,JK 1L65, /*01, − M/-06J ,N,*105, /*01, M/06J ,N,*105, /*01,

HOLDER67=1 when CONFIDENCE great than 67%, otherwise 0.

XgnxyX= An average percentage change in cash compensation of CEO of the target firm COMPAC = log (Cash compensation)

gÉÑsÖ= 1 when CEO has stock ownership more than 2 percent in period t, otherwise 0

Control Variables

Size=The change ratio of the total asset

Üáàâ = L64( 36-)L )55,-)

MTB=Target firm market value over book value

(3ä =()*+,- ã)Lå, ä66+ ã)Lå,

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5 Data and descriptive statistics

In this study, various data set has been used. First, this study starts with collecting option related data in ExecuComp – Outstanding Equity Awards database which used to compute confidence measure. Another data set downloaded from ExecuComp is Annual Compensation, which contains the cash-based compensation of CEOs. All these data are selected base on the 2006-2015 period. In order to create bid premium, this study needs the deal value and the stock price four weeks before announcement date from Thomson One database. In spite of the data is better to have more observations, this study applied three conditions in the selection process. One is the deal value greater than 10 million, and the another one is deal status should be completed. Same as ExecuComp data, M&A data also uses the same time period from 2006 to 2015. To explore the more specific market, this study narrows down the market to the US market. The last database for computing variables is CRSP, which contains various market and stock related information. However, CRSP/Compustat Merged data set is also needed for merging all data set together. Because this data set includes some key factors that could combine above data samples together. The compensation of CEOs is acquired from Execucomp as well. The method this study use to select the only CEO but other executives are select the observations which have an exact date of becoming a CEO. Last, this study still needs the stock price to the announced date of merger and acquisition. So, one more time, download data from CRSP and merge it with above samples by announced date. Here, all data needed has been prepared. Next step is to calculate the measures for dependent variables and independent variables.

As shown in Table 1, there are 796 selected transactions from 2006-2015 after merging all data together. There are only 29 mergers selected in 2008, which is the lowest amount in these 10 years. And in 2015, 198 companies have been taken over.

As demonstrated above, the minimum value of M&A deals is 10 million, and the maximum in this 10 years is 68,445 million. The mean of total deals value is 3284 million and the median is 882 million.

In Table two panel A, this study also analyzes summary statistic for overconfident CEOs (HOLDER67=1), and rational CEOs (HOLDER67=0) samples separately. There are significant differences between these two samples. Overconfidence CEOs have lower option intensity,

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equity intensity and less cash intensity than rational counterparts. Overconfidence CEOs have higher shareholdings and longer tenured. Also, the deal transaction value shows overconfident CEOs is slightly higher than rational CEOs and table 2 also shows that overconfidence CEOs have much higher cash compensation than rational CEOs.

Variables

Dependent Variables The dependent variable of this study is bid premium, which is computed

by the difference from target stock price on announced date and the stock price 4 weeks prior. The minimum of the bid premium is -213.52 million, the median is 10.49 million, and the max is 563.27 million. The mean and the medium don’t have a big difference between these two statistics, which mean of total bid premium is 15.54 million.

Independent variables Confidence is the proportion of average unexercised option over

average exercise options price. And the HOLDER67 is the Confidence which greater than 67% defines as overconfidence. This study only keep confidence greater than 0 so the minimum of confidence is 0, and the median of confidence is 0.66, and the maximum is 1997.22. HOLDER 67 has a mean of 0.53, and of course, it’s minimum and maximum are 0 and 1 since it’s binary variable. COMPAC is the cash compensation change of CEOs, which is computed as log of target firm CEOs cash compensation. The minimum of compensation is -6.91 and the maximum is 11.69, meanwhile mean and medium are next to same 8.22 and 8.29. CEO ownership is a binary variable as well. The mean of ownership is 0.22 and maximum is 1.

Control variables SIZE is the log of total asset. The minimum of the SIZE is 3.21, the median

is 7.75 and the max of SIZE is 14.4. The mean is 7.92 which is not much different from the median statistic.

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6 Results

6.1 Pearson correlation coefficients

The Pearson correlation coefficients among variables are presented in Table 3. The variable PREM is positively related with confidence and ownership, others are all negative correlations. The correlation results indicate that the bid premium (PREM) will have a positive relationship with confidence but a negative relationship with overconfidence (HOLDER67).

6.2 Overconfidence and Bid Premium Regression Result

The regression results are presented in Table 4. The regression examines the relationship between the bid premium and various independent variables of overconfidence, CEO cash compensation change, and CEO ownership The result is for the full sample of deals with all the control variables. The control variables are target firm size, market to book value and debt to equity value. These three control variables are used to control the regression result.

6.2.1 Association between the Bid Premium and overconfidence

The main hypothesis of this study is to test the association between the bid premium and the CEOs’ overconfidence. From Table 4, it shows the overconfidence has no relationship with bid premium in all six models. The coefficient of this regression negative and insignificant at the 0.01 level in all models. The negative and insignificant coefficient doesn’t support Hypothesis 1 at all that there is a positive association between the bid premium and target CEO's level of overconfidence. This finding hence suggests that the overconfidence CEOs doesn’t have greater incentives to bargain harder when facing a merger and acquisition, which may result in a lower bid premium after merger and acquisition.

6.2.2 Association between the Bid Premium and change in CEO compensation

To examine the impact of CEOs cash compensation change in the bid premium, this study does the regression base on bid premium and CEOs overconfidence and CEOs cash compensation change. The coefficient of cash compensation change is also negative but significant at the 0.01 level. The negative but significant coefficient support a part of Hypothesis 2, in this case, that there is a negative association between the bid premium and target CEO's level of overconfidence. This regression result hence suggests the cash compensation change decrease

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the incentive ofCEOs bargain willing when facing a merger and acquisition. And higher cash compensation change will cause a lower bid premium after target been taken over.

6.2.3 Association between the Bid Premium and the CEO ownership

To test the impact of CEO ownership in the firm, this study conducts a regression by coding the ownership variable as 0 when CEO has no ownership in the firm, otherwise 1. Then this study code the ownership variable as 0 when the CEO has ownership less than 2 percent, otherwise 0. The result is presented base on the cutoff point of 2 percent and above ownership. The coefficient of CEO shareholding is also negative and insignificant at the 0.01 level. The negative and insignificant coefficient doesn't support Hypothesis 3 in this case, that there is a negative association between the bid premium and CEO shareholding. These findings hence suggest that the overconfidence CEOs, cash compensation, and CEO shareholding doesn’t contribute to CEOs bargain ability when facing a merger and acquisition, which may not result in a higher bid premium after merger and acquisition.

6.3 Confidence and Bid Premium Regression Result

The regression results are presented in Table 4. The regression examines the relationship between the bid premium and various independent variables of confidence, CEO cash compensation change, and CEO ownership The result is for the full sample of deals with all the control variables. The control variables are target firm size, market to book value and debt to equity value. These three control variables are used to control the regression result.

6.3.1 Association between the Bid Premium and confidence

This table shows that confidence is significantly and positively related to bid premium. The coefficient is 0.9% in first column at 0.01 level. It means when CEO confidence goes up 1 unit, bid premium goes up 0.9% unit. Although 0.9% is not a big change, it still proves that target CEO confidence effects their performance regarding to bid premium. The CEOs with higher confidence perform better in some degree.

6.3.2 Association between the Bid Premium and change in CEO compensation

The coefficient of cash compensation change is negative and insignificant at the 0.01 level in all conditions. In this case, even after moderated by control variables and time fixed effects, cash compensation changes still does not shows any significant signal. In addition, the coefficient of

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confidence drops down from 0.945% to 0.925%. Therefore, the regression outcome indicates that after adding cash compensation change as a variable, the effectiveness of confidence is not as big as before.

6.4 Association between the Bid Premium and the CEO ownership

To test the impact of CEO ownership in the firm, this study conducts a regression by coding the ownership variable binary variable, which uses the same method as mention in 5.2.3. The result is presented base on the cutoff point of 2 percent and above of the ownership measure and the three control variables, target firm size, market to book value and debt to equity. The coefficient of CEO shareholding is also negative and insignificant at the 0.01 level in model 3 and model 4. The negative and insignificant coefficient doesn't support Hypothesis 3, that there is a negative association between the bid premium and CEO shareholding. However, after control time fixed effects, the coefficient becomes significant and still remain negative. This finding hence suggests that the confidence CEOs, cash compensation, and CEO shareholding doesn’t contribute to CEOs bargain ability when facing a merger and acquisition, which may not result in a higher bid premium after the deal.

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7 Robustness checks

To ensure the robustness of the regression outcome in Table 4 and Table 5, as well as to see which conclusions would have significant change is this study after replacing the key variable to another comparable measure. The three key variables appear in this study are CEO overconfidence, CEO cash compensation change, and CEO ownership. To find the comparable measure, this study considers doing a replace on CEO overconfidence.

The new variable that this study used Longholder as a measure for CEOs overconfidence but not calculated as Holder67, which could be a substitution for CEO overconfidence. Therefore, this study tests the whole regression again and find out there is nothing significantly change. The result presents in Table 6.

Another Robustness check is split the sample into two subsamples base on the age when the takeovers happen. Jenter/Lewellen paper saying that CEOs close to retirement "give away" their firms more cheaply than younger CEOs. So in Robust Check this study decides to check it checking whether the effect of confidence on premium is stronger for young target CEOs. The regression outcome presents in Table 7.

7.1 Pearson correlation coefficients

The Pearson correlation coefficients among Longholder with other variables are presented in Table 3 as well. The variable PREM is positively related with Confidence and Ownership, and negatively related with cash compensation change, debt to equity value, and target firm size. The correlation results indicate that the bid premium (PREM) will have a positive association with overconfidence (HOLDER67).

7.2 Regression results

The regression results are presented in Table 6. The regression examines the relationship between the bid premium and various independent variables of Longholder, CEO cash compensation change, and CEO ownership The result is for the full sample of deals with all the control variables. The control variables are target firm size, market to book value and debt to equity value. These three control variables are used to control the regression result.

The Longholder measure is not conditional on the moneyness of the options (Malmendier/Tate). To construct the second measure, Longholder, we focus on the expiration date of option

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packages rather than the end of the vesting period. This study classifies a CEO as overconfident (for all of his years in the sample) if he ever holds an option until the last year of its duration. As the typical option in the sample has 10 years’ duration and is fully vested (at the latest) by year five, the CEO chooses to hold, rather than exercise, the option for at least five years. Thus, again, the measure targets habitual failure to diversify, or a personality, rather than time-varying,

overconfidence effect. Further, over 85% of options that are held until their final year are in-the-money and the median percentage in-the-in-the-money for such options is 253%. Thus, the CEO could have profitably exercised these options before their last year. Indeed, failure to exercise these options prior to expiration is difficult to reconcile with any reasonable calibration of the Hall and Murphy framework. Therefore, the Longholder measure alleviates the dependence on calibrated thresholds for rational exercise. It also enables this study to circumvent the sample restriction (and potential loss of power) of the Holder 67 measures.

7.2.1 Association between the bid premium and Longholder

The main hypothesis of this study is to test the association between the bid premium and the CEOs’ overconfidence. From Table 6, it shows the Longholder has no relationship with bid premium. The coefficient of this regression is negative and statistically insignificant at the 0.01 level in all models. The negative and insignificant coefficient doesn’t change finings regarding HOLDER67. This finding hence suggests that the degree of target firm CEOs’ confidence doesn’t have any relationship with bid premium, no matter he or she is overconfidence or not.

7.2.2 Association between the bid premium and CEO cash compensation change

To examine the impact of the CEO total current compensation percent change year to year in the bid premium, this study does the regression base on bid premium and CEO confidence and cash compensation change. The coefficient of cash compensation change is also negative and insignificant at the 0.01 level. The negative and insignificant coefficient doesn’t support Hypothesis 2 as well, in this case, that there is a negative association between the bid premium and target CEO's level of overconfidence. The finding hence suggests that the even confidence and cash compensation change don’t help CEOs bargain harder when facing a merger and acquisition, which may result in a lower bid premium after merger and acquisition. Alternatively, cash compensation may not help CEO bargain since, after the acquisition, it's hard to say if CEO could stay in the firm and extend his tenure. In most cases, acquired companies will

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nominate a new CEO to replace the previous one. So compared to future career, compensation is not that important anymore.

7.2.3 Association between the bid premium and the CEO ownership

To test the impact of CEO ownership in the firm, this study conducts a regression by coding the ownership variable into a binary variable, which uses the same method as mention in 5.2.3. The result is presented base on the cutoff point of 2 percent and above for the ownership measure. The coefficient of CEO shareholding is also negative and insignificant at the 0.01 level. The negative and insignificant coefficient doesn't support Hypothesis 3 in this case, which shows there is a negative association between the bid premium and CEO shareholding. These findings hence suggest that the CEOs confidence CEOs, cash compensation, and CEOs shareholding doesn’t contribute to CEOs bargain ability when facing a merger and acquisition, which may not result in a higher bid premium after merger and acquisition. The result shows that there is a no association between the bid premium and the Longholder.

7.3 CEOs age effect

There is a Jenter/Lewellen paper saying that CEOs close to retirement "give away" their firms more cheaply than younger CEOs. So in Robust Check this study decides to check it checking whether the effect of confidence on premium is stronger for young target CEOs. According to their paper, this study split the sample as two part by target CEO age when the takeovers happen. And the line of age this study uses 64 years old to distinguish old and young.

In Table7, it reports the two subsamples base on CEO age for takeover targets. Importantly, models 1-5 are old group, which CEOs age are 64 and above when the firms are takeover. In this group, the relationship between confidence and bid premium are significant and positive. Table 7 shows that the target with retirement age CEOs are more in the samples and higher coefficient in confidence than young CEOs. The two age groups are similar with respect to the size, book to market ration, and debt to equity ratio. Even comparing the coefficient in compensation and ownership, there is not a big difference in between. The remarkable difference is in the coefficient of confidence. The old group has a positive and significant coefficient in 4 out of 5 models. However, in other side, all models are negative and insignificant. Regarding this finding, the retirement group in this study has a better performance, which means the CEOs are bargain harder when they are going to end their career life. One possible reason is they want more money back before they retire or they want to achieve more at their last days.

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8 Conclusion

Over last decade, especially from 2006-2015 these ten years, the personally character of executives has received more and more attention. This study tries to investigate target firm CEO confidence as a key variable discussing trading topic of mergers and acquisitions. The question this study attempts to answer partly is if CEO overconfidence will influence mergers and acquisitions bid premium. In particular, this study defines mergers and acquisitions bid premium by the percent change of the difference between the stock price on mergers and acquisitions announced date and the stock price 4 weeks before the mergers and acquisitions announced date. And the CEO confidence is defined as the weighted average of the proportion of unexercised option over exercise option price. Using these two key variables, this study finds that these two variables are not correlated. The extra control variables and robust are not helping the regression result.

In the light of prior literature, on the overconfidence field and mergers and acquisitions area, this finding is not surprising. The overconfidence literature shows CEOs are overestimated about the company value or underestimated the cost during the project, causing they have above average estimation for future return. So their judgments with deal value is not precise and fair. Therefore, it may cause the failure of mergers and acquisitions. As we can see from Table 1, it shows that overconfident CEOs do have a slightly higher deal transaction value than ration CEOs. Hence this study tested shows although the overconfident CEOs have a higher deal transaction value, they don’t generate higher mergers and acquisitions bid premium. From this finding, this study suggests that target firm CEOs don’t contribute more to the mergers and acquisitions because of confidence. Also, Longholder doesn’t show any significant relationship with bid premium, though this study tried another way to compute overconfidence.

Interestingly, confidence is the only variable shows significant in all the test. Confidence somehow contributes to the bid premium but not overconfidence. Hence shows the theory that we mentioned above that overconfident CEOs can’t make reasonable bid price so the bid price is not influenced a lot by overconfident CEO. Or perhaps on mergers and acquisition market, usually acquire firms take control on the bid price and the bid premium.

In addition, considering agency problem, which argues CEOs have different interests with shareholders. Under this theory, CEOs will focus more about their own interests, such as future career, compensation, reputation, and peer status. These factors will all effect CEO performance during the mergers and acquisitions. As far as this study test, CEOs confidence doesn’t help

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much about the bid premium. However, other factors may cause more direct influence to CEOs on the mergers and acquisitions activities.

Even though the regression outcome mentioned above are statistically insignificant, readers must aware that there still are limitations in this study. First, as with any research on overconfidence, we need to be cautious about the proxy measure. Here in this study, option is used as the key factor for overconfidence, however, option never equals to real confidence. Therefore, it is possible that option-calculated measure could be influenced by other factors other than confidence, such as firm financial stability, acquirer expectations, peer performance and market events, which all could play a role influencing confidence. Option-calculated confidence is a solid measure since this method has been used for many years and been tested by many previous scholars. However, there are still some other measures could represent confidence, for instance, EPS forecast, managerial forecast, or survey outcomes.

More broadly, this study come up with a question that if target firm CEOs characters actually effect bid premium of mergers and acquisitions. If confidence is not a factor could influence CEOs performance during the mergers and acquisitions, what characters of target firm CEOs would generate influence mergers and acquisitions? Or the target firm CEO is not important and not affective when mergers and acquisitions happen? This is a worth investigated question.

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References:

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[2]Bodolica, Virginia; Spraggon, Martin, The implementation of special attributes of CEO compensation contracts around M&A transactions, Strategic Management Journal, September 2009, Vol.30(9), pp.985-1011

[3]Brown, Rayna; Sarma, Neal, CEO overconfidence, CEO dominance and corporate acquisitions, Journal of Economics and Business, 2007, Vol.59(5), pp.358-379

[4]Burns, Natasha; Jindra, Jan; Minnick, Kristina, Sales of private firms and the role of CEO compensation, Journal of Corporate Finance, April 2017, Vol.43, pp.444-463

[5]Devers, C.E.; McNAMARA, G.; Haleblian, J.; Yoder, M.E., Do they walk the talk? gauging acquiring ceo and director confidence in the value creation potential of announced acquisitions, Academy of Management Journal, 1 December 2013, Vol.56(6), pp.1679-1702

[6]Feng, Zhilan; Ghosh, Chinmoy; Sirmans, C., 2007, Director Compensation and CEO Bargaining Power in REITs, The Journal of Real Estate Finance and Economics, 2007, Vol.35(3), pp.225-251

[7]Gaver, Jennifer J.; Gaver, Kenneth M., Compensation policy and the investment opportunity set. (includes appendix), Financial Management, Spring, 1995, Vol.24(1), p.19(14)

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overconfidence and compensation structure, Journal of Financial Economics, March 2016, Vol.119(3), pp.533-558

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[12] Jaggi, Bikki; Dorata, Nina T., Association between Bid Premium for Corporate Acquisitions and Executive Compensation, Journal of Accounting, Auditing & Finance, 2006, Vol.21(4), pp.373-397 [13]Jenter, Dirk ; Lewellen, Katharina, CEO Preferences and Acquisitions, Journal of Finance, December 2015, Vol.70(6), pp.2813-2852

[14] Marsh, John; Wales, William; Mousa, Fariss-Terry; Graefe-Anderson, Rachel, Countermove: how CEOs respond to post-acquisition compensation adjustments, Review of Managerial Science, 2016, Vol.10(4), pp.711-755

[15] Nina T. Dorata, The shielding of CEO cash compensation from post-acquisition earnings' charges, Managerial Finance, 2008, Vol.34(5), p.288-303

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-bargaining perspective, Strategic Management Journal, January 2013, Vol.34(1), pp.22-41

[17] Rovenpor, Janet, The relationship between four personal characteristics of chief executive officers (CEOS) and company merger and acquisition activity (MAA), Journal of Business and Psychology, 1993, Vol.8(1), pp [18] Sanders, Wm. Gerard; Hambrick, Donald C., Swinging for the Fences: The Effects of CEO Stock Options on Company Risk Taking and Performance, Academy of Management Journal, Oct, 2007, Vol.50(5), p.1055(24)

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Table 1 This table contains the summary of mergers and acquisitions by year. Panel A contains the numbers of transactions and the percentage. Panel B

contains the mean, median, minimum, and maximum of the deal value by year. Panel A: Distribution of M&A/by year

Year Number Percentage

2006 94 11.81% 2007 89 11.18% 2008 29 3.64% 2009 48 6.03% 2010 67 8.42% 2011 60 7.54% 2012 57 7.16% 2013 54 6.78% 2014 100 12.56% 2015 198 24.87% Total 796 100.00%

Panel B: Acquisition values by year ($millions)

Year Number Mean Median Min Max

2006 94 3,142 1,592 20 25,670 2007 89 5,536 1,061 17 67,286 2008 29 3,040 948 25 36,724 2009 48 2,769 1,000 10 40,298 2010 67 2,678 1,042 22 22,276 2011 60 4,349 1,033 25 51,005 2012 57 2,222 1,159 10 21,640 2013 54 2,982 1,244 20 25,440 2014 100 4,574 551 13 68,445 2015 198 2,120 339 10 66,000 Total 796 3,284 882 10 68,445

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CEOs Panel B shows the mean and median for tested variables.

Panel A

All firms Overconfidence Rational Difference

Total HOLDER67=1 HOLDER67=0

[1] [2] [3] [4]=[2]-[3]

Equity incentive value 1,181.99 1,430.36 685.25 745.11

Enterprise value 18,547.37 8,405.14 30,052.79 -21647.65

Equity value announcement 24,756.57 11,605.57 39,635.17 -28029.60

Deal transaction value (mil) 3,284.39 2,786.82 3,848.67 -1061.85

Target share price 4 weeks before 35.00 39.40 30.01 9.40

Total cash compensation 6,237.58 6,730.42 5,678.68 1051.74

Total asset 24,538.24 18,222.10 31,701.05 -13478.95

Market value 8,611.89 9,066.04 8,090.84 975.21

Option exercise price 23.97 23.43 24.58 -1.15

Shares owned 1,641.01 1,743.28 1,525.80 217.48

Premium 15.54 14.57 16.64 -2.06

Panel B

Variable Number Mean Median Min Max

Premium 796 15.54 10.49 -213.52 563.27 Confidence 743 4.38 0.66 0.00 1997.22 HOLDER67 796 0.53 1.00 0.00 1.00 Long holder 796 0.06 0.00 0.00 1.00 Compensation 796 8.22 8.29 -6.91 11.69 Size 796 7.92 7.75 3.21 14.40 Ownership 796 0.22 0.00 0.00 1.00

Table 3 Pearson Correlation Coefficients

Premium is defined as bid premium paid by the acquiring firm i to the target firm j for period t, calculated as a difference between the market price on the acquisition day and twenty days before the acquisition. Confidence is defined as the proportion of average unexercised option over average

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exercise option price. HOLDER67 equals to 1 when CONFIDENCE great than 67%, otherwise 0. Compensation is an average percentage change in cash compensation of CEO of the target firm. Ownership equals to 1 when CEO has stock ownership more than 2 percent in period t, otherwise 0. Market to book value is and debt to equity are target firms' ratio

Variables Premium Confidence Holder67 Longholder Compensation Ownership Debt to Equity Market to Book Size

Premium 1.000 Confidence 0.019 1.000 Holder67 -0.025 0.056 1.000 Longholder 0.000 -0.007 0.005 1.000 Compensation -0.088 -0.003 0.063 -0.031 1.000 Ownership 0.009 0.074 0.137 0.079 -0.182 1.000 Debt to Equity -0.101 -0.013 -0.053 0.030 0.028 0.024 1.000 Market to Book -0.017 0.001 0.058 0.104 0.036 0.034 -0.005 1.000 Size -0.229 -0.049 -0.083 -0.046 0.519 -0.338 0.191 0.028 1.000

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Table 4 Premium is defined as bid premium paid by the acquiring firm i to the target firm j for period t, calculated as a difference between the market price

on the acquisition day and twenty days before the acquisition. Confidence is defined as the proportion of average unexercised option over average exercise option price. HOLDER67 equals to 1 when CONFIDENCE great than 67%, otherwise 0. Compensation is an average percentage change in cash

compensation of CEO of the target firm. Ownership equals to 1 when CEO has stock ownership more than 2 percent in period t, otherwise 0. Market to book value is and debt to equity are target firms' ratio. ***denote significance at 1% level, ** denote significance at 5% level, and *denote significance at 10% level.

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Premium Premium Premium Premium Premium

Holder67 -2.064 -1.640 -1.660 -3.752 -2.462 (-0.84) (-0.65) (-0.63) (-1.42) (-0.97) Compensation -3.116 -3.104 1.045 1.934 (-1.56) (-1.48) (0.680) (1.560) Ownership 0.203 -5.565 -7.991* (0.060) (-1.51) (-2.49) Debt to Equity -1.082** -1.459* (-2.71) (-1.99) Market to Book -0.002 -0.003 (-1.40) (-0.17) Size -5.213*** -4.295*** (-6.15) (-4.81)

Time fixed effects No No No No Yes

Robust Yes Yes Yes Yes Yes

N 743 743 743 703 703

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on the acquisition day and twenty days before the acquisition. Confidence is defined as the proportion of average unexercised option over average exercise option price. HOLDER67 equals to 1 when CONFIDENCE great than 67%, otherwise 0. Compensation is an average percentage change in cash

compensation of CEO of the target firm. Ownership equals to 1 when CEO has stock ownership more than 2 percent in period t, otherwise 0. Market to book value is and debt to equity are target firms' ratio. ***denote significance at 1% level, ** denote significance at 5% level, and *denote significance at 10% level.

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Confidence 0.00945*** 0.00925*** 0.00917*** 0.00526** 0.005 (8.680) (7.850) (5.990) (2.850) (0.320) Compensation -3.039 -3.027 1.124 2.010 (-1.46) (-1.38) (0.740) (1.560) Ownership 0.192 -6.185 -8.578* (0.060) (-1.62) (-2.58) Debt to Equity -1.016* -1.449 (-2.50) (-1.95) Market to Book -0.00392* -0.004 (-2.21) (-0.25) Size -5.300*** -4.345*** (-5.80) (-4.66)

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Table 6 Premium is defined as bid premium paid by the acquiring firm i to the target firm j for period t, calculated as a difference

between the market price on the acquisition day and twenty days before the acquisition. Confidence is defined as Longholder equals to 1 when maturity greater than 365 days, otherwise, 0. Compensation is an average percentage change in cash compensation of CEO of the target firm. Ownership equals to 1 when CEO has stock ownership more than 2 percent in period t, otherwise 0. Market to book value is and debt to equity are target firms' ratio.***denote significance at 1% level, ** denote significance at 5% level, and *denote significance at 10% level.

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Longholder -3.881 -3.753 -3.771 -1.372 1.241 (-1.55) (-1.52) (-1.52) (-0.55) (0.480) Compensation -3.129 -3.111 0.801 1.860 (-1.61) (-1.53) (0.530) (1.500) Ownership 0.303 -5.781 -8.612** (0.090) (-1.58) (-2.65) Debt to Equity -1.070* -1.430 (-2.56) (-1.95) Market to Book -0.003 -0.004 (-1.67) (-0.23) Size -5.011*** -4.288*** (-5.77) (-4.74)

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Table 7 Young and Old subsamples are defined by CEO age below 64 or above 64. The CEOs who older than 64 when the takeover happens are in Old

group, otherwise in Young group. Premium is defined as bid premium paid by the acquiring firm i to the target firm j for period t, calculated as a difference between the market price on the acquisition day and twenty days before the acquisition. Confidence is defined as the proportion of average unexercised option over average exercise option price. Compensation is an average percentage change in cash compensation of CEO of the target firm. Ownership equals to 1 when CEO has stock ownership more than 2 percent in period t, otherwise 0. Market to book value is and debt to equity are target firms' ratio. ***denote significance at 1% level, ** denote significance at 5% level, and *denote significance at 10% level.

Old Young

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Premium Premium Premium Premium Premium Premium Premium Premium Premium Premium

Confidence 0.00771*** 0.00836*** 0.00952*** 0.00723*** 0.011 -0.589 -1.255 -0.956 -1.430 -1.444 (5.400) (7.150) (4.910) (4.120) (0.480) (-0.60) (-0.89) (-0.76) (-0.80) (-0.53) Compensation -8.651* -8.997 -4.672 -3.615 -9.340 -10.300 -7.390 -7.583 (-1.97) (-1.80) (-1.07) (-1.08) (-1.41) (-1.31) (-1.09) (-1.58) Ownership -3.184 -9.821 -12.020 -7.360 -12.550 -15.220 (-0.48) (-1.19) (-1.87) (-0.68) (-0.93) (-1.66) Debt to Equity -0.758 -1.231 -0.999 -1.246 (-0.76) (-0.76) (-1.15) (-0.64) Market to Book -0.001 0.003 0.003 0.009 (-0.22) -0.140 -0.240 -0.340 Size -4.352* -4.236* -3.575 -3.648 (-2.44) (-2.03) (-1.30) (-1.15)

Time fixed effects No No No No Yes No No No No Yes

Robust Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes

CEO overconfidence and bid premia in mergers and acquisitions

MSc Business Economics

Corporate Finance

Master thesis

CEO overconfidence and Bid Premia in Mergers and Acquisitions

Liu, Yang

August 2015

Statement of Originality

This document is written by Yang Liu who declares to take full

responsibility for the contents of this document.

I declare that the text and work presented in this document are original

and that no sources other than those mentioned in the text and its

references have been used in creating it.

The Faculty of Economics and Business is responsible solely for the

supervision of completion of the work, not for the contents.

Acknowledgement

I would like to thank my supervisor Dr. Florian Peters for guiding and

supporting, of my Master thesis, for his patience, motivation, and

immense knowledge. His guidance helped me in all the time of

developing the models and writing of thesis. I could not have imagined

having a better supervisor and mentor for my Master thesis.

I would like to thank my friends who give me great support and share

ideas with me. Your help is the light of darkness which give me

inspiration and direction.

Finally, I would like to thank my family for the love, support and

encouragement I have gotten over the years. Although I live far away

from my family this year, I can always feel you stand behind me and give

me strength.

Table of Contents

1 Introduction

2 Literature review

3 Hypotheses

4 Methodology

5 Data and descriptive statistics

6 Results

7 Robustness checks

8 Conclusion