The announcement effect of share repurchases in Germany
and the Netherlands 2008-‐2014
Abstract
This research examines the effect of share repurchase announcements on stock returns announced by firms listed on the DAX and the AEX between 2008 and 2014. Using an event study, this research finds a significant cumulative abnormal return for DAX firms of 1,01% and 0,18% for AEX firms.
Calvin Companjen 10003187
Bachelor Thesis Economics & Business: Finance & Organization Supervisor: L. Zou
01-‐07-‐2014
1. Introduction
Share repurchases have been become a very popular shareholder payout method since the 1980’s in the United States. De Cesare, Espenlaub, Khurshed and Simkovic (2012) define a share repurchase as; an acquisition of company’s own shares, by distributing excess cash to shareholders in return for a part of the outstanding equity. According to Grullon and Michaely (2002), US firms increased their expenditure on share repurchase programs from 4,8 % to 41,8 % in the period from 1980 to 2000, a higher percentage than the amount of dividend payments made. In Europe share repurchases only became a popular payout tool at the end of the 20th century. This was due to the fact that most European governments prohibited or restricted the use of share repurchases.
Aside from the share repurchase itself, the repurchase announcements are followed by a different interesting effect; abnormal high returns of the stocks (Vermaelen, 1981). There are many scholars who studied the effect of share repurchase announcements on the stock returns, such as, Comment and Jarrell (1991), Li and McNally (1999), Ikenberry et al. (2000), Zhang (2002). The general conclusion is, regardless of what method of share
repurchasing is used (Vermaelen, 2005), that share repurchase announcements are followed by abnormal high returns of the stocks in the days after the announcements. These papers all concentrate on the US market. However, in European countries abnormal return was also found, for example by, Ginglinger and L’ Her (2006), who found a positive abnormal return of 0.7 % in France. For the United Kingdom this was 1,31 % (Oswald and Young 2003). In Germany Seifert and Stehle (2003) found higher returns of 5,9 %. For the Benelux, Erken (2010) finds an abnormal return of 1% and Fierkens (2012) reports an abnormal return of 1,68% with a study conducted only in the Netherlands
The purpose of this paper is to examine if share repurchase announcements are still followed by positive abnormal returns in a time of financial crisis and recession. Most studies are conducted with US firms; therefore I find it interesting to investigate European
companies, namely repurchases in the Netherlands and Germany. I will examine the share repurchase announcements of the 30 German firms listed on the Deutscher Aktienindex (DAX) and of the 25 Dutch firms listed on the Amsterdam Exchange Index (AEX). It is
interesting to look at these two countries in particular because they have different tax rules regarding dividends and capital gains. My main research question therefore is: What is the effect of share repurchase announcements on stock returns in Germany and the Netherlands between 2008 and 2014?
From the results found in other studies I expect to find positive abnormal returns of both the German and Dutch stocks following announcements. However I think the abnormal returns are smaller than found in other papers because of the performance of the stocks during the financial crisis. I do anticipate a higher return of the German stocks than of the Dutch stock because this is consistent with the returns found in earlier studies.
The reaction of the stock price after a share repurchase announcement is examined by doing an event study. According to Mackinlay (1997) , the first two steps of an event study are as follows: ‘’First define the event of interest and second identify the period over which the security prices involved in this event will be examined—the event window’’. In this paper I will use an event window of [-‐10; +10] with an estimation window of 121 days till 11 days before the event. Other event windows will be used in addition.
The share repurchase announcements are collected from the ZEPHYR database. The daily stock prices and index prices are retrieved using Datastream. Initially 40
announcements were collected from German firms and 303 announcements from Dutch firms, but after cleaning the data for missing values, the final data sample consisted of 273 announcements from AEX listed firms and 32 from German firms.
After conducting the event study, I find a statistically significant positive cumulative average abnormal return (CAAR) after the share repurchase announcement of 1,01 % in Germany for the event window [-‐1; +1). In the Netherlands, this was 0,18 % over the same event window. Of the 32 German share repurchase announcements, 24 had a positive CAR for the event window [-‐1, +1]. For the Netherlands the event study yielded 143 positive CARs over 130 negative CARs. These returns are lower than results found in earlier studies, which is in line with my expectations for stock performance during the financial crisis. The
abnormal returns found for the DAX firms also indicate that undervaluation is one of the reasons companies repurchase stocks.
The rest of this paper is structured as follows: Section 2 will discuss related and prior literature of share repurchase programs and Section 3 describes the sample data and the empirical methodology used in the analysis. Section 4 presents and discusses the empirical findings of the event study and in Section 5 the main conclusions are drawn and the
limitations and future research are discussed.
2. Literature review
This section describes related and relevant literature regarding share repurchases. It is necessary to gain a better understanding of the background and underlying motives of stock repurchases before conducting an empirical analysis. The first part will be about methods of
repurchase and, in the second part, the motives of firms to undertake repurchases will be examined. Third, the effect of repurchases on the stock prices will be discussed. Finally prior research in Germany and the Netherlands will be examined and their tax laws regarding capital gains will be explored.
Until the 1980’s, paying dividends to their shareholders was by far the most dominant way for firms to distribute excess cash to their shareholders. However this has changed significantly, nowadays and, according to Grullon and Michaely (2002), the expenditure on share repurchase programs increased from 4,8 % to 41,8 % in the period from 1980 to 2000. In this period, the annual growth rate of repurchases expenditures also rose with an average rate of 26.1 % per year, while the growth rate of the amount of
dividend payments only rose 6.8 % on average per year. The result of this large difference in annual grow rates led to the fact that the dollar value of share repurchases, as a percentage of the total amount of dividends paid, increased from 13,1 % tot 113,1 % from 1980 to 2000. In 1999, US firms distributed a larger amount of money through share repurchases than through dividend payments. For first the first time in US history share repurchase programs surpassed dividend payments in popularity (Grullon and Michaely. 2002). Why did this change in corporate payout method happen?
According to Modigliani & Miller (1958) in their famous work: Capital Structure Irrelevance Theory, firms should be indifferent in choosing a payout policy, as they claim that a company’s value does not change when their capital structure changes. So they consider dividend payments and share repurchases perfect substitutes. However they consider a world without tax and transaction costs. Allen, Bernardo and Welch (2000) concluded that repurchases and dividend payments are not perfect substitutes for the issue
of monitoring by investors. They claimed that the preference of investors for share repurchases or dividends depends mostly on tax rules concerning capital gains. When an investor does not decide to sell his shares after a repurchase, they increase their ownership and thus are not taxed directly, as is the case with dividend payments. Because the tax on capital gains is lower than the dividend tax in the most countries, repurchases seem to have an advantage over dividend payments (Barclay & Smith Jr, 1998). The Dutch and German tax rules concerning capital gains will be elaborated on later in this section.
Except for tax, there are other differences between dividend payments and share repurchases which might explain why share repurchases have become so popular in the last decades. Share repurchases are often seen as a more flexible payout method, because when a firm announces a repurchase, they do not have the obligation to actually rebuy the shares (Dittmar, 2000). On the other hand, firms are obliged to pay out a part of the dividends when they make an announcement (Thein, 2013). A dividend payout also causes stock price to fall as it decreases a firms assets (Guay & Harford, 2000), whereas a share repurchase announcement usually is followed by a positive stock price reaction (Vermaelen, 2005). 2.1 Share repurchase methods
According to Vermaelen (2005), there are basically five ways firms use to repurchase their shares: fixed price tender offer, Dutch auction tender offer, open market repurchase, negotiated repurchase from private investors and repurchases involving derivatives. Of the five methods, repurchases in an open market are by far the most common way of share repurchasing all around the world (Ginglinger & Hamon, 2007).
Fixed price tender offer
A fixed price tender offer is an offer where a firm offers to rebuy a specific amount of shares for a fixed price; this specific amount is known as the target number of shares. If the number of shares offered by the shareholders that want to sell their stocks is higher than then target number set by the firm, the company is free to repurchase any amount of shares between the target number and the number of shares offered (Vermaelen, 2005). This holds as long as the firm treats all shareholders equally. If the case is the other way around, such as when the amount of shares offered by the shareholders is less than the target number set, the firm is committed to repurchase all the shares offered. The fixed price tender offer is usual for a limited period of time (Grullon & Ikenberry, 2000), but a company can choose to extend the period of the offer. The management of the company is normally not allowed to tender their shares in this type of offer (Dann, 1981). This method of repurchasing used to be fairly common till the 90’s. However, nowadays only 2 to 3 % of the repurchases are fixed price tender offer (Grullon & Ikenberry, 2000).
Dutch auction tender offer
In contrast to a fixed price tender offer where the price is fixed, a Dutch auction tender offer sets a specific range of prices where the firm would want to repurchase shares for (Bagwell, 1992). Shareholders then can inform the firm about the amount of shares they would want to sell and their minimum acceptable selling price. As a result, the company gets a good picture of the supply curve of their shares. After they have collected all the
information, the firm pays all the shareholders the same price for their share, also if shareholders tendered their shares for lower prices. This price is chosen in such a way that the firm can buy back the amount of shares they had in mind. When the amount of shares
offered is lower than the number they sought, the firm can choose to cancel the Dutch auction when they announced this before the offer. Alternatively, they can choose to only buyback the amount of shares offered.
There are a couple of reasons why a Dutch auction tender offer can be more
interesting for firms the fixed prices offers. First, if a company wants to decrease the amount of shares outstanding with a repurchase, then in most cases it is cheaper for a firm to
repurchase the amount of shares sought through a Dutch auction offer than with a fixed price tender offer (Vermaelen, 2005). Second, in a fixed price tender offer the firm has to handle all the shareholders in the same way no matter if the minimum price they would want to sell their shares for is lower than the prices offered. This is different in a Dutch auction offer where firms buy out the shareholders with the least positive expectations for the share price first. Finally a Dutch auction tender offer gives firm better protection against a potential market crash, as it offers a better hedge than a fixed price offer (Vermaelen, 2005).
Private or targeted share repurchase
Instead of a fixed of specific price ranged offer, a firm can also make the decision to repurchase shares from one large investor. According to Peyer and Vermaelen (2005) you can differentiate four types of private offers. First, the buyback can be seen as a type of ‘greenmail’; this happens when the firm wants to divert a hostile takeover by the major shareholder. Firms usually offer a premium when this is the case. These transactions where very common in the 1980s when many corporate raids occurred. Second, the shareholders that want to sell their share can be employees or insiders who want to sell their shares when longer restrictions on their stocks are lifted, for example management executives who
exercised their options. On this occasion the firm normally does not pay premiums. Third, when a firm thinks their shares are undervalued, they can rebuy shares at a premium price from a major shareholder, which is usually still lower than what the firm thinks is the true value of their stocks. I will elaborate more about this important undervaluation hypothesis in the part on the motives of firms to undertake share repurchases. Finally firms can choose to negotiate with large shareholders who have liquidity problems, to buy their shares at a discount. Of all private share repurchase announcements from 1984 to 2001, reportedly 45 % were made at a discount (Peyer and Vermaelen. 2005).
Open market share repurchase
Open market share repurchases are by far the most popular way for firms to conduct share repurchases. According to Grullon & Michaely (2002), over 95 % of all the repurchases are open market repurchases. In an open market share repurchase, the firm commissions a third party to buy the shares on the open market, just as anyone else could. Open market purchases seem to be the cheapest way of rebuying shares, but in practice, this is not always the case as open market repurchases are often bound by regulations on volume and price paid. For instance American firms cannot repurchase more than 25 % of the average daily traded volume per month (Vermaelen, 2005). In the Netherlands firms were restricted to a maximum repurchase volume of 10 % of the placed share capital till 2007 when a law was approved that removed this maximum.
Contrary to fixed price and Dutch auction tender offers, firms are not obliged to actually buy the number of shares they are committed to, or even buy any shares at all. Stephens and Weisbach (1998) find an average completion rate of around 80 % in the US. When a share repurchase is not completed it does not mean that managers are not doing
their job or tricking the investors. Ikenbery et al. (2000) found that Canadian firms have the tendency to decrease the number of shares repurchased when the stock price increases strongly in the year after the initial announcement. This can be seen as evidence for the undervaluation hypothesis. Although a firm is not obliged to complete the open market repurchase, there is a limited time span in which it can do so in the Netherlands. Before a Dutch firm can undertake an open market repurchase, it needs to get approval from a shareholders meeting. After the board receives the approval, they have five years to
repurchase shares before the approval expires. In the US, there is no time limit to complete an open market repurchase (Berk & Demarzo, 2007).
Synthetic repurchases or repurchases enhanced with derivatives
The last method of share repurchasing is a synthetic repurchase. The main difference compared to the other ways of repurchasing is the fact that a synthetic repurchase uses derivatives instead of cash. So the advantage is that a firm can undertake a repurchase without using cash when they think their shares are undervalued, in this case an investment bank hedges the risk of the operation.
2.2 Share repurchase motives
Until now, I have described what share repurchases are and which methods of repurchasing firms use to buyback shares on the open market or from private investors. The motives of transferring (excess) capital from the firm to its shareholders and the undervaluation of stock prices were already mentioned. However, these are not the only reasons for
companies to consider a repurchase. In the paper, Why do firms repurchase stock? , Dittmar (2000) explores five hypotheses, based on prior findings of others and her own research
about the underlying reasons firms repurchase shares. In the first part of this subsection, these five hypotheses will be described. In the second part, a survey will be discussed, conducted by Institutional Investor magazine (1998) with over a 1,000 CFOs responding about their own motives behind share repurchases.
So what is the reason for companies to buyback their stocks? According to Jensen (1986), firms repurchase stocks to distribute excess cash flow. Stephens and Weisbach (1998) state that there is a positive relationship between repurchasing and cash flow level, which is consistent with Jensen’s findings. Stephens (1998) also found that buyback activity is negatively correlated with earlier stock returns. This supports the undervaluation
hypothesis, which agrees with Vermaelen’s (1981) results. So it is clear that there are multiple motives for companies to make share repurchases. Dittmar (2000) states that the following factors are important before making a buyback decision: the firm’s distribution, in-‐ vestment, capital structure, corporate control, and compensation policies. These factors as well as the findings of other scholars were used to develop five hypotheses, which I will describe briefly.
1. Excess Capital Hypothesis: Repurchases and Distribution Policy
The first motive is the excess capital hypothesis. When a company has more capital available than it wants to invest, it has two options: save the extra cash or distribute the excess capital to its shareholders (Easterbrook, 1984). The two common methods for the latter option are paying dividends or repurchasing shares as described earlier in this paper. The advantages of an open market repurchase compared to paying dividend are flexibility and tax advantages. A firm that announces a share repurchase is not obliged to actually buy the amount of shares they committed themselves to. Also, when a firm pays out dividends,
they are expected to do this on a regular basis. This is not the case with repurchases, which are more unexpected (Dittmar, 2000).
The second advantage is a tax advantage. In most countries around the world, the tax rate on capital gains is lower than the tax rate on dividend payments. A repurchase also improves the earnings per share, at least as long as the decrease in amount of outstanding shares is larger than the earnings decrease (Grullon & Ikenberry, 2000).
2. Undervaluation Hypothesis
The underlying thought behind the undervaluation hypothesis is asymmetric information (Dittmar, 2000). In a perfect world all the information about a firm is available and known to everybody, and, thus it is reflected in the stock price. In reality this is almost never the case, as managers and insiders often have a better idea about the true stock price. So if a firm thinks that its stock price is undervalued it can choose to do a repurchase to obtain underprices shares. The market will see the repurchase as a signal that the stock is indeed undervalued and reacts positively according to the hypothesis. This market response should cause the share price to rise to its correct value (Dann, 1981). Although Ikenberry, Lakonishok, and Vermaelen (1995) find that the correction after a repurchase is not always enough to make up for the undervaluation. This is often the case for firms with a low market-‐to-‐book ratio.
3. Optimal Leverage Ratio Hypothesis: Repurchases and Capital Structure Policy When firms use a share repurchase to distribute excess capitol to its shareholders, their equity will decrease with this amount, resulting in a change in their leverage ratio. If a firm thinks that there is an optimal leverage ratio, they can use a share repurchase to accomplish this optimal ratio (Bagwell and Shoven, 1988). Consequently a company with a
lower than optimal leverage ratio is more likely to conduct a share repurchase (DIttmar, 2000).
4. Management Incentive Hypothesis: Repurchases and Compensation Policy Share repurchases can be interesting for managers with stock options, because a share does not change the per-‐share value of a stock when equity is distributed. Due to the fact that management executives want to preserve the stock price, they prefer a share repurchase to dividend payments. Also, because holding options also do not entitle people to dividends (Dunsby 1994). As a result, companies that reward their employees with many stock options, probably find it preferable to use repurchases instead of dividends.
5. Takeover Deterrence Hypothesis
The four hypotheses described above all apply to internal conditions. However, a share repurchase can also have an influence on external conditions (Brown and Ryngaert, 1991). For example, when there is a threat of a hostile takeover, the target firm can use share repurchases as a defense mechanism. According to Bagwell (1991), a repurchase can increase the takeover price by repurchasing the shares of people with the lowest reservation value, and thus increase the lowest price for which the stock is available. This is the same defense mechanism as described earlier in the part on Dutch auction tender offers. The hypothesis implies that a firm has more motive to repurchase shares when there is a threat of a hostile takeover.
As an alternative to developing hypotheses based on empirical research and prior literature like Dittmar (2000), you can also ask people from the field to answer questions about their motives for share repurchases to see if they align with the theory. This is exactly what Institutional Investor magazine (1998) did. They held a survey with over a 1,000
responding CFO’s.
Almost 50 % of the CFOs stated that the main reason for repurchasing shares is to increase shareholder value; this is consistent with the undervaluation hypothesis. The second most answered motive was to return excess cash to shareholders; this is in accordance with Jensen’s (1986) findings.
2.3 The effect of share repurchases
There has been a lot of prior research about the effect of share repurchases on the share price reaction after a share repurchase announcement. Almost every study finds a positive cumulative average abnormal return (CAAR) after a repurchase announcement over the event window [-‐1; +1]. Table 1 presents an overview of the results found in other papers. In the US a CAR between 1,61 % and 3,67% is found. Outside of the US, the CARs fluctuate more; for example, the abnormal returns are lower in the Netherlands and France, but higher abnormal returns are found in Germany and Japan.
Author and publication year Sample size Time period Country CAAR
Vermaelen (1981) 243 1970 -‐ 1980 United States 3,67%
Ikenberry et al. (1995) 1239 1980 -‐ 1990 United States 3,54%
Grullon and Michaely (2004) 4443 1980 -‐ 1997 United States 2,71%
Stephens and Weisbach (1998) 591 1981 -‐ 1990 United States 2,69%
Lie (2005) 4729 1981 -‐ 2000 United States 3,00%
Gaspar (2004) 3898 1984 -‐ 2000 United States 2,90%
Peyer and Vermaelen (2005) 6470 1984 -‐ 2001 United States 2,39%
Li and McNally (2004) 1197 1985 -‐ 1988 United States 2,30%
Netter and Mitchell (1989) 337 Oct 1987 United States 3,50%
Kahle (2002) 712 1993 -‐ 1996 United States 1,61%
Lamba and Ramsay (2000) 103 1989 -‐ 1998 Australia 3,30%
Rees (1996) 589 1983 -‐ 1990 United Kingdom 2,81%
Oswald and Young (2002) 386 1995 -‐ 2000 United Kingdom 1,31%
Ginglinger and L’Her (2006) 363 1998 -‐ 1999 France 0,67%
Seifert and Stehle (2003) 129 1998 -‐ 2003 Germany 5,87%
Hackethal and Zdantchouk (2006) 224 1998 -‐ 2003 Germany 5,97%
Gerkeret et al. (2000) 156 1998 -‐ 2002 Germany 7,02%
Thirumalvalavan and Sunitha (2006) 22 2002 -‐ 2004 India 3,20%
Fierkens (2010) 91 2000 -‐ 2010 Netherlands 1,68%
Erken (2012) 121 2006 -‐ 2011 Benelux 1,00%
Zhang (2002) 72 1995 -‐ 1999 Japan 4,58%
Table 1.
2.4 Share repurchases in Germany and The Netherlands
As presented in table 1, share repurchase announcements where followed by positive abnormal returns in both Germany and the Netherlands. The returns in Germany are between 4% and 7% and, in the Netherlands, the returns found were significantly lower, around 1%. According to Hackethal and Zdantchouk (2006), these differences can be explained by variations in regulation for share repurchases. Another factor that can explain the difference are tax rates for capital gains and dividends.
In Germany there is a flat tax rate of 26.375% on capital gains as well as on dividends, which was introduced in 2009. Before 2009, a personal tax rate was applied to dividends and capital gains. The Netherlands has a different system; there is no capital gains tax. However, a tax rate of 1,2% applies to investments and savings above 21,785 Euro. The dividends tax rate is set at 15 %.
The difference in tax rates seems preferable in the Netherlands, so this may lead to higher abnormal returns after announcements there. However on basis of the abnormal returns found in other papers, this does not seem the case.
Hypotheses
In accordance with the related literature, my expectation is that share repurchase
announcements will be followed by positive abnormal returns in both the Netherlands and Germany. My hypotheses therefore are:
H1: Share repurchase announcements in The Netherlands between 2008 and 2014 were followed by positive cumulative abnormal returns on average.
H2: Share repurchase announcements in Germany between 2008 and were followed by positive cumulative abnormal returns on average.
4. Data description
This paper investigates the stock price reaction after a share repurchase announcement. In this section I will describe how and where I gathered my data from. The dataset will consist of share repurchases announcements made by the German firms listed on the Deutscher Aktienindex (DAX) and Dutch firms listed on the Amsterdam Exchange Index (AEX) during the period January 1 2008 until June 1 2014. The data was extracted from two different
databases
The share repurchase announcements were collected using the ZEPHYR database from Bureau van Dijk. ZEPHYR contains information on Mergers & Acquisitions, IPO’s, private equity and venture capital deals and rumors. These search criteria were used: share
repurchase of firms listed on the DAX and AEX, from the period 2008 until now. This resulted in a initial sample of 304 share repurchase announcements of firms listed on the AEX and 40 repurchase announcements of German firms listed on the DAX. Share repurchases
announcements made before January 1 2008 were dropped, as well as firms that were no longer listed on the DAX or AEX. This let to a final data sample of 273 share repurchase announcements made by firms listed on the AEX and 32 announcements of German listed firms. ISIN numbers were added as company IDs. The share repurchase data from ZEPHYR seems to be incomplete, because it is not likely that German firms only announced 40 share
repurchases in a period of over six years. You would expect at least the same number as found for AEX listed firms, this is not the case.
The next step is to collect the stock price data and the historical return data of the two indices, in order to calculate the abnormal returns. Using the announcement dates from ZEPHYR and the ISIN codes, this data was collected from Thomson Datastream. Historical data was collected for all events for the total window of 121 days before the event until 10 days after the event using the request table function in Datastream. Table 2 summarizes the data sample.
Year AEX DAX
2008 202 16 2009 22 2 2010 19 5 2011 12 1 2012 4 3 2013 9 3 2014 5 2 Total 273 32 Table 2. 4. Methodology
To measure the effect of a share repurchase announcement on the (abnormal) returns of the stocks, an event study will be conducted. The first ever event study was probably the work of James Dolley (1933) concerning the price effect of stock splits; he studied the nominal price change of the stock at the time of the split. With a sample of 95 splits
collected from the period 1921-‐1931, he found that the prices increased in 57 of the cases, while declining only 26 times. This section will describe the procedure of conducting an event study as defined by Mackinlay (1997).
‘’The initial task of conducting an event study is to define the event of interest and identify the period over which the security prices of the firms involved in this event will be examined—the event window’’
In this thesis, the events of interest are the share repurchase announcements in the Netherlands and Germany of listed firms on the AEX en DAX respectively, which are
collected from the ZEPHYR Database. I will use an estimation window of a period of 121 days to 11 days for the event [-‐121; -‐11]; this period is used to estimate the normal return of the shares. Normally the event period is excluded from estimation window to prevent the event from influencing the normal performance model parameters estimates. The event window used will be 10 days before to 10 days after the event [-‐10; +10]. Some additional event windows are used as well, including [-‐5; +5], [-‐3; +3], [-‐1; +1] and [0; -‐1]. The illustration below is an example of how a timeline looks in an event study.
Figure 1.
The next step is to choose a model to benchmark the normal performance of the stock return. The normal performance of the stock return is needed to calculate the abnormal returns. Mackinly (1997) defines abnormal return as follows:
𝐴𝑅!" = 𝑅!"− 𝐸 𝑅!" 𝑋𝑡) (1) Where:
-‐ 𝐴𝑅!" is the abnormal return of stock i at time t
-‐ 𝑅!" is the actual return of stock i at time t
-‐ 𝐸 𝑅𝑖, 𝑡 𝑋𝑡) is the expected return for stock i at time t
-‐ 𝑋𝑡 is the conditional information for the normal return model
There are several ways of calculating the normal return of a given stock, including Constant Mean Return Model, Market Model and the Market-‐adjusted Model. These are statistical models.
The market model is an example of a one-‐factor model. Multifactor models include industry indexes in addition to the market (Sharpe, 1970). An example of this approach is the Fama-‐ French 3 factor model. Mackinlay (1997) states that in most of the event studies the use of a multifactor model is not preferred over a one-‐factor model, because, the extra explanatory power of adding extra factors is limited in this type of research.
Therefore I chose to use the market model to predict the normal performance of the stocks. The market model is given by:
𝑅!" = 𝛼!+ 𝛽!𝑅!" + 𝜀!" (2) 𝐸 𝜀!" = 0 , 𝑣𝑎𝑟 𝜀!" = 𝜎!!
Where:
-‐ 𝑅!" is the expected return of stock i in the period t
-‐ 𝑅!" is the return of the market portfolio on time t (the AEX or DAX return in this case) -‐ 𝛼!, 𝛽! 𝑎𝑛𝑑 𝜀!" are the parameters of the market model ( The calculations to estimate these parameters are given in the appendix)
After calculating the abnormal returns, the next step is to compute the cumulative abnormal returns (CAR). The cumulative abnormal return is a summation of all the individual abnormal returns and is given by:
𝐶𝐴𝑅! 𝜏!, 𝜏! = !! 𝐴𝑅!"
!!!! (3)
Where:
-‐ 𝐶𝐴𝑅! is the cumulative abnormal return of the sample, for 𝜏!, 𝜏! = (-‐10, 10)
-‐ 𝐴𝑅!" is the abnormal return of stock i at time t
Last, the average of the CARs, cumulative average abnormal return, or CAAR is calculated. 𝐶𝐴𝐴𝑅! 𝜏!, 𝜏! = ! ! 𝐶𝐴𝑅 (𝜏!, 𝜏!) (4) With variance: 𝑣𝑎𝑟 𝐶𝐴𝐴𝑅 𝜏!, 𝜏! =!!! ! 𝜎! !!! 𝜏!, 𝜏! (5) Testing significance
To test whether the average CAR’s are statistically significant different from zero a t-‐test is performed with the following null hypothesis:
𝐻! = 𝐸 𝐶𝐴𝐴𝑅!" = 0 (6)
With test-‐statistic: 𝑡 = !""# !!,!!
!"# (!""# !!,!! ) ~ 𝑁 (0,1)
(7) 5. Empirical results
In this section my empirical findings and results will be discussed. Table 3 presents the average abnormal returns and the cumulative average abnormal returns for the event window [-‐10; +10]. Table 4 presents the CAAR’s for five different event windows: [-‐10; +10], [-‐5; +5], [-‐3; +3], [-‐1; +1] and [0; -‐1] accompanied by the relevant t-‐statistics and P-‐values. Figure 2 and 3 are the related graphs of table 3.
Table 3 contains the average abnormal returns and the cumulative average abnormal returns for 10 days before the event to 10 days after the share repurchase announcement. Both for the DAX and the AEX a positive cumulative abnormal return is found the day after the announcement. However with 0,33% and 0,16% for the DAX and the AEX respectively, these values are significant lower than found in comparable studies. However, a trend can
be seen, almost all abnormal returns of the DAX listed stocks are negative before the
announcement, while after the announcement most are positive, this points in the direction of the undervaluation hypothesis. The undervaluation hypothesis states that a share
repurchase announcement sends a signal to the market that the stock price is undervalued, the market will respond positively and the share price will recover to its true value. This can be observed in the DAX returns and to a lesser extent in the AEX stock returns.
In table 4 the CAAR’s over 5 different event windows are presented and tested on significance. The calculations show a positive CAAR for the DAX firms of 1,01% over the event window [-‐1, +1], with a significant corresponding t-‐statistic of **2.451. Over the event windows [-‐3; +3] and [0; +1] significant abnormal returns were found of 1,30% and 0,87% respectively. For the AEX positive abnormal returns were found over the event windows [-‐1; +1] and [0; +1] of 0,18% and 0,19%, although the returns were not significant. The CAARs of 1,01% for DAX firms and 0,18% for AEX firms are significantly lower than found in other studies. In the US CAR’s between 1,61 % and 3,67% were found and in Germany the abnormal returns ranged from 4% to 7,02%. However, these studies were all conducted before the financial crisis. So the financial crisis could be a responsible factor for the lower abnormal returns I found. Further research is needed to confirm this.
DAX AEX
t AR CAAR t AR CAAR
-‐10 -‐4,47E-‐05 -‐4,47E-‐05 -‐10 -‐0,000540213 -‐0,000540213 -‐9 -‐8,83E-‐05 -‐0,00013299 -‐9 -‐0,000927641 -‐0,001467854 -‐8 -‐0,003950143 -‐0,004083133 -‐8 -‐0,000419058 -‐0,001886912 -‐7 -‐0,004235854 -‐0,008318988 -‐7 0,00100654 -‐0,000880372 -‐6 0,003978135 -‐0,004340853 -‐6 0,000883629 3,26E-‐06 -‐5 -‐0,002922019 -‐0,007262871 -‐5 0,000669298 0,000672555 -‐4 -‐0,001352602 -‐0,008615474 -‐4 0,000295593 0,000968148 -‐3 -‐0,000914888 -‐0,009530361 -‐3 -‐0,000503659 0,000464489 -‐2 0,002791796 -‐0,006738566 -‐2 -‐0,000667908 -‐0,000203419 -‐1 0,001386204 -‐0,005352362 -‐1 -‐0,00013548 -‐0,000338899 0 0,004642566 -‐0,000709796 0 0,001220255 0,000881356 1 0,004075028 0,003365232 1 0,000697299 0,001578655 2 0,002056989 0,005422221 2 -‐0,001886475 -‐0,000307819 3 -‐0,001064343 0,004357878 3 0,000168744 -‐0,000139075 4 -‐0,001816624 0,002541254 4 -‐0,000666454 -‐0,000805529 5 0,001117475 0,003658729 5 8,64E-‐05 -‐0,000719102 6 -‐0,002247807 0,001410922 6 0,000341183 -‐0,000377919 7 0,001942509 0,003353432 7 -‐0,000287878 -‐0,000665798 8 -‐0,002011649 0,001341783 8 0,000326264 -‐0,000339534 9 -‐0,002169277 -‐0,000827494 9 -‐0,000519574 -‐0,000859108 10 -‐0,002478579 -‐0,003306072 10 0,001756168 0,00089706
Table 3. (Abnormal returns and cumulative average abnormal returns over the event window; [-‐10; +10]
DAX AEX
Event
window CAAR Pos : Neg t-‐test P-‐value Event window CAAR Pos : Neg t-‐test P-‐value
[-‐10; +10] -‐0,33% 19:13 -‐0,3031 0,7618 [-‐10; +10] 0,09% 139 : 134 0,2082 0,8351
[-‐5; +5] 0,80% 17:15 1,0134 0,3109 [-‐5; +5] -‐0,07% 143 : 130 -‐0,2316 0,8168
[-‐3; +3] 1,30% 20:12 **2,0602 0,0394 [-‐3; +3] -‐0,11% 138 : 135 -‐0,445 0,6563 [-‐1; +1] 1,01% 24 : 8 **2,451 0,0142 [-‐1; +1] 0,18% 143 : 130 1,0942 0,2739 [0; +1) 0,87% 21 : 11 *2,59 0,0096 [0; +1) 0,19% 147 : 126 1,4419 0,1493 Table 4. (*, **,*** Significantly different from zero at the 10%, 5% or 1% level respectively).
Figure 2 and 3 show the cumulative average abnormal return over the event window [-‐10; +10]. A clear peak can be seen after the announcement for DAX firms. For AEX this peak is a lot smaller
Figure 2. CAARs of DAX firms
Figure 3. CAARs of AEX firms
6. Conclusion
This paper examined the effect of share repurchase announcements on stock returns of German firms listed on the DAX and Dutch firms listed on the AEX over the period 2008 to 2014. Share repurchases are very important payout methods for firms nowadays; they are even more widely used than dividend payments in the US. Different methods for share repurchases were discussed as well as the motives behind them and the effect they have on stock returns.
The purpose of this research was to find out if share repurchases in the Netherlands and Germany were still followed by positive cumulative abnormal returns. I find a
statistically significant positive CAAR of 1,01% for DAX firms and a 0,18% return for AEX listed firms over the event window [-‐1; +1]. So I conclude that share repurchase
announcements still cause abnormal returns in the Netherlands and Germany. Additionally I found some evidence for the undervaluation hypothesis. These findings are consistent with similar studies, however the returns I found are significantly lower. It is very plausible that the financial crisis is a big factor in this, but further research is needed to confirm this. The study also had some limitations, the database used to collect the share
repurchase announcements, ZEPHYR, seemed to be incomplete, less than 50 repurchases were found for a period of over six years. So future studies might benefit from other ways to collect this data.
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