The value-added from cross-border mergers and acquisitions
A study of merger induced abnormal performance of domestic versus cross-bordertransactions in the Benelux
N.H. Hinse
Supervised by J.E. Ligterink
Abstract
This thesis uses an event study methodology to investigate and compare the merger induced abnormal performance from cross-border and domestic mergers and acquisitions in the Benelux. The difference in cumulative abnormal returns from cross-border and domestic mergers and acquisitions is tested. Evidence is found that there are significant positive abnormal returns for bidders’ shareholders. Furthermore this thesis concludes that there is no significant difference between the abnormal returns for acquirers’ shareholders from cross-border and domestic mergers and acquisitions.
Table of contents
1 Introduction 3
2 Theoretical framework 5
2.1 Introduction to mergers and acquisitions 5
2.2 Factors relevant for mergers and acquisitions 5 2.3 Factors specific for cross-border mergers and acquisitions 8 2.4 Empirical evidence on wealth effects for shareholders 9
2.4.1 Short-term wealth effects 10
2.5 Hypothesis 11
3 Research methodology 12
3.1 Data and sample selection 12
3.2 Sample statistics 12
3.3 Methodology 14
3.3.1 Event study 14
3.3.2 Abnormal return model 15
3.3.3 Analysis of abnormal returns 17
3.3.4 Testing for abnormal performance 18
3.3.4.1 The basis t-test 19
3.3.4.2 Testing for significance 20
3.3.4.3 Testing the difference between the CAARs 21
4 Data analysis and results 22
4.1 Wealth effects from takeover announcements 22
5 Conclusion and discussion 25
5.1 Conclusion 25
5.2 Discussion 26
References
1 Introduction
In recent years the number of cross-border acquisitions has increased, which is at its highest level since the financial crisis (Le Bas and King, 2013). Even more since 1998 the volume of cross-border transactions has been growing globally, from 23% in 1998 to 45% in 2007. About one third of worldwide mergers and acquisitions result in a new entity that comprises two firms from two different countries. As a result of increasingly globalising markets, cross-border transactions are likely to gain even more importance in the upcoming years (Erel et al., 2012). This globalisation results in several reasons for corporations to investigate opportunities outside their domestic markets. Globalisation creates opportunities for companies to create value through economies of scale and size, but it also provides opportunities to access a larger customer base in new markets. Whereas cross-border transactions have been dominated by relative large multinationals, Le Bas and King (2013) find that cross-border acquisitions are progressively becoming a focus area for corporations of all size and are not dominated by large corporations anymore. There are several factors that play an important role for both domestic and cross-border transactions, such as potential synergies, potential increased market power and agency considerations. However, as a result of national borders there is an extra set of factors that influence the success of cross-border mergers and acquisitions. These include, but are not limited, to differences in culture, corporate governance standards and international tax regulations (Erel et al, 2012).
As aforementioned, previous research has shown that there are several factors that influence the dynamics of both domestic and cross-border mergers and acquisitions.
Furthermore there are several frictions that are specific for cross-border transactions and are the result of national borders. In both cases the main reason for mergers and acquisitions is to increase shareholder wealth through the process of channelling corporate assets in the best possible way (Rossi and Volpin, 2004, p. 278). Previous research from Dewenter (1995) suggest that differences in abnormal returns between domestic and cross-border mergers and acquisitions are the result of other determinants relevant to mergers and acquisitions and are not the result of the deal type, domestic or cross-border. However, Doukas and Travlos (1988) found that acquiring firm shareholders experience significant positive abnormal returns as a result of the announcement of a cross-border acquisition. This is in line with foreign direct investment theory that state that imperfections exist which result in a competitive advantage for multinational corporations over domestic firms (Kang, 1993).
In this thesis, I will investigate the wealth effects of mergers and acquisitions completed between 1997 and 2012 in the Benelux. As most of the previous research has focused on the US or the UK, I believe that the focus on Benelux targets will contribute to the topic of shareholder value creation through mergers and acquisitions. Moreover where
numerous research studies have been performed on mergers and acquisitions, the vast majority of these studies have focused on domestic transactions (Erel et al., 2012). In order to analyse the value-added wealth effects for acquirers’ shareholders of cross-border mergers and acquisitions the data sample is divided into domestic and cross-border transactions. The dataset is comprised of listed companies in order to be able to conduct research on the abnormal returns resulting from mergers and acquisitions. Especially the link between cross-border mergers and acquisitions and value-creation for acquiring firms’ shareholders, in comparison with domestic transactions, will contribute to the field.
The remaining part of the thesis is organised as follows: section 2 comprises a literature review of the general findings regarding the profitability drivers of both domestic and cross-border mergers and acquisitions. Furthermore this section will investigate the empirical evidence on both the short-term and long-term wealth effects of for the
shareholders of the bidding firm. Lastly in this section I will state my hypothesis regarding the research question. Section 3 describes the research methodology and data sources used for this study. Regarding the methodology this section will outline several parts, such as the considerations for the event study and the model used for the abnormal return calculation. In section 4 the data is analysed and the actual difference between domestic and cross-border mergers and acquisitions is discussed. Finally section 5 concludes the findings from this thesis.
2 Theoretical framework
2.1 Introduction to mergers and acquisitions
First the definition of a merger or an acquisition is defined before turning to a more extensive description of why transactions occur. Jensen and Ruback (1983) refer to a merger as a form of transaction in which the terms are negotiated with the target’s board of directors, before the shareholders are asked to vote for approval. The term acquisition is used when an entity, i.e. a strategic buyer or financial sponsor, makes an offer directly to the existing shareholders to sell their shares at a specified price. In both cases the main reason for a takeover is that theory predicts that it results in a reallocation of corporate assets in order to create higher shareholder value for the combined entity than the sum of the shareholder values of the separate entities (Rossi and Volpin, 2004). The literature provides (e.g. Bris and Cabolis, 2008, and La Porta et al., 2002) numerous reasons why value is created through these transactions and also discovered a variety of profitability drivers for both domestic as cross-border mergers and acquisitions. Erel et al. (2012) found several factors that need to be considered when conducting acquisitions, either domestic or cross-border. These factors include, but are not limited to, potential synergies, potential increased market power and agency considerations. Due to national borders, however, there is an extra set of frictions that influence the wealth effects for shareholders of cross-border mergers and acquisitions. For example differences in culture, corporate governance standards and international tax regulations (Erel et al., 2012).
In this section the frictions that influence cross-border mergers and acquisitions will be investigated first in section 2.2. In section 2.3 the factors that are important for both domestic and cross-border transactions will be investigated. Section 2.4 will conclude the literature review with an investigation of the wealth effects, both short-term and long-term. Lastly section 2.5 will state the hypothesis of this thesis.
2.2 Factors specific for cross-border mergers and acquisitions
First the factors that result from national borders and are specific to cross-border
transactions are examined. This extra set of factors is likely to affect the costs and benefits of a merger (Erel et al., 2012). Previous research has shown that there are several additional factors that play a role when firms engage in cross-border mergers and acquisitions. This section will focus on the following factors that influence the success of cross-border transactions: differences in culture and geographical presence, corporate governance considerations and valuation differences.
First, national boundaries are likely to be associated with frictions between two separate entities and therefore result in higher implementation costs. The physical distance between two companies can increase the costs of combining two entities (Rose, 2000). Geographical presence from the firms engaged in an acquisition plays an important role in the successfulness of cross-border transactions. Holding other things constant, it becomes clear that the shorter distance between the two countries, the more likely it is that more acquisitions between these countries are observed. Additionally, if countries trade on a frequent basis with each other the likelihood of successful transactions increases due to more synergies and lower implementation costs (Erel et al., 2012). These increased costs can also be the result of several factors, such as different cultures, languages and religion. Comparable to geographic distance, Ahern et al. (2012) suggest that the greater the differences are regarding cultural aspects between two merging firms the higher likely it is that that transaction is unsuccessful. Synergy gains in these types of acquisitions require more coordination between the employees of the firms and therefore increase the
implementation costs of the transaction. For example, in some cultures teamwork is valued above individual aspirations (e.g. in Japan), whereas in other cultures, it is the opposite. As a result of these types of cultural differences the implementation process is more difficult and therefore, the realisation of synergies is less likely. Concluding cultural differences, Ahern et al. (2012) have found that less cultural differences lead to higher combined announcement returns in cross-border acquisitions. This is consistent with the theory that cultural differences impose costly frictions between firms.
Second, corporate governance considerations play a role in cross-border transactions as a result of several reasons. Rossi and Volpin (2004) find that differences in laws and enforcement explain the intensity of mergers and acquisitions around the world. Countries with relative high-quality corporate governance and accounting standards experience a significant larger activity of mergers and acquisitions. A corporate governance regime with stronger investor protection leads to a market with a higher frequency of acquisitions. These findings are in line with other research studies, such as Bris and Cabolis (2008) and La Porta et al. (2002). Cross-border mergers are a mechanism for firms to change their corporate governance policies. The merger premium is significantly larger in 100% acquisitions for which the shareholder protection of the acquirer is better than the target’s, which suggests that acquiring firms observe opportunities to increase value in altering the corporate governance standards (Bris and Cabolis, 2008). If the regulation in the acquirer’s domestic market is higher than in the market of the target then minority shareholders are able to gain from more legal protection and value is created through the acquisition. In general, corporate governance theory predicts that firms in countries with higher standards will acquire
companies that operate in countries with less corporate governance regulation. 6
Lastly, the valuation plays an important role in cross-border mergers and acquisitions. As a result of the fact that markets in different countries are not perfectly integrated, there are possibilities for valuation differences across markets that can motivate mergers and
acquisitions. Due to different currencies the valuation of a target in a different country could be undervalued. For example, if an acquirer’s currency rises for an exogenous reason this could lead to potential acquisitions that are now profitable, which would not have been the case with old exchange rates. Therefore the view of participants in cross-border transactions on the current exchange rate, whether it is temporary or permanent, has an influence on the profitability of these mergers and acquisitions (Erel et al., 2012).
In their research study Shleifer and Vishny (2003) propose a theory in which
transactions are driven by stock market valuation. The fundamental assumption they make is that firms are valued incorrectly as a result of inefficient financial markets. Their behavioural model points to an incentive for firms to get their equity overvalued, which results in inflated prices when they acquire other firms that are currently undervalued. In this case there is value being transferred to the shareholders of the acquiring firm by taking advantage of the arbitrage opportunity of inefficient markets, which result in temporary valuation differences (Shleifer and Vishny, 2003, p. 309). Baker et al. (2009) findings are in line with the model aforementioned, however, they have additional reasons that motivate cross-border mergers and acquisitions regarding valuation differences. In addition to the model of mispricing-driven acquisitions they find that there are two other reasons that result in arbitrage opportunities for multinationals. One is that managers from multinationals have better information about their own cost of capital than about the cost of capital or incorrect valuations in foreign markets. The other is that temporary valuation differences can occur as a result from an asymmetric limit on arbitrage, such as short-shale constraint, which may increase the opportunities to exploit overvaluation relative to undervaluation (Baker et al., 2009, pp. 364 – 365). If the valuation differences are permanent, the attractiveness of acquisitions would be unaffected by the valuation movements. However, there are other factors that come in play when permanent valuation differences occur. Kindleberger (1969) finds that cross-border transactions can occur as a result of either higher expected earnings or a lower cost of capital after the merger has been completed. In addition to the aforementioned reason Froot and Stein (1991) find that if a foreign firm’s valuation increases relative to that of domestic companies its cost of capital declines relative to the cost of capital of domestic firms as a result of less information problems it faces when raising capital. The implication of this statement is that permanent valuation differences can lead to more mergers and acquisitions activity, because the cost of capital is lower for foreign firms and as a result they are able to offer a higher share price for target firms than the share prices offered by domestic firms.
2.3 Factors relevant for mergers and acquisitions
Beside the factors that are specific to cross-border mergers and acquisitions there are other factors that play a role in all types of takeovers and are not specific to either domestic or cross-border acquisitions. In their research study Jensen and Ruback (1983) discovered a variety of factors that play a role in any type of merger or acquisition. The factors that will be investigated in this section include; cost and revenue synergies, financial synergies and costs due to agency considerations. The value that is created through these synergies is, according to Alexandridis, Petmezas and Travlos (2010), the main goal of mergers and acquisitions is a positive wealth gain for existing shareholders.
Firstly there are potential reductions that can be achieved in production or distribution costs, which could occur due to the reallocation of corporate assets and using these assets in their best possible way. This type of value creation is often referred to as cost synergies and is a crucial factor for positive wealth effects as a result of mergers and acquisitions. Cost synergies can be obtained through realisation of economies of scale, vertical integration, optimisation of corporate assets, and increased utilisation of the different skills of the bidder’s and target’s management team. Furthermore takeovers could increase market power in markets where either the bidding or target firm is active. This type of synergy is often referred to as revenue synergies, because value is created through the opportunity to create value as a result of increased sales. As a result of the increased market power firms can benefit from the possibility that the combined entity can charge profit-maximising prices, which was not possible before the merger due to cartel regulation (Jensen and Ruback, 1983, pp. 23 – 24). Moreover, beside the reasons for synergies mentioned above, Berk and DeMarzo (2009) provide other explanations for potential synergies. Following the revenue synergies that are created through increased market power there is another result of this increased market power. They explain that due to the merger between large, within the same industry, rivals drastically reduce competition within this market and as a result profits of the combined entity could increase. Furthermore there are more possibilities for production efficiencies, which could also be the result of the acquisition of a specific expertise within the target firm.
Second there are financial motivations for mergers and acquisitions. Takeovers can lead to a better utilisation of the tax shields of both the bidding as the target firm. As a result of optimising the utilisation of tax shields the combined tax liability of the two firms can be lowered, if the unused tax shields of one firm are allowed to be used by the other firm (Erel et al., 2012). Moreover the combined entity can benefit from avoidance of bankruptcy costs, increased leverage and other specific tax advantages (Jensen and Ruback, 1983). Another source of potential financial synergies is the possibility for firms that lack growth
opportunities, but with substantial free cash flows, to acquire firms with large growth 8
opportunities (Nielsen and Melicher, 1973). In this case value is created through the
redeployment of capital, which is in line with other motivations for mergers and acquisitions where value is created through the optimisation of corporate assets. Furthermore there is another potential financial synergy that can be obtained through mergers and acquisitions. Acquiring firms can benefit from increased use of tax losses and credits, and the opportunity to step-up targets’ assets without paying corporate level capital gains. Studies have found that these tax benefits are part of the motivation that leveraged buyouts occur. However, empirical evidence suggests that the financial synergy created through tax benefits is not the main reason for mergers and acquisitions (Jarrel et al., 1988).
Finally, there are agency considerations when investigating the factors important for mergers and acquisitions. Jensen and Meckling (1976) argue that agency problems occur when the managers of a firm can engage in transactions that are beneficial for their own wealth, but have a negative wealth effect for the shareholders of the company. This could be the result if the managers have a relatively low degree of ownership in the company and are therefore able to achieve positive wealth effects given the value-destroying transaction. Another consideration regarding agency theories is that managers are able to strengthen their positions as a result of specific acquisitions which increase the costs for shareholders to replace the manager (Shleifer and Vishny, 1989). There are numerous other examples of agency considerations that are costly for the existing shareholders of acquiring firms. The main consideration when analysing agency conflicts is the possibility for managers to acquire firms in order to increase managers’ individual utilities, but destroy value for the existing shareholders of the acquiring company.
2.4 Empirical evidence on wealth effects for shareholders in mergers and acquisitions
This section will present empirical evidence that is found in previous studies on the wealth effects that are a result of mergers and acquisitions. There is a voluminous amount of research papers that investigate the gains from takeovers and the majority of these papers use an event study as the research methodology. This methodology offers a way to analyse the effects of a specific event, in this case a merger or an acquisition, on the share prices of either the acquiring or target firm. From previous literature it becomes clear that mergers and acquisitions influence the performance of the merging firms, which can be either short-term or long-term wealth effects. Dependable on the event window that is chosen in a specific research the results will either present information on the short-term or on the long-term wealth effects. Studies that examine the effects of mergers and acquisitions in the short run choose relatively short event windows, ranging from one day before the event to one day after the event (Moeller et al., 2004) to as much as 40 days before the event to 40 days after
the event (Maquieira et al., 1998). Other studies focus on long-term wealth effects and therefore choose an event window accordingly to observe these effects. The event window in these studies can adopt a window ranging from one year before to year after the event (Asquith, 1983) or even a 3-year period (Dodd & Ruback, 1977). In thesis the value-added from cross-border mergers and acquisitions in comparison to domestic transactions is investigated.
2.4.1 Short-term wealth effects
As mentioned before, the short-term wealth effects are examined through an event study, which offers a methodology to analyse the effects of certain events. The short-term wealth effects of takeovers, both domestic and cross-border, will first be investigated before turning to specific research papers that focus on cross-border mergers and acquisitions.
Asquith et al. (1993) study the effects of mergers and acquisitions on shareholder value for bidding firms. They use a sample that consists of 214 bidding offers during the period 1963 – 1979 that there is a positive and significant short-term wealth effect for acquiring firms’ shareholders of 2.8%, on average. For their study they used an event window ranging from 20 days before the event to the actual event itself. In line with the previous study Campa and Hernando (2004) examine the value generated to shareholders in the European Union over the period 1998 – 2000. With a sample of 262 takeover
announcements in the European Union they use four different event windows to analyse the wealth effects for shareholders. The event windows used are within the ranges set out before that analyse short-term wealth effects. They find that, on average, target firm shareholders receive a significant cumulative abnormal return of 8.90%. In contrast, acquirers’ cumulative abnormal returns are, on average, 0.56%. However, this result is not statistically significant.
Doukas and Travlos (1988) examine the short-term wealth effects for the
shareholders of acquiring firms in cross-border mergers and acquisitions. They use an event window ranging from 15 days before the event to 15 days after the event. They find that the short-term wealth effects for shareholders of acquiring multinationals that do not already operate in the market of the target achieve, on average, is 0.31% and this result is
statistically significant. Following the previous study Harris and Ravenscraft (1991) examine share returns in order to investigate the wealth gains of targets’ shareholders. In their study they use two different event periods, both fall within the range to test short-term wealth effects. The first event window ranges from 20 days before the event to 5 days after the event. The second event window ranges from 3 days before and 1 day after the event occurred. They find that target wealth gains are significantly higher for cross-border
transactions (3.98%) than those in domestic acquisitions (2.63%). The data sample used in 10
this paper studies the shareholders wealth gains for 1,273 US firms acquired during the period 1970 – 1987. In particular, the differences between acquisitions by foreign companies and domestic firms are investigated.
Most of the previous research studies that analyse short-term wealth effects suggest that, on average, target shareholders gain from takeovers. Whereas both Asquith et al. (1993), and Doukas and Travlos (1988) find positive and statistically significant short-term wealth effects for acquiring shareholders there are other studies that contradict these findings. The mixed results regarding the wealth effects for bidding firms’ shareholders is, in my opinion, another motivation for this thesis and its contribution to the field.
2.5 Hypothesis
Finally, this section concludes with the hypothesis that is being tested in this thesis. This study analyses if there is a difference in wealth effects for shareholders following either a cross-border or a domestic takeover. As aforementioned cross-border mergers and acquisitions have an extra set of frictions that affect the performance of the takeover. This thesis analyses what the wealth effect of these extra factors are by comparing the abnormal performance, as a result of takeovers, of domestic and cross-border acquisitions. The null hypothesis that is used to test this is the following:
H1: Abnormal performance for acquirers’ shareholders will, on average, be equal for domestic and cross-border mergers and acquisitions.
The null hypothesis is based on the findings of previous research on cross-border
transactions, which suggests that the cross-border return effects result from differences in other determinants of successful mergers or acquisitions rather than the difference between domestic and cross-border transaction (e.g. Danbolt (2004) and Dewenter (1995).
3 Research methodology
In this section I discuss the methodology that is used to analyse the wealth effects for
shareholders of acquiring firms in mergers and acquisitions. Section 3.1 will elaborate on the data and the sample selection, which are further discussed in section 3.2. With the dataset established section 3.3 will explain research methodology, such as the event study and the abnormal return model.
3.1 Data and sample selection
The dataset used for this thesis is obtained from the Zephyr database, which contains information on worldwide mergers and acquisitions, IPOs, and private equity and venture capital deals. It provides historic data and details on mergers and acquisitions from 1997 to date. For my data sample I used the following restrictions. First of all the dataset includes only completed mergers and acquisitions between 1997 until 2014, where the method of payment is either cash or shares. The lower boundary in the time period is chosen due to the fact that the database used does not contain information on takeovers before this year. In order to analyse the wealth effects for acquiring firms’ shareholders the criterion is added that the acquirer needs to be listed on a stock market within the European Nation. As a result of this criterion I can use the Thomson Reuters Datastream database to require the daily share prices of the acquiring firms . Furthermore this thesis focuses on mergers and
acquisitions in which the target firm is located in the Benelux, i.e. Belgium, The Netherlands and Luxembourg. This thesis focuses on the Benelux in order to gain insight in a specific region that, in my opinion, has not been studied thoroughly enough in recent years. Therefore this study could be the first analysis of the wealth effects for acquirers´ shareholders when companies located in the Benelux are acquired.
The aforementioned restrictions result in a dataset that consists of 469 completed mergers and acquisitions, of which 192 are domestic and 274 are cross-border. After the transactions have been sanitised the data sample consists of 161 domestic and 249 cross-border mergers and acquisitions, which results in a total of 410 takeovers. As a result of the criterion that the acquiring firm needs to be listed on a stock market of a country in the European Nation, which includes 27 countries, the daily share prices can be obtained from the Thomson Reuters Datastream database.
3.2 Sample statistics
The dataset used in this study consists of 410 mergers and acquisitions that were completed during the period from 1997 to 2014. Figures 1, 2, 3 and 4 provide information on the specific dataset that is being used. First of all figure 1 gives information on the number of mergers and transactions that were rumoured in the years 1997 to 2013.
Secondly, figures 2, 3 and 4 give an overview of the method of payments that were used in the transactions. I observe that for the period studied there was a higher amount of cash bids in cross-border mergers and acquisitions. One reason for this observation could be the arbitrage opportunities that foreign firms can exploit when there are valuation differences. This theory from Shleifer and Vishny (2003) is earlier discussed in section 2.3
3.3 Methodology
Since Fama et al. (1969) first applied the event study methodology it has become the
dominant methodology to examine wealth effects of specific events, in this case mergers and acquisitions, on share prices. The efficient market hypothesis is fundamental in this study, because the information that is communicated through takeover announcements should lead to changes in share prices. Whereas Fama et al. (1969) used the event study methodology in order to analyse the effects of stock splits, there are many other events that can be studied using this methodology. In general, Bowman (1983) identifies five steps which are important when conducting an event study. However, in this thesis the five steps are reduced to three steps; (1) identification of the event that is being studied and the specific timing of this event, (2) specification of a benchmark model for normal stock return analysis, and (3) calculation and analysis of the abnormal returns around the event that is being studied. The other two steps from Bowman are; (1) organisation and grouping of the excess returns and (2) analysis of the results. However, these steps have been altered in this thesis and will be further discussed in section 3.3.3.
The subsequent part of this section explains the research methodology that is used to analyse the data in section 4. First of all, section 3.1, elaborates on the timing of the event and the estimation windows which are being used. Section 3.3.2 and 3.3.3 establish the foundations for the model that is used to test the data. Finally, section 3.3.4 explains in which way the significance of the results are being tested.
3.3.1 Event and estimation windows
In this thesis the event that is being studied is the announcement of mergers and acquisitions that eventually were completed. It seems an oblivious observation that the timing of this event should be the date on which firms announce a merger or an acquisition. However, I believe that in order to capture the entire abnormal return as a result of mergers and
acquisitions the date of the event should be when the market receives the first rumours of a takeover. In the dataset that is being used there are 118 (26.4%) takeovers with a different rumour date than announcement date. The difference between the usage of either the rumour date or the announcement date is being tested in the third hypothesis of this thesis.
As mentioned in section 2.4 when conducting an event study the researcher has to decide whether the short-term or the long-term wealth effects are being analysed. Martynova and Renneboog (2008) describe three shortcomings that influence the results of long-term wealth effects studies. First, it is difficult to isolate the wealth effects that are due to the actual takeover and are not the result of other exogenous factors. Obviously if the timespan of an
estimation period increases the probability that other factors affect share prices increases. Second, as a result of the longer period that is being observed there is a higher probability that the benchmark performance suffers from either measurement or statistical problems (Barber and Lyon, 1997). Third, since most of the methodologies rely on the assumption of financial market efficiency, which predicts that the effect of takeover announcements should be fully incorporated in the short-term returns and not in the abnormal returns in the long run.
The three shortcomings discussed above result in the decision to choose event windows that analyse the short-term wealth effects. I will use four different event windows around the event date that test the abnormal returns for the shareholders of the acquiring firms. The event windows that will be used, are; (-1; +1) days and (-10; +10) days from the event date. Another important part of an event study is the choice of a benchmark model for stock return behaviour. Section 3.3.2 will further elaborate on the specific choice for the market model. However, a crucial part of this model is the estimation window that is chosen to achieve a benchmark for the normal returns of a stock. The estimation window that is being used in this thesis is in line with the benchmark period chosen by Martynova and Renneboog (2006) and consists of a period of 240 days. It ranges from 300 days to 60 days prior the actual event.
3.3.2 Abnormal return model
“The difference between the actual return in the event period and the expected returns is referred to as the abnormal return.” This definition is used by Fama et al. (1969) in the first study that used the event study methodology. By calculating the abnormal returns around the event date, this thesis analyses the short-term wealth effects for shareholders of acquiring firms. As mentioned in the previous section the rumour date, which is the first time
information regarding a potential merger of acquisition reaches investors, is used as the event date and is defined as t0.
Furthermore the previous section elaborates on the estimation period of 240 days that is being used in this thesis. The estimation period is defined as the period between T1 and T2, as shown in figure 5 below (De Jong, 2007). This estimation period will be used to obtain a benchmark of the share price performances of the acquiring firms. In order to determine this benchmark it is required to estimate some parameters. This estimation is typically performed over the estimation period (T1, T2), which precedes the event period. In figure 5 the event period lies between t1 and t2, where t1 and t2 are dependable of the event window chosen.
Figure 5: Time line around an event
During the event period the short-term wealth effects for shareholders are being analysed by calculating the abnormal return. The model that is being used to calculate these returns is:
𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡 = 𝑅𝑅𝑖𝑖,𝑡𝑡− 𝑁𝑁𝑅𝑅𝑖𝑖,𝑡𝑡
Where: 𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡 = Abnormal return of firm i at time t 𝑅𝑅𝑖𝑖,𝑡𝑡 = Realised return of firm i at time t 𝑁𝑁𝑅𝑅𝑖𝑖,𝑡𝑡 = Benchmark return of firm i at time t
The normal return, which is a benchmark of the performance during the estimation period, is calculated as follows:
𝑁𝑁𝑅𝑅𝑖𝑖,𝑡𝑡 = 𝛼𝛼�𝑖𝑖 + 𝛽𝛽̂𝑖𝑖𝑅𝑅𝑚𝑚𝑡𝑡
Where: 𝑁𝑁𝑅𝑅𝑖𝑖,𝑡𝑡 = Normal return of firm i at time t
𝛼𝛼�𝑖𝑖& 𝛽𝛽̂𝑖𝑖 = Estimates of the regression coefficients 𝑅𝑅𝑚𝑚𝑡𝑡 = Return on market index
In this way the abnormal returns are defined as the residuals of the market model. De Jong (2007) finds that market wide stock price movements could lead to bias in the results. To correct for this omission, the return on a market index, can be chosen for the benchmark period. Therefore the market adjusted returns method is chosen and the next step is to decide which market index will be used. According to Martynova and Renneboog (2006)
there are two European wide market adjusted return indices that are suitable for this type of methodology. The first is the MSCI European Index and the second index is the S&P Europe 350. The S&P Europe 350 is chosen as the market index for the calculation of abnormal returns for cross-border mergers and acquisitions, since the acquiring firms are located in European countries. In this thesis the MSCI European Index will be used as the benchmark.
3.3.3 Analysis of abnormal returns
When analysing abnormal returns it is common practice to label the event date as time t = 0. Therefore the abnormal return on the event date itself it labelled as ARi,0 and, for example, ARi,t denotes the abnormal return t periods after the event. If there is more than one event relating to one firm or share price movement, they are treated as if they are related to separate firms. As aforementioned the event period runs from t1 to t2. If the assumption is made that the data sample consists of N firms, the matrix, as shown in figure 6, can be constructed (De Jong, 2007, pp. 6 – 7).
Figure 6: Matrix of abnormal returns
Each column of the matrix in figure 6 represents a different time series of abnormal returns for a firm i, where t is the time index that is counted from the actual event date (t = 0). Each row is a cross section for the abnormal returns of time period t.
In order to study the actual abnormal returns that are caused by the event that is being studied, each firm’s return data could be analysed separately. However, share prices can increase or decrease due to other factors unrelated with the actual event. Therefore the contribution of an event study that analyses the abnormal returns for separate firms would be relatively low. De Jong (2007) suggests that by averaging the information over a number of firms improves the informativeness of the analysis significantly. This average, which is an unweighted cross-sectional average of the abnormal returns in period t, is calculated using as follows:
𝐴𝐴𝐴𝐴𝑅𝑅𝑡𝑡 = 𝑁𝑁 � 𝐴𝐴𝑅𝑅1 𝑖𝑖,𝑡𝑡 𝑁𝑁
𝑖𝑖=1
Where: 𝐴𝐴𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡 = Average abnormal return at time t
𝑁𝑁 = Number of firms
1
𝑁𝑁∑𝑁𝑁𝑖𝑖=1𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡 = Sum of all abnormal returns of all firms in period t
In this case large deviations from zero in respect to the average abnormal returns indicate abnormal performance. The average should reflect the wealth effects of a specific event, since all of the analysed abnormal returns are observed around that particular event. All other sources of information that might influence the share price should be cancelled out on average.
Because this thesis aims to analyse the abnormal performance over a longer period, and not only on the event date, we use the cumulative abnormal returns method. In this method the abnormal returns are aggregated from t1 to t2, where t1 and t2 depend on the event window that is chosen. The aggregating of the abnormal returns is done, as follows:
𝐶𝐶𝐴𝐴𝑅𝑅𝑖𝑖 = 𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡1+ . . . +𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡2= � 𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡 𝑡𝑡2
𝑡𝑡=𝑡𝑡1
As seen before, the CARs are aggregated over the cross-section of events in order to obtain the cumulative average abnormal returns (CAAR):
𝐶𝐶𝐴𝐴𝐴𝐴𝑅𝑅 = � 𝐴𝐴𝐴𝐴𝑅𝑅𝑡𝑡 𝑡𝑡2
𝑡𝑡= 𝑡𝑡1
Where: 𝐶𝐶𝐴𝐴𝐴𝐴𝑅𝑅 = Cumulative average abnormal return
∑𝑡𝑡𝑡𝑡= 𝑡𝑡2 1𝐴𝐴𝐴𝐴𝑅𝑅𝑡𝑡 = Sum of all average abnormal returns from t1 to t2
3.3.4 Testing for abnormal performance
In most event studies a combination of graphical analysis and statistical tests is used to present the results and still test whether or not the calculated abnormal returns are
significantly different from zero at a certain significance level, which is specified a priori. As a result of this setup the null hypothesis that is tested, has the following form:
𝐻𝐻0∶ 𝐸𝐸�𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡� = 0
Which statistical test is appropriate is dependable on the statistical properties of stock returns and the way in which the abnormal returns are calculated. The basis t-test will be used in this thesis and is explained below. However, when conducting an event study there are potential pitfalls that need to be investigated. In the upcoming part of this section these pitfalls will be discussed.
3.3.4.1 The basis t-test
The most commonly used test of the null hypothesis of no abnormal return, as shown in the equation above, is a simple t-test. For the first introduction of this test there are a few
assumptions made, however, these will be relaxed later on. First, I assume that the average abnormal returns, 𝐴𝐴𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡, are independently and identically distributed. Furthermore I assume that they are normally distributed with mean zero and variance 𝜎𝜎2. The independence
assumption implies that all of the abnormal returns are not cross-sectionally correlated, which results in: 𝐸𝐸�𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡, 𝐴𝐴𝑅𝑅𝑗𝑗,𝑡𝑡� = 0 for 𝑖𝑖 ≠ 𝑗𝑗. This leads to the conclusion that the variance of the average, 𝐴𝐴𝐴𝐴𝑅𝑅𝑡𝑡, is equal to the variance of a single abnormal return multiplied with 1 𝑁𝑁⁄ , so that 𝐴𝐴𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡 ~ 𝑁𝑁(0, 𝜎𝜎2⁄ ). Given that we know the value of 𝜎𝜎𝑁𝑁 2, the test statistic for the null hypothesis is constructed as follows:
𝑍𝑍 = √𝑁𝑁 𝐴𝐴𝐴𝐴𝑅𝑅𝑡𝑡𝜎𝜎 ~ 𝑁𝑁(0,1)
With the aforementioned assumptions Z follows a normal distribution. However, in practice the value of 𝜎𝜎 is unknown, and therefore an estimator of 𝜎𝜎 is constructed from the cross-sectional variance of the abnormal returns in time period t:
𝑠𝑠𝑡𝑡 = �𝑁𝑁 − 1 ��𝐴𝐴𝑅𝑅1 𝑖𝑖,𝑡𝑡− 𝐴𝐴𝐴𝐴𝑅𝑅𝑡𝑡�2 𝑁𝑁
𝑖𝑖=1
This results in the following test statistic for the average abnormal return:
𝐺𝐺 = √𝑁𝑁𝐴𝐴𝐴𝐴𝑅𝑅𝑠𝑠 𝑡𝑡
𝑡𝑡 ~ 𝑡𝑡𝑁𝑁−1
With the assumptions discussed above this test statistic follows a Student-t distribution with (N – 1) degrees of freedom. However, due to strong evidence that suggests that stock returns do not satisfy the normality assumption, which deduces the distributions of the G and
Z statistics. If stock returns do not follow a normal distribution, then the test statistic G does not hold. However, as a result of the central limit theorem, it can be shown that in large samples G approximately follows a standard normal distribution. So if the sample size (N) is large enough, specifically for event studies N > 30, the quintiles of the normal distribution can be used as critical values for the t-test (De Jong, 2007). The critical values of G for the 1%, 5% and 10% are respectively 2.36, 1.96 and 1.67. This results, for example with a 5% confidence level, in rejection of the null hypothesis of no abnormal returns, if 𝐺𝐺 > 1.96 or 𝐺𝐺 < −1.96.Given that both sample sizes are larger than 30, this assumptions holds for this thesis.
3.3.4.2 Testing for significance
When performing an event study one is often interested in the abnormal performance that occurs around this event, instead of the abnormal performance on only the event date. The main reason behind this statement is that information regarding events might not present itself at one specific moment. It is likely that the news of a potential takeover spreads gradually to the public, which results in a spread of the abnormal returns that are a result of the event date. Moreover there is a difference between the rumour date and the actual date that the announcement is made public. As mentioned earlier this could lead to abnormal returns around the rumour date, but no presence of these returns around the announcement date. The reason for this is that the news is already incorporated in the share price and the actual announcement lost its wealth effect. However, in both cases there is uncertainty regarding the event date. To observe the entire wealth effects for shareholders an event window can be used, which comprises all abnormal returns that result from the takeover.
This section explains how the significance of abnormal returns over a specified event interval (t1, t2) is tested. In this case the null hypothesis states that the expected cumulative price change over this period is equal to zero. The definition for the cumulative abnormal return that is used is as follows:
𝐶𝐶𝐴𝐴𝑅𝑅𝑖𝑖 = 𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡1+ . . . +𝐴𝐴𝑅𝑅𝑖𝑖,𝑡𝑡2
The null hypothesis that is being tested in this test is as follows:
𝐻𝐻0∶ 𝐸𝐸(𝐶𝐶𝐴𝐴𝑅𝑅𝑖𝑖) = 0
The statistical test that is used to test the null hypothesis is similar to the test used for a one-period abnormal return. First, 𝐶𝐶𝐴𝐴𝑅𝑅𝑖𝑖 is calculated for every event from i and subsequently the cross-sectional average is calculated, which is done as follows:
𝐶𝐶𝐴𝐴𝐴𝐴𝑅𝑅 = 𝑁𝑁 � 𝐶𝐶𝐴𝐴𝑅𝑅1 𝑖𝑖 𝑁𝑁
𝑖𝑖=1
The next step is to calculate the standard deviation:
𝑠𝑠 = � 1
𝑁𝑁 − 1 �(𝐶𝐶𝐴𝐴𝑅𝑅𝑖𝑖− 𝐶𝐶𝐴𝐴𝐴𝐴𝑅𝑅)2 𝑁𝑁
𝑖𝑖=1 In this case the t-test is:
𝐺𝐺 = √𝑁𝑁𝐶𝐶𝐴𝐴𝐴𝐴𝑅𝑅𝑠𝑠 ≈ 𝑁𝑁(0,1)
Given that 𝐶𝐶𝐴𝐴𝑅𝑅𝑖𝑖 are mutually uncorrelated then this test statistic has an approximately standard normal distribution for large N.
3.3.4.3 Testing the difference between the cumulative average abnormal returns
In order to test whether the wealth effects for shareholders of the acquiring firms are larger in cross-border mergers and acquisitions than those effects for domestic transactions the following test is used to test the difference between the CAARs of these two groups.
𝑍𝑍 =𝑋𝑋 − 𝑌𝑌 − (𝜇𝜇𝑥𝑥− 𝜇𝜇𝑦𝑦) ��𝜎𝜎𝑥𝑥2
𝑛𝑛𝑥𝑥� + ( 𝜎𝜎𝑦𝑦2 𝑛𝑛𝑦𝑦)
Where: 𝑋𝑋 = CAAR for cross-border mergers and acquisitions 𝑌𝑌 = CAAR for domestic mergers and acquisitions 𝜎𝜎2 = Variance of the sample
𝑛𝑛 = Sample size
There are two assumptions implicit when using this test, namely that the samples are
independent and that they are normally distributed (Aw and Chatterjee, 2004). The z-value is then checked to examine the significance of the difference between the cumulative average abnormal returns for the two subsets of mergers and acquisitions.
4 Data analysis and results
4.1 Wealth effects from takeover announcements
In this section the results of the analysis regarding the wealth effect for acquiring firms’ shareholders are presented. The dataset has been divided into a subset with domestic mergers and acquisitions and another subset with cross-border mergers and acquisitions. In order to analyse the wealth effects for the shareholders of the bidding firm the cumulative abnormal returns (CAARs) are examined with a focus on the difference in the mean of the two subsets to determine the potential value of cross-border mergers and acquisitions in comparison to domestic transactions.
Table 1 shows that the abnormal returns for the shareholders of acquiring firms are positive in cross-border as well as in domestic mergers and acquisitions. However, only the CAARs for the relatively short event window are significant with a confidence level of 90%. Although the difference between the CAARs of cross-border and domestic mergers and acquisitions is positive for both event windows there is not enough evidence to conclude that these results are statistical significant.
Table 1: Bidder CAARs by geographical scope
All bids Event window [-7, +7] Event window [-1, +1] CAARs (%) p-value CAARs (%) p-value (1) Cross-border bids 0.9184 0.1611 1.5650 0.0146 (2) Domestic bids 0.0457 0.4761 0.3315 0.0735
z-value z-value
Difference (1) - (2) 0.8726 0.4719 1.2335 0.2529
As aforementioned the hypothesis of this thesis was whether or not cross-border mergers and acquisitions result in a higher abnormal performance for bidders’ shareholders than domestic transactions. In line with previous research, e.g. from Danbolt (2004) and Dewenter (1995) the following null hypothesis needed to be tested:
H1: Abnormal performance for acquirers’ shareholders will, on average, be equal for domestic and cross-border mergers and acquisitions.
As shown in table 1, as z < 1.64, the difference between cross-border and domestic takeovers is not significant for both event windows. As a result of these findings the null hypothesis is accepted and I conclude that, on average, the abnormal performance for
acquirers’ shareholders is equal for domestic and cross-border mergers and acquisitions. This is in line with findings from previous research studies.
Given that the dataset comprises transactions with different method of payments I also investigate the difference between cross-border and domestic mergers and acquisitions for these specific subsets. The observation is made that the difference between the
cumulative abnormal returns of domestic and cross-border mergers and acquisitions are positive. However, as tables 2, 3 and 4 show the difference between the CAARs is not statistical significant for the different methods of payment, which are cash, shares or mixed bids.
Table 2: Bidder CAARs by geographical scope (Cash bids)
Cash bids Event window [-7, +7] Event window [-1, +1] CAARs (%) p-value CAARs (%) p-value (1) Cross-border bids 0.4389 0.2514 0.4408 0.0901 (2) Domestic bids -0.0720 0.4681 0.2282 0.2266
z-value z-value
Difference (1) - (2) 0.5109 0.1335 0.2126 0.0879
Table 3: Bidder CAARs by geographical scope (Shares bids)
Shares bids Event window [-7, +7] Event window [-1, +1] CAARs (%) p-value CAARs (%) p-value (1) Cross-border bids 5.1179 0.0934 5.2277 0.0446 (2) Domestic bids -0.7248 0.3409 0.4615 0.3015
z-value z-value
Difference (1) - (2) 5.8428 0.5901 4.7661 0.5746
Table 4: Bidder CAARs by geographical scope (Mixed bids)
Mixed bids Event window [-7, +7] Event window [-1, +1] CAARs (%) p-value CAARs (%) p-value (1) Cross-border bids -0.2507 0.4721 2.9837 0.1711 (2) Domestic bids 0.9388 0.3050 0.4193 0.2327
z-value z-value
Difference (1) - (2) -1.1895 -0.1307 2.5644 0.3417
In order to test whether or not there is an effect from the method of payment with cash in comparison to either shares or a mixed payment a regression was conducted to test the effect of the method of payment on the cumulative abnormal returns. The dependent variable is the cumulative abnormal returns and the independent variables are two dummy variables for the payment with either cash or shares. However, the results are not significant and
therefore no conclusion is reached over the abnormal performance for acquiring’s
shareholders. The results are shown in table 5, which show that there are positive effects from both payments, however, these results are not significant.
Table 5: Results from multivariate regression
ANOVA df SS MS F Significance F Regression 3 0.022245692 0.007415231 0.401390072 0.752077024 Residual 406 7.500393966 0.018473877 Total 409 7.522639658 Coefficients Standard
Error t Stat P-value
Intercept -0.002413787 0.016308718 -0.148005957 0.882411544 CB vs. D 0.005030327 0.013980367 0.359813698 0.719173545 Cash 0.000557988 0.01709511 0.032640196 0.973977555 Shares 0.019892941 0.022063916 0.90160519 0.367801169 24
5 Conclusion and discussion
5.1 Conclusion
This study used a sample of 410 mergers and acquisitions, which involved Benelux targets from the period 1997 until 2013. The acquirers were from one primary region, namely the European Nation as of 1 January 2013, which includes 27 countries. This thesis tried to investigate the abnormal performance as a result of takeover announcements of targets located in the Benelux. The focus on the Benelux provides the opportunity to focus on a specific region that has not been investigated in previous research studies. Furthermore two different event windows were examined: 7 trading days before and 7 trading days after the event, and 1 trading day before and 1 trading day after actual event date. In order to obtain the abnormal performance of the companies in the dataset the market model was used. The restrictions that were set up for the dataset resulted in a dataset comprising transactions with different method of payments. As a result of this diversity within the dataset this study could examine the difference in acquirers’ wealth effects between cross-border and domestic mergers and acquisitions for all-cash, all-shares and mixed takeovers.
Evidence to date gives somewhat conflicting findings regarding the abnormal returns for acquirers’ shareholders. This study found significant positive abnormal returns for both the cross-border and the domestic mergers and acquisitions for the event window focused on testing the announcement effect (t-1 ; t+1). However, regarding the abnormal performance for the longer event window I have to conclude that the positive abnormal returns are not statistically significant. The same conclusion can be made regarding the difference between cross-border and domestic mergers and acquisitions for the three different methods of payment. This is in line with the contradicting findings from previous studies. Furthermore this study found that there is no statistical significant difference between the cumulative abnormal returns of cross-border and domestic mergers and acquisitions. As aforementioned there are several factors that influence the potential success of cross-border mergers and acquisitions, which are not important for domestic transactions. Due to the nature of these factors, however, it makes sense that the difference between cross-border and domestic takeovers is not significant. The extra set of frictions that play a role in cross-border mergers and acquisitions could result in a positive wealth effect for shareholders, but this effect could also be negative. For example, cross-border mergers and acquisitions can occur because of a lower cost of capital after the merger has been completed as a result of valuation
differences (Kindleberger, 1969, and Froot and Stein. 1991). Conversely, cross-border abnormal returns may be lower if the cultural differences between two companies result in higher implementation costs than a comparable domestic transaction.
In conclusion there is no statistical significant evidence to state that cross-border mergers and acquisitions result in higher abnormal returns than domestic takeovers. However, whereas the activity of domestic transactions has been relatively high for many years, the activity of cross-border mergers and acquisitions is still growing and is a relative recent development. Companies might still be learning from these mergers and acquisitions, which could, for example, result in more efficient implementations strategies for cross-border takeovers in the future. As a result of increasingly globalising markets, cross-border
transactions are likely to gain importance in upcoming years and I believe that companies will optimise the crucial aspects that increase the likelihood of successful cross-border
transactions.
5.2 Discussion
The goal of this thesis was to examine the value-added that cross-border mergers and acquisitions offer in comparison to domestic transactions. In order to test this difference in abnormal returns a dataset was formed that consisted of European acquirers that had acquired a Benelux target during the period 1997 – 2013. When setting up the dataset there have been several issues that I overlooked which could have increased the contribution of this paper to the field.
First of all the dataset is skewed on the markets from Belgium, Luxembourg and the Netherlands. This does not necessarily need to have a negative effect on the study,
however, due to the fact that the acquiring firms could be located in 27 countries in Europe the dataset is in my opinion not comparable. In my opinion the subsets of cross-border and domestic mergers and acquisitions should have been more in line with each other, i.e. acquirers and targets need the same restriction regarding their domestic market. Second, by focusing on listed targets the same method conducted for acquiring firms can be used to test the abnormal returns for target firms. When combining the abnormal returns from bidders and targets there is another possibility to test whether or not cross-border mergers and acquisitions create more value than domestic transactions. Lastly, as a result of the focus on Europe the valuation differences that play a role in cross-border mergers and acquisitions are almost entirely eliminated due to the euro. This problem can be resolved by using a dataset that includes countries with different currencies. In this case the main goal was to study the difference between cross-border and domestic transactions, and therefore this point has a relative smaller impact on the study.
Furthermore besides studying the difference between cross-border and domestic transactions one might be interested in the factors that cause these differences. In this thesis I have mentioned the factors that are important for cross-border transactions as well as the
factors important for all types of mergers and acquisitions. However, I did not examine the contribution of these factors for the dataset that was used to test the difference between abnormal returns of cross-border and domestic transactions. The contribution of this study would have been significantly higher when the latter was further examined as well.
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