Impacts of Mergers Acquisitions on Shareholder Wealth

Impacts of Mergers Acquisitions on Sh beholder WealthThis dissertation attempts to investigate, the pertain of Mergers Acquisition (MA) on sh atomic number 18holder riches in the European chamfering industry from 2003-2007 and explains in depth position of the literature reviewed by the author to provide the basis of the successful achievement of the project. MA has been a frequent research topic in finance with broad literature exists on MA. For this review to be achievable, a broad search for in diversenessation was undertaken by means of the internet and library. The research question will check the richesiness effects ( atypical softens) of MA involving European vernaculars using answer study methodology e rattlingwhere the condemnation consequence of 2003-2007 in twain the announcement period and long run post acquisition period. In some other words, can MA improves or destroy stockholder wealth of the tushs, period of playders and combined tightens.1.2 IntroductionThe decade of 1990 apothegm the biggest affix in European MA activity. Merger Acquisitions (MA) be eat been a significant phenomenon in the Europe. and the cosmea economy which symbolizes one of the most important strategic decisions made by managers and look atholders of the engaged firm. Sudarsanam (2003,para1,p.1) argues shareholders and managers may be the most important stakeholders in MA alone other groups such as workers, competitors, lenders, customers all wealthy person a collective interest in this activity.MA may be undertaken in order to set back an in good centering, but sometimes twain professiones may be more valuable together than apart. motif behind the jointures is to maximise the shareholders wealth. However, according to Jensen and Ruback (1983) and Sirower and Obyrne (1998), in almost two triad of cases, nuclear fusions produce wealth recognizes for take aim shareholders and more or less zero gains to acquirers. mixed studies have found that, usually the announcement of argot mergers neither make water nor destroy shareholders cling to Pill by and Santomero (1998). Also, some studies indicates that the announcement of certain types of strand mergers do create apprize, if that merger reduce woos.Berger, Demsetz, Strahan (1999) set five fundamental dynamic calculates that motivate corporate takeovers i.e. an increase of globalization, technological progress, fiscal deregulation, changes in customer demand and the integration of financial markets. Arnold (2005, para2, p.1041), defined mergers as the cartel of two business entities under common ownership whereas Bruner (2005) expresss it as consolidation of two firms that creates a bare-assed entity in the eyes of the law. tally to Investorwords.com acquisition is a acquiring control of a corporation, called a target, by short letter purchase or exchange, either opposing or friendly which also be called takeover. E.g. in October 2007, Royal bank of Scotland (RBS) merged with Dutch bank ABN Amro to clinch Europes biggest ever banking takeover with 86% of ABN Amros shareholders accept a 71bn euro (Ft.com). Bruner (2005) argues takeover activities are strategic transactions that could turn out to be an excellent coronation of capital and resources.1.3Merger wavesNowadays, MA is well known occurrence that have a go at its in waves according to curtilage from Bruner (2005), Gorton, Kahl Rosen (2005), Martynova Renneboog (2006). Five individual(a) merger waves were observed in the UK economy in the last century i.e. 1900s, the 1960s, the 1970s, the 1980s and the 1990s. (Kastrinaki, Stoneman 2007)Brankman, Garretsen, Van Marrewijk (2008) argues that, in terms of scotch importance, the dominant merger wave unpredictable is the positivist global outcome, suggesting that MA waves are an economy unsubtle global phenomenon. The wave of bank mergers has been established to explain the diverse theories e.g. the efficiency theory e xpect that mergers improve efficiency and help poor banks to survive as aspiration becomes increasingly morose in the banking industry. Gugler, Mueller, Yurtoglu (2004) finds that merger waves can be implicit if one identify that MA do not boost efficiency and doesnt increase shareholders wealth but instead sited that MA waves are best come across as the answer of overvalued shares and managerial opinion.1.4Why do MA drop dead?In various European countries, mergers have waiveed banks to increase efficiency by assisting the coordination of the closing of branches. Banks shareholders and managers need to recognize the potential sources of economic gain emerged from MA. Banks can reduce be and increase value in antithetic ways e.g. diversification. I.e. if mergers generate woo synergies such as economies of scale, banks can reduce expenses. gibe to evidence from Berkovitch Narayanan (1993), Sudarsanam, Holl Salami (1996), Hannan Pilloff (2006), Martynova Renneboog (2006), th e motives for MA have been categorised into the troika master(prenominal) groups i.e. economic motive or synergism, managerial or agency problems and hubris. The actual distribution of merger gains amid target and bidder shareholders will depend on their individual negotiating strengths. Therefore, following table exhibitions the conflict of mergers on shareholders wealthMerger causalityTotal GainsTarget GainsBidder GainsSynergy+++Agency problems+Hubris0+1.4.1 Synergy MotiveThe first key group that accounts for MA is an economic or synergy motive which means that two companies can achieve together which they cant achieve single-handedly. Siems (1996) argued that synergy theory projected that the acquiring bank can efficiently create synergies via economies of scale and scope by reducing greets and eliminating redundancies and duplication.Economies of scale occurs when the number unit cost of production declines as volume increases e.g. banking mergers in the UK of Bank of S cotland and Halifax of 30bn merger in whitethorn 2001, to create HBOS fifth major force in UK banking sector. The idea was that the Bank of Scotland was operating in sexual union of the country and Halifax was in south by merging these two banks, were trying to reduce cost of treat banking transactions. Economies of scope occurs when the cost of producing several products in a multi product firm is lower than the cost of producing the equal products by individual firms e.g. Banc assurance model, British banking and issuance giant Lloyds TSB acquired Scottish Widows in June 1999 for 7bn.Sudarsanam et al (1996) identified the sources of value creation into three main types i.e. operational synergy, managerial synergy and financial synergy. Operational synergy occurs during the recognition of economies of scale and scope, tumid integration, the elimination of duplicate activities, the transfer of knowledge or skills by the bidders solicitude team and a decrease in agency costs by bringing organization skillful assets underneath common ownership (Ravenscraft Scherer 1987, 1989 cited in Martynova Renneboog 2006).Sources of value in vertical mergers includes reducing transaction costs in which combining different stages of the production chain can reduce costs of communication and dicker i.e. one companys output is other companys input and by putting together will make the business efficient. E.g. Microsoft bid for Yahoo in January 2008, worth $42bn that will create more powerful browser or have a better chance of tackling the internet search leader. Having said that, current trends towards outsourcing suggest that, the benefits from vertical mergers are limited. According to Martynova Renneboog (2006), establishments of operating synergies reduce production distribution costs and yielding an incremental hard cash issue accruing to the companys post-merger shareholders.Sudarsanam et al (1996) argues managerial synergy could occur if the bidder has a com petent managerial team and takes over a target with fewer competent managers. Such takeover is disciplinary and likely to improve the wealth gain for both bidder and target shareholders. Having said that, there is a go outable risk of agency problems where the managers do not operate in the interest of shareholders.Martynova Renneboog (2006) argues that diversifying takeovers are likely to gain from financial synergies in which financial synergies may incorporate improved cash flow stability, cheaper access to capital, an internal capital market as well as contracting efficiencies created by a reduction in managers employment risk. Conglomerate mergers allow risk diversification by spreading the income stream of the holding company over a wide variety of products and markets. Sudarsanam et al (1996) finds that financial synergy materialize from three likely sources i.e. the tax advantage of wild debt, the growth opportunities and financial resources of the emerging companies and the coinsurance of debt of the two companies which contribute in lower costs of capital.1.4.2 Agency factor The second main motive for MA is managerial or agency factor. Shareholders are Principals i.e. owners of companys assets and managers are employed as shareholders Agents to manage these assets on their behalf. Managers should make decisions that are consistent with the objective of maximize the shareholder wealth, but managers do not share this objective necessarily. Managers will have their own individual(prenominal) objectives which will be mainly concerned with maximizing their own welfare (Sudarsanam et al 1996). Therefore, managerial decisions in acquisitions may end in agent costs that reduce the total value of the joint firm as they do not maximise but weaken shareholders return.Berger, Demsetz, Strahan (1999) argues that one managerial intention may be empire-building. decision maker compensation leads to increase with companys size, so managers may wish to accomp lish personal financial gains by lovable in MA, although at least in part the high(prenominal) observed compensation of the managers of larger institutions rewards greater skill and effort. To protect their firm-specific human capital, some managers may also try to reduce insolvency risk under the level i.e. in shareholders interest possibly by diversifying risk through MA movement. Arnold (2005) observes that the managers may jollify the thrill of the merger process itself and as a result push for such hatfuls to take place.1.4.3 Hubris The third and final main motive for MA is Hubris which was specified by Richard Roll in 1986. Arnold (2005, para2, p.1055), define hubris as over weaning self confidence or, less kindly, arrogance. The hubris hypothesis states that the valuation of target by the bidder management is over optimistic and per se the statement firms management overpays for the target. This perhaps for a number of bases such as decisions makers believing themselves , that the value exists when it does not or that their valuation is correct and that the market is not shimmering the full economic value of the combined firm. These managers may perhaps be overconfident or have misplaced combine in their ability to develop the profit capital punishment of the target firm. Berkovitch Narayanan (1993) argues that the hubris maintains that decision makers in the control firms scarcely pay too much for their targets as a result of mistakes in overestimating the value of the targets.1.5 Factors influencing shareholder returnsShareholders returns are not moreover affected by MA announcements, but they are also influenced by bid characteristics e.g. method of retribution, cross recoil MA, friendly vs. hostile bids etc.1.5.1 Method of payment The method of payment is one of the key variables that must be agreed between the buyer and seller to determine the firms perverted returns and overall outcome of the bid. According to Huang and Walkling (198 9), The form of payment will influence bidding strategy if it affects the anticipate NPVs of an acquisition. Huang and Walkling found that when method of payment and degree of conflict were taken into account statistically, abnormal returns were no higher in tender offers than in mergers. Payment methods can affect NPVs through interrelations with either acquisition cost or the probability of success or both whereas Dube, Glascock Romero (2007) argues that the different stages of benefit growing to the target and acquiring firms shareholders is attributed to the alternative methods of payments.Arnold (2005, para1, p.1059) states that cash payment has been the most popular and most valued method of payment which offers higher return than equity. For example, bidding firm is expected to carry out stock financed merger if the management of bidding firm has better-quality inside information that the existing assets of the firm are overvalued. However, if the bidder firm has confidenti al information almost the target company and trusts it to be undervalued, then it probably offer cash financed merger.Therefore, merger financed with stocks are a disconfirming signal because the use of stocks as a method of payment is more likely to occur when the stock is overvalued, while the use of cash is taken as the firm being overvalued. Alternatively, if target shareholders consider that their bank is overvalued, they will prefer to receive cash. This theory is supported by empirical literature and it demonstrates that at the time of the bid announcement acquirers who propose cash, tend to practice higher abnormal returns than those who offer stock financed merger.The advantage of cash is that the acquirer shareholders hold the same level of control over their company because their balance wheel of ownership has not been diluted by giving target shareholders stock options in the merged company. Therefore, the returns to the shareholders of a bidding firm will be higher i n cash financed merger than the stock. Brealey, Myers Marcus (2004, para1, p.599) states if cash is offered, the cost of the merger is not affected by the size of the merger gains. And if stock is offered, the cost depends on the gains because the gains show up in the post merger share price, and these shares are employ to pay for the acquired firm.1.5.2 Cross border MAThe combination of worldwide financial markets has been going together with, increases in the number and tiny harmonize of firms that operate in the global market and the globalization process has been to a rational extent support by cross border MA. According to Brankman, Garretsen, Van Marrewijk (2005, 2008) cross border MA are the main medium for foreign direct investment. MA provides fundamental but also limited understanding of this form of takeover, as cross-border MA are most likely related to economy-wide shocks such as economic integration, changes in the legal and regulatory environment or likely asymmet ric business cycles.Based on gone empirical evidence, though the majority of the domestic MA create significant wealth gains for the targets and negative or zero returns for bidders, cross border MA could have different impact on related firms. Kang (1993) verbalise that cross border MA are expected to create more wealth than domestic ones because of globe of market imperfections which leads to guide multinational firms (MNC) having a competitive advantage over local firms. Foreign banks have to act in accordance with with both regulations at home and abroad domestic credit establishments have cost advantages, since fulfilling two diverse sets of regulation enforce additional costs on foreign banks.Also, different regulations reduce the amount of related fixed costs. This decreases the possible action for banks to collect benefits from economies of scale and scope. Economies of scale propose that bank is able to reduce its costs by growing the volume of output of products and se rvices it already produces. As a result of developing into new country, a bank increases its potential client base and benefits from economies of scale. According to economies of scope, banks that diversify activities could reduce costs by providing more services.1.5.3 Friendly vs. hostile bidsAnalysis regarding the impact of hostile takeovers has been arguable, varying from the benefits of market discipline for maximizing efficient utilization of resources to the damage of market shortsightedness on the economy, on the society and on value built over years. Dube, Glascock Romero (2007) argues such debates can impact financial marketsand can be expected to expand as developing markets open up to foreign corporations and as economic power is redistributed amongst countries. Hostile takeovers occur, when the management of a firm resists the takeover attempt by bidders. Lambrecht and Myers (2007) state that in some cases a potentially hostile acquirer could be better off negotiating w ith the target management for a merger and that such a situation reduces the power of the target shareholder to extract value from the bidder. Hostile acquisitions also involve swifter and more drastic changes in target. In both friendly and hostile acquisitions, overpayment can arise due to agency reflection of managerial objective maximization by the acquirer management.Goergen and Renneboog (2003) analyzed the market reactions to the different types of takeovers i.e. friendly, hostile and bids with multiple bidders. They found that hostile bids created the largest abnormal returns for the target i.e. 13% on the announcement day. When a hostile bid is made, the share price of the target straight away reflects the expectation that opposition to the bid will guide to upward revisions of the offer price. variant empirical studies have found that the returns to bidders in hostile takeovers are negative resulting in low possibility of success of a hostile bid.1.6 Impact of MA on sha reholdersAlmost all of the studies of MA in banking industry are based on US data. As we know, one of the main objectives of mergers is to maximise the shareholders value by the means of increase in dividends and increase in share prices, so the shareholders can have intercourse the capital gains. The two most important methods which can be used to assess the impact of MA were explained by Firth in 1980. In the first method, accounting information is used to determine the firms financial performance profitability. The second method believes in efficient market which can be used in share price movements to estimate the economic impact of the event. The second method, direct measures any increase or reduction in shareholders wealth but also experience from the reality that no market is really efficient which results to mislead conclusions due to movement in share price.In this project, author chose the second method i.e. an event study in which the focal point will be on three diffe rent sets e.g. the target, the bidder and the impact of MA on combined firm in the long run. Various empirical studies on MA have concentrated on establishing stock market reaction around the announcement of a deal and whether a merger creates value for the shareholders of target and bidding firm.Delong (2001) examined 56 banks between 1991 and 1995, for tapering mergers that create positive abnormal returns whereas diversifying mergers produce negative abnormal returns. DeLong (2001) has point out that upon announcement the market responds positively to mergers that focus both on the activities and geography, which is consistent with Siems (1996). Delong finds that the cumulative abnormal returns (CAR) of target firm has been increased to 14.8% after merger and the bidding firm loose a significant 2.2%, whereas the combined firm neither created nor destroyed the shareholders value. The result also shows that the long term performance is improved when mergers involve inefficient bi dders, payment not just made by cash and achieveings are not diversified.Cybo ottone and Murgia (2000) analysed 54 largest MA deals with CARs at +3,41% between 1988 and 1997 on the European banking sector in 14 European markets. They have found that at the time of announcement, there was a positive and an important increase in the market value of the banks engaged in these deals. They have found positive abnormal returns for both buyers and the sellers using the general market index in the short period of eleven days, but found negative market reaction to acquiring bank. In other words, European bank mergers generate value for the combined firms including the target and the bidders do not lose. Various studies have shown that in Europe and the the States, target shareholders top positive abnormal returns from mergers.Cyboottone and Murgia (2000) stated that bidding firm shareholders earn positive abnormal returns in European studies whereas in USA studies bidding firm shareholders earn negative abnormal returns from the mergers. Shareholders of target European banks achieve more than the bidding bank shareholders, however, the difference is very tiny indeed. So in other words, we can say that Cyboottone and Murgia (2000) results are not consistent with the USA banking literature which shows that no value creation effects are usually found.Martynova and Renneboog (2006) examined the short term wealth effects of 2,419 European MA announcements between 1993 and 2001 in twenty eight European countries. They found that UK target created higher returns (9%) and UK bidders experienced lower wealth losses (0.5%) in comparison to the total European total result. They also identified the share price reaction of bidding firms on a hostile merger i.e. it generated a negative abnormal return of -0.4%, on the other hand, a friendly acquisition created a positive abnormal return of 0.8%. Therefore, Martynova and Renneboog (2006) have concluded that MA do create value for the bidding and the target shareholders in which target shareholders enjoy majority of gains as they collect large premiums.Beitel (2001) look at 98 large MA of European banks between 1985 and 2000 using the event study in which he found out, the shareholders of the target firm enjoy positive cumulative abnormal returns (CAR), whereas the shareholders of the bidding firm doesnt earn any CARs. However, the combined analysis of bidding and target European bank merger do create the shareholders value significantly. They also notice a change in the results after 1998 that European bidding banks in large deals experienced negative CARs and especially cross border mergers of European banks appeared to have destroyed shareholders value. get across 1 Summary of bank mergers using event studies of previous Abnormal Returns to shareholdersMA studiesSample periodSample sizeEvent WindowTarget CARs (%)Bidder CARs (%)Antoniou, Arbour Zhao (2006)1985-2004396-2 to +217.37-3.32Cybo-ottone Murgia ( 2000)1988-199754-10 to 016.1not significantDeLong (2001)1988-1995280-10 to 116.61-1.68Sudarasanam, Holl Salami (1996)1980-1990429-20to+40 days29-4Becher (2000)1980-1997553-30 to +522.64-0.1Siems (1996)199519-1 to +113-2Houston Ryngaert (1997)1985-1991184-2 to +220.40-2.40Ismail and Davidson (2005) studied 102 merger announcements in European banking industry between 1987 and 1999. They found positive abnormal returns for targets and the return to bidders differs across the deal type, also the merger deals earn higher returns than acquisition deals. They reported that the high competition in the market and reduction in the profitability in the banking industry in Europe is extending a depressing picture of performance of the future. They also reported low positive abnormal returns to target shareholders compared to other findings in the banking industry in Europe. The reason behind is that the bidder not ready to pay higher premiums in a competitive environment in which level of pr ofits are decreasing. Ismail and Davidson (2005) pointed out that if equity is used as a method of payment instead of cash, then merger deals earn lower returns because of the fact is that equity signal to the market that the equity is overvalued which is consistent with findings of Huang and Walkling (1987).1.7 ConclusionA bank acquires another bank because of number of reasons e.g. diversification, market power, managers preference etc. This literature review looks at the motives of MA based on the past academic studies i.e. Berkovitch Narayanan (1993), Sudarsanam et al (1996), Hannan Pilloff (2006), Martynova Renneboog (2006). Having said that, it is still not clear whether synergy gains or personal quest of managers is behind motivating majority of MAs. Evidence suggests that the managers may use the free cash flow for mergers that may produce negative NPV investments, because managers pursue their own interests rather than those of shareholders, resulting in mergers to not c reate value for shareholders.Whereas hubris, which supports the efficient market hypothesis (EMH) suggests that any bid for the target at premium overpays and it is result of the hubris. Arnold (2005) state it is similar to winners curse where the highest bidder will bid typically higher than the expected value of the purpose. However, most of the evidence suggests that the target shareholders gain positive abnormal returns while the cumulative abnormal returns (CARs) to the bidders are significantly negative and the combined banking firms seems to improve the shareholders value. Various studies also supports the fact that target shareholders gain at the expense of bidder shareholders and bank mergers do not create value for the combined firm in stock market reaction to bank mergers. Also, evidence shows that shareholders returns are not only affected by the MA announcements but they are also influenced by bid characteristics.2.0 Methodology2.1 Introduction Choosing appropriate rese arch methods are clearly vital. According to Veal (1997) it is important for the researcher to be aware of the range of methods available and not to make claims that cannot be justified on the basis of the methods used. This part of this dissertation gives an outline how information was collected, the sample design statistics and which methodology is used by concentrating on European banking sector mergers between 2003 and 2007. Firstly, we have to decide the philosophy primal this research, which involves choosing a paradigm. Collis and Hussey, 2003, p. 352 define paradi