The Effect of SFAS 141 and 142 on the Likelihood and the Form of Financing of Corporate Takeovers

Abstract

We investigate the effects of the elimination of the pooling method, under SFAS 141, and of goodwill amortization, under SFAS 142, on the form of acquisition financing and on a firm’s takeover probability. We find that before these accounting rules, target firms’ step-up value is positively associated with the probability of using stock-for-stock as against partial stock financing. Afterwards, this association decreases significantly and is indistinguishable from zero. These results suggest that the pooling method of accounting is a significant determinant of the form of acquisition financing. These rules also led to a greater decrease in takeover probability for firms with larger predicted step-up values, and this effect is less pronounced for firms with more of the predicted step-up value made up of goodwill. These results suggest that both the pooling method and the method for goodwill amortization are significant determinants of takeover probability. Overall, the study uses a natural experiment to provide a novel finding that certain acquisition related accounting methods significantly influence the form of acquisition financing and takeover probability.

Keywords: Form of acquisition financing, Takeover probability, Pooling of interest method, Goodwill amortization method, SFAS 141 and 142

JEL Classification: M41, G32, G34