Why Do Small Stock Acquirers Underperform in the Long-Term?

Abstract

We study the long-term performance of acquirers with respect to their size and method of payment. Our results shed new light on why stock acquirers appear to underperform cash acquirers in some studies. We present two main results. First, there is no economically or statistically significant difference between the performance of large stock acquirers and large cash acquirers. Conversely, small stock acquirers underperform small cash acquirers by about 12 in the first 12 months following mergers and up to 18 in the first 36 months. Hence, the previously documented underperformance of stock acquirers is due to the underperformance of small stock acquirers exclusively. Second, we find evidence that this underperformance is likely caused by mispricing related to limits to arbitrage: measures of short-selling constraints, illiquidity, and information uncertainty proxies subsume the size effect in our tests. We find no evidence that underperformance is related to acquirer-target integration problems or to earnings management prior to mergers.

Keywords: Limits to arbitrage, Mergers, Acquirer underperformance, Overvaluation, Stock market driven acquisitions, Stock mergers, Cash mergers, Small stocks, Market inefficiency, Managers,Long term event study,Market timing,Incentives,Overvalued stock,Empire building,Agency costs,Behavioral Corporate Finance

JEL Classification: G30, G31, G32, G35