What Will it Do for My EPS? An Unflattering But Powerful Motive for Mergers

Abstract

There is widespread evidence that bidders are more highly valued than their targets, and that both parties tend to be in temporarily high-valued industries. We find that valuation differences are also uniquely important for predicting who will be acquired and when. A firm is more likely to be a target when others in the industry could acquire them in a stock-swap merger that appears accretive to the buyer even after paying a substantial premium. The resulting measure is related to the dispersion of valuation multiples within an industry, but is grounded in a specific model of managerial behavior and is empirically much stronger than dispersion. Indeed, it is a stronger target predictor than any measure in the existing literature, including recent industry-level merger activity. Our results for bidders are less impressive. We find that a firm is more likely to be a bidder when it has more accretive targets, but unlike target prediction our effects are subsumed by existing size and valuation measures in the literature.