The Causes of Post-Merger Underperformance: Evidence from Successful and Unsuccessful Bidders
27 Pages Posted: 11 Sep 2002
Date Written: 2002
There are at least two plausible explanations for the post-merger underperformance: information asymmetry and performance extrapolation. The first hypothesis maintains that acquirers are over-valued before the mergers, while the second one maintains that acquirers become over-valued as a result of the mergers. Based on a book-to-market analysis, Rau and Vermaelen (1998) conclude that the performance extrapolation hypothesis is more consistent with the data than the information asymmetry hypothesis. The evidence provided in this study leads to the opposite conclusion. Consistent with the information asymmetry hypothesis, I find evidence of long-term underperformance in failed as well as successful bids. More importantly, controlling for potential sample selection biases and other relevant variables, I find no evidence that bidders' long-term abnormal returns are related to the success of the bids. I also find that the book-to-market effect, provided by Rau and Vermaelen (1998) as evidence in support of the performance extrapolation hypothesis, is driven by firms in the banking industry. In general, the results of the study are consistent with the information asymmetry hypothesis and inconsistent with the performance extrapolation hypothesis.
Keywords: merger, book-to-market ratio, failed bid, information asymmetry, performance extrapolation, earnings mis-pricing
JEL Classification: G3
Suggested Citation: Suggested Citation