The Market Pricing of Implicit Options in Merger Collars

Abstract

Almost 20% of stock-swap merger bids contain collars that affect the payment received by target shareholders. I argue that a collar bid offers two sources of value to target shareholders: the basic offer premium and the value of the implicit collar options. I hypothesize that the market should price both sources of value implicit in a collar merger bid. I value the implicit collar options, and find that the market prices both the offer premium and option value equally. This suggests that market participants are cognizant of the fine print of merger agreements, and in particular implies that the two offer components are substitutable.

Keywords: Mergers and acquisitions, collars, method-of-payment