Termination Fees in a 'Bright Line' Jurisdiction

Abstract

We seek to statistically inform the debate over whether the Australian Takeovers Panel's bright line policy toward break fees is appropriate. The sample data we employ consist of 313 takeover bids from the period January 2002 through June 2006 where the target was an ASX listed public company. Of these, 85 involved a break fee arrangement whereas 228 did not. Consistent with U.S. results, we find that break fee usage and toeholds are used as substitutes, and that break fees are generally granted by larger target companies, those with higher book-to-market ratios, and in friendly deals.

However, with regards to the effect of break fee usage on the competitive bidding process, we find the extent of post-bid competition to be unrelated to break fee usage and the rate of bid success to be lower for bids involving the use of break fees. Thus, in contrast with the predictions of agency theory, U.S. findings, and conventional wisdom, break fees appear to be neither anti-competitive nor coercive within the Australian context.

Further, we find the relationships between break fee usage and each of two different measures of target shareholder wealth, the final bid premium and abnormal returns surrounding the bid announcement date, to be negative and weakly significant. These results are again in contrast with U.S. findings and suggest that by adopting a bright line approach, Australian regulators may also have inadvertently compromised the takeover process at least from the perspective of target shareholder wealth.

In sum, our evidence indicates that while the adoption of a bright line approach by the Australian regulators has apparently been successful in terms of ensuring that break fee usage does not adversely affect the competitive bidding process, it also appears to have had a deleterious effect on shareholder wealth. Thus, it appears that Australian regulators may, by capping break fees, have on the one hand protected the integrity of the competitive bidding process while on the other hand, rendered them ineffective as an incentive mechanism for inducing bids from otherwise reluctant bidders as envisaged under the efficient contracting.

Keywords: Termination Fees, Break Fees, Lockup Devices, Takeovers

JEL Classification: K22, G34