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Business Analysis

This is an excerpt from an analytical study on mergers:


1.1 Research Aims and Objectives

Empirical research into the profitability and value creating properties of mergers are based on two distinct types of methodology.

  • The evaluation of the impact of mergers on share prices and thereby the effect on shareholder wealth, grounded on the assumption of capital market efficiency.
  • The financial analysis of the merged firms using accounting data.

While the majority of studies analyzing shareholder wealth gains have focused on announcement period abnormal returns to shareholders of acquiring and target firms (such as, Asquith et al. 1983; Dennis and McConnell, 1986 and Franks and Harris,1989) a few (for instance, Franks et al, 1991; Aggarwal and Jaffe, 1992) have studied the long-run post-outcome abnormal returns to shareholders.

A yet another question of interest has been whether the market reacts differently to foreign takeover announcements relative to domestic acquisitions. Empirical findings reveal differences in wealth gains to acquiring and target firms engaged in cross-border and domestic acquisitions and the presence of significant target ‘cross-border effect’ both in the U.S. and the U.K. For instance, Harris and Ravenscraft (1991) conclude that wealth gains to shareholders of U.S. target firms of foreign acquirers are significantly higher than gains to target firms of domestic acquirers.  Such gains may be the result of benefits that are unique to cross-border transactions; Wansley, Lane and Yang (1983) suggest that international diversification may reduce variability of earnings provided goods markets are not perfectly correlated. Hence, by examining cross-border mergers, presence or otherwise of such cross-border effects can be verified.

Analysis of accounting data has been criticized for having the potential for biased inferences (Meeks and Meeks, 1981) and are recognized as imperfect measures of economic performance affected as they are by managerial decisions (Healy et al.1992). Therefore, in order to mitigate such distortions, Healy et al. 1992 and Switzer, 1996) use cash flow measures of economic performance, based on the hypothesis that anticipated synergistic benefits from the merger should give rise to improved performance following the combination.

The bulk of empirical studies on the market for corporate control using the above mentioned methodologies have been based on large samples drawn from the U.S market and to a lesser extent the U.K. Detailed and in-depth case-studies on individual mergers are few and have generally examined issues such as motives and potential sources of value creation, cultural challenges and problems. Such case studies have not applied the full evidence from empirical studies on financial performance during the pre and post-merger period, using both event study methodology and cash flow measures to individual cases.

Mergers in the 1990’s are predominantly friendly (Sorensen, 2000), anticipating the creation of value through synergies resulting from the integration of both firms, which will make both acquirer and target shareholders better off (Morck, Shleifer and Vishny, 1988) By analysing four amongst the most significant mergers in the 1990’s involving U.S. targets, this study aims to apply the existing empirical evidence and theory on the financial performance to individual cases of cross-border and domestic mergers. Specifically, the primary objective of this case-study is to:

  • Examine the financial characteristics of the merging firms and the premium paid to U.S. targets in domestic and cross-border mergers
  • Determine the effect of the merger on shareholder value as measured by:
      • The cumulative abnormal stock returns to acquiring and target firms during the announcement period
      • The long run post-merger cumulative abnormal stock returns to the merged firm
      • Investigate the realization of potential synergistic benefits by comparing the pre-merger combined operating cash flow returns of the merging firms and the post-merger cash flow returns of the merged firm.
      • Investigate the differences in cross-border and domestic mergers in terms of the above.



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