A Practical Application of Event Studies in Merger Assessment: Successes and Failures

Abstract

The stock market’s reaction to news can be a particularly valuable source of information that may lead to inferences about the nature of a merger or a take-over. The idea underlying event studies is that the reaction of share prices - which reflect expectations about a firm’s stream of future profits - will allow alternative hypotheses as to the consequences of a merger to be tested. By examining who gains and loses when mergers or merger are announced, different hypotheses can be tested regarding expectations about market power or efficiency resulting from the merger. The aim of this article is two-fold. First, this article aims at using event studies as an ex ante method to assess the anticompetitive impact of a merger. The movement of the share prices of the merged firms and their competitors on the announcement day indicates whether customers expected these mergers to be profitable for the firms. An assumption is made that firms increase profitability mainly by increasing prices (reducing output) in the market, thus adopting conducts having an adverse impact on competition. Similarly, the movement of the share prices of the merged firms and their competitors on the announcement day indicates whether customers expected these mergers to be profitable for the firms.