Capital Punishment: Signaling Takeover Intentions by Raising Capital

Abstract

Using a sample of 1060 takeover announcements from 1982 to 2006, this study is the first to document significant short-run cumulative average abnormal returns (CAARs) in target firms occurring at the time bidding firms last announced raising capital prior to the takeover bid. These target CAARs are substantially higher in combination with other documented takeover signals, such as when takeover bids have recently occurred within the same target industry, when bidding and target firm industries are related, when the stated purpose of funds raised is for acquisitions or financial flexibility, and when bidder toeholds exist. Investors thus appear to use the public signal of raising capital to anticipate forthcoming takeover attempts, supporting previous findings that not all pre-bid target firm abnormal returns can necessarily be attributed to insider trading. In addition, both higher target run-ups and higher takeover premiums result when bidding firms raise capital nearer the acquisition announcement date (as compared to matched firms not raising capital, or raising capital much earlier), effectively punishing bidders for this 'revelation' of takeover intentions. ---------------------- I would like to thank Professors Malcolm Baker, William Bertin, Robert Bruner, Sean Cleary, Ming Dong, Louis Gagnon, David Goldreich, Lew Johnson, John J. McConnell, Fabio Moneta, Micah Officer, Lynnette Purda, Fatma Sonmez-Saryal, Wulin Suo, Karin Thorburn, Marc Umber, and Wei Wang for their helpful comments. I also benefitted from the comments of participants at the 2010 European Financial Management Association Annual Meeting, the 2010 Financial Management Annual Meeting, the 2010 Northern Finance Conference, the 2010 Southern Finance Association Annual Meeting, and various seminars.