FINANCING WITH CONVERTIBLE PREFERRED STOCK, 1960–1967: REPLY

Abstract

THE COMMENTs by Jerry J. Weygandt and Ronald W. Melicher provide an opportunity to re-examine the conclusions arrived at in the original study.' Before that re-examination, however, I would like to comment briefly on the very interesting data presented by Melicher. After examining 258 large corporate mergers occurring during the 19601968 time period, Melicher concludes (as I did) that the main usage of convertible preferred stock in recent years was in financing corporate mergers and acquisitions. Because of the need to maintain a balanced capital structure, Melicher also suggests that convertible preferred stock will continue to be employed in future corporate merger financing. Weygandt believes that recent changes in accounting conventions will cause convertible preferred stock to disappear as a financing vehicle for corporate mergers. Specifically, he contends that the following conclusion is invalid-. . . there is nothing to suggest that companies will lessen their usage of convertible preferred in financing some non-taxable mergers that are accounted for as a 'pooling of interests.' 12 The reasons cited by Weygandt are: (1) changes in accounting for business combinations; and (2) accounting changes relevant to the disclosure of fully diluted earnings per share. Opinion number 16 on business combinations by the Accounting Principles Board3 indicates that more restrictive requirements will be required if pooling of interests is to be employed in accounting for a merger or acquisition. These changes appear to have the effect of eliminating the use of convertible preferred stock when pooling of interests is employed. Accordingly, this change in accounting for business combinations will directly affect the usage of convertible preferred stock in financing corporate mergers. (Weygandt, in effect, is pointing out a change in a parameter which was assumed fixed when my study was completed.) Weygandt's second point is that the reporting of fully diluted earnings per share nullifies any earnings leverage; therefore, interested parties of accounting data 'will not be misled into assuming factitious earnings leverage.4 I personally believe the reporting of fully diluted earnings per share, by itself, will have little direct effect on the financing employed for business combinations. In this respect Melicher's preliminary findings for 1969 seem to contradict Weygandt, since data on fully diluted earnings per share were available before these mergers occurred.5 Unfortunately, it will be impossible to determine the effect of reporting fully diluted earnings per share on merger financing, since the method of accounting for business combinations has