Signaling and Value Creation in Mergers

Abstract

I analyze the acquirers in both withdrawn and completed merger deals to disentangle the effects of signaling from those of target valuation and expected synergies. Completed stock (cash) acquirers earn 14 percent (10 percent) more than their withdrawn counterparts over the six months following initial announcement. However, if an announced stock merger later falls through, the acquirer suffers a negative revaluation due to the initial signal released, and the negative return is not reversed upon deal withdrawal. These results suggest that the initial negative stock price reaction in stock mergers is due to a signaling effect, but that the mergers themselves are positive NPV investments for the acquirers’ shareholders. Analysis of the acquirers’ financial positions also supports the signaling interpretation. Within stock deals, acquirers with more cash and less leverage – those that are least likely to need equity financing – have the lowest announcement returns.