Stock liquidity, empire building, and valuation

Abstract

We conjecture that high stock liquidity negatively affects firm valuation by inducing inefficient investment. Using takeovers of public targets to study the empire-building motive, we find that a liquid firm is more likely than an illiquid firm to acquire a public firm. Such a takeover by a bidder with higher stock liquidity destroys bidder value to a larger degree. These patterns occur in both stock and cash acquisitions and hold after we use decimalization of tick size as a quasi-exogenous shock to stock liquidity. Finally, we show that financial constraints and corporate governance play important roles in the effects of stock liquidity on empire building in mergers and acquisitions.