Acquisitions Driven by Stock Overvaluation: Are They Good Deals?

• Main Authors: FU, Fangjian, LIN, Leming, OFFICER, Micah
• Format: text
• Language: English
• Published: Institutional Knowledge at Singapore Management University 2008
• Subjects: Mergers and acquisitions; Takeovers; Overvaluation; Agency costs; CEO compensation; Finance and Financial Management; Portfolio and Security Analysis
• Online Access: https://ink.library.smu.edu.sg/lkcsb_research/3041; https://www.business.uconn.edu/finance/seminars/papers/Stock_Overvaluation.pdf
• Institution: Singapore Management University

Stock overvaluation might drive a firm to use its stock to acquire another firm whose stock is not overpriced to the same extent. Though hypothetically desirable, these acquisitions end up bringing little benefit, if any, to acquirer shareholders. Two factors, acquirers paying a large premium to the target and investors’ correction of acquirer stock overvaluation, move the stock prices of the acquirer and target in different directions during the acquisition process, resulting in little relative overvaluation between the two merging firms on the date of completion. Acquisitions driven by stock overvaluation often have negative economic synergies, which further doubts that the true motivation of these deals is for the benefit of acquirer shareholders. Acquirer CEOs obtain a large amount of new stock and option grants after acquisitions and realize a net gain in wealth. The findings support Jensen’s (2005) proposition that stock overvaluation increases agency costs. Acquisitions driven by stock overvaluation benefit managers more than shareholders.