Choice of Payment in German Mergers and Acquisitions. An Empirical Analysis of Bidder-Acquisition and Business Cycles

IV TABLE OF CONTENTS

III ABSTRACT

IV TABLE OF CONTENTS

V LIST OF ABBREVIATIONS

VII LIST OF TABLES

1 INTRODUCTION
1.1 The German Mergers and Acquisitions market
1.2 Problem definition

2 FUNDAMENTALS AND THEORETICAL BACKGROUND
2.1 Mergers and Acquisitions
2.2 Mergers and Acquisitions transaction process
2.3 Payment methods
2.3.1 Cash payments
2.3.2 Share payments
2.3.3 Mixed payments
2.3.4 Other payments
2.3.5 Method of payment vs.Mode of financing
2.4 Theoretical background of the payment method
2.4.1 Asymmetric information
2.4.2 Taxation

3 LITERATURE REVIEW AND HYPOTHESES
3.1 Characteristics of the bidder
3.1.1 Corporate control hypotheses
3.1.2 Financial leverage hypothesis
3.1.3 Debt capacity hypotheses
3.1.4 Cash availability hypothesis
3.1.5 Relative size hypothesis
3.1.6 Investment opportunities hypothesis
3.1.7 Stock performance hypothesis
3.2 Characteristics of the acquisition
3.2.1 Cross-border hypothesis
3.2.2 Cross-industry hypothesis
3.2.3 Unlisted target hypothesis
3.3 Characteristics of the business cycle
3.3.1 Market performance hypothesis
3.4 Overview of hypotheses

4 DATA AND DESCRIPTIVE STATISTICS
4.1 Data
4.2 Descriptive statistics

5 METHODOLOGY
5.1 Binary logistic regression
5.2 Multinomial logistic regression
5.3 Preconditions for the logistic regression

6 RESULTS
6.1 Binary logistic regression
6.1.1 Cash payments vs. Share payments
6.1.2 Cash payments vs. Mixed payments
6.1.3 Share payments vs. Mixed payments
6.2 Multinomial logistic regression
6.3 Critical reflection

7 CONCLUSION

BIBLIOGRAPHY

II ACKNOWLEDGEMENT

First of all, I would like to express a word of thanks to my supervisor Mrs. Prof. Dr. Julia Brüggemann (ESB Business School) for her ongoing support and her helpful hints while writing the thesis. I am particularly grateful to her for allowing me to work on this topic.

I am also very thankful to Prof. Ph.D. Anton Granik (Reims Management School) who assisted me with valuable advice in interpreting the results of the statistics. Furthermore, I would like to acknowledge Prof. Dr. Ulrich Stadtmüller (University of Ulm) for giving me an understanding in the math underlying the statistics.

I would like to thank Bureau van Dijk (Frankfurt) and Infinancials (Paris) for granting me access to their databases. My thanks also go to Mrs. Johanna Spanninger (University of St. Gallen) for her support in the data aggregation.

I am also very grateful to all those who have taken their time to read through this thesis and provided me valuable amendments.

Finally, I would like to thank my family for their far-reaching and never-ending support. You deserve my most sincere gratitude.

III ABSTRACT

The choice of payment method in mergers and acquisitions (M&A) has significant diverse implications for the bidder, the target, and the shareholders of both parties. Therefore, it is driven by distinct factors. This becomes evident when examining the choice of payment method in M&A more closely.

This thesis investigates the choice of payment method in German M&A. It aims at identifying which determinants are most influential in explaining the choice of payment method in German M&A. The focus, thereby, is on bidder-, acquisition-, and business cycle characteristics. To provide empirical evidence, 207 German acquisitions conducted during January 2003 to December 2010 are closely studied.

Consistent with earlier empirical studies, the logistic regressions analysis shows that there are several characteristics that affect the choice of payment method. Particularly, the findings suggest that the characteristics of the bidder are most influential in determining the payment method for German M&A. That is to say, the larger a bidder’s total assets, a bidder’s cash holdings, and the relative size of the bidder to the target, the higher the probability of cash payments in German M&A. On the contrary, the higher a bidder’s leverage ratio and the higher a bidder’s tangible assets, the more likely share payments are employed. In addition, a rising stock market index also indicates a higher probability of cash payment in German M&A. Overall, the findings of this paper corroborate common theories and empirical studies. However, similar to other studies on the choice of payment method the analysis shows inconsistent results for some characteristics. This can be partly explained by country-specific characteristics. However, it can also be justified by the selection of the samples, the time, and the undertaking of the study.

Word count: 19,821 IV

V LIST OF ABBREVIATIONS

Abbildung in dieser Leseprobe nicht enthalten

VI LIST OF FIGURES

FIGURE I: Development of the German M&A market from 1985 to 2010

FIGURE II: The M&A process

FIGURE III: Method of payment vs. Mode of financing

FIGURE IV: S tructure of the literature review

FIGURE V: Proportion of German M&A with known deal value

VII LIST OF TABLES

TABLE I: Overview of hypotheses and variables

TABLE II: Distribution of payment methods by years

TABLE III: Distribution of payment methods by stock index

TABLE IV: Descriptive statistics by payment method

TABLE V: Binary logistic regressions

TABLE VI: Likelihood ratios of independent variables

TABLE VII: Classification matrix of the multinomial regression model

TABLE VIII: Multinomial logistic regression

TABLE IX: Overview of results

1 INTRODUCTION

Mergers and Acquisitions (M&A) are among the most important and influential investment decisions made by a company. Consequently, M&A have attracted immense attention from both academics and professionals. Among the various topics that have been studied in M&A, the method of payment has been the subject of numerous researches both theoretically and empirically. These studies highlight that the method of payment is one of the most critical elements of the M&A process and its choice may well determine both the ability to complete the acquisitions and the future success of the merged entities.

At a first glance the choice of payment method seems to be simple and straightforward. That is to say, a bidder’s management decides on offering cash, shares or a combination of both to the target shareholders as consideration for assigning their ownership to the bidder. At a second glace, however, one recognizes that the choice of payment method has significant diverse implication for the bidder, the target, and the shareholders of both parties. Given the large size of most acquisitions, the choice of payment method impacts the bidder’s capital structure. It also has serious corporate control, tax, cash flow, and risk-bearing implications for the bidder and target. Consequently, the choice of payment method seems to be driven by distinct factors. The research question now arises as to which factors are most influential in explaining the choice for a particular payment method.

Most of the previous empirical studies on the choice of payment method were conducted for American M&A ignoring their validity for other countries, in particular European countries. In view of this gap, Faccio and Masulis (2005) published their paper “The Choice of Payment Method in European Mergers and Acquisitions”. Their results suggest that the choice of payment method of European M&A significantly differs from American M&A. Faccio and Masulis (2005, p. 1379) also show that the choice of payment method of United Kingdom (UK) M&A are different to continental European M&A. Subsequent empirical studies on the choice of payment method document similar results and provide evidence that the choice of payment method even differs among individual countries. Although German M&A were included in previous empirical studies, there is no study exclusively investigating German M&A yet. Consequently, this thesis tries to shed some light on the choice of payment method in German M&A. To provide empirical evidence, the payment methods of 207 German acquisitions conducted within the period from January 2003 to December 2010 are closely investigated. A particular focus, thereby, lies on the bidder-, the acquisition-, and business cycle factors. The overall objective of the thesis is to investigate which of these determinants are most influential in explaining the choice of payment method in German M&A.

The thesis is structured as follows. Chapter 1 introduces the reader to the topic and provides a comprehend picture of the German M&A market from 1985 to date. Chapter 2 contains a definition of the term M&A, a description of the different payment methods, and a recent discussion on the topic whether method of payment can be used as a substitute for mode of financing. This chapter also introduces the topics asymmetric information and taxation due to some of the testable characteristics in this paper directly or indirectly derive from these arguments. Chapter 3 provides an overview of the literature on the choice of payment, highlighting their topical and geographical focus. Deriving from previous studies, this chapter also critically establishes the hypotheses and the variables investigated in this paper. Chapter 4 describes the selection criteria for the data and a comprehensive descriptive analysis of the dataset. In Chapter 5, the binary logistic regression model and the multinomial logistic regression model are introduced theoretically. Chapter 6 presents and critically reflects the results of the logistic regression. In Chapter 7, the key findings of this thesis are summarized.

1.1 The German Mergers and Acquisitions market

Although M&A first appeared in the United States of America (US) in the late 19th century, it was not until the early 1980s that M&A activities reached Germany (Kunisch 2011, p. 52). Since then, the German M&A market has been continually developing and has become an inherent part of corporate strategy for German companies (FIGURE I). Today, the German M&A market is among the ten largest M&A markets in terms of volume worldwide (Spanninger 2011, p. 50). To better understand today’s M&A activities in Germany, it is important to consider the different developments. In current literature, the M&A development can be best explained by waves¹ as M&A activities seem to be a cyclical phenomenon (Picot 2008, p. 8, Müller-Stewens 2011, pp. 14-44).

Since 1985, the German M&A market has been experiencing four major waves which have coined the market significantly (Kunisch 2011, p. 53). In the first wave (1985 to 1989), the German M&A market was in its initial stage. Contrary to the US M&A market, there was low expertise on M&A transactions, low transparency in corporate valuations, and a strict legal environment. However, in course of increasing M&A activities due to the introduction of the shareholder value concept and the focus on core competences, the German M&A market ”demystified” and M&A became a popular mean for corporate development (Kunisch 2011, p. 56).

The second wave (1990-1997) was initiated by the reunification of Germany and coined by an increasing privatization of state-owned companies², particularly companies from the German Democratic Republic (GDR). Within the years from 1990 to 1994, approximately 10,000 German companies were privatized (Kunisch 2011, p. 58). In addition, there was high liquidity on the capital market which led to a decrease of financing costs (Kunisch 2011, p. 57). As a consequence thereof, interest yields of governmental bonds dropped³ and investors increasingly invested in riskier investments such as stocks, venture capital funds, and private equity funds. Equipped with additional financial resources, these investment funds entered the German M&A market. This led to an increasing demand for professional M&A advisory. Thus, German universal banks started off to establish corporate finance advisory departments⁴ to professionalize M&A transactions. In addition, foreign investment banks and law firms enter the German market (Kunisch 2011, p. 58). This led to an overall increase in professionalism of German M&A activities which entailed higher numbers of transactions.

The third wave (1998 to 2003) was driven by the internet boom and the eastern European expansion of the European Union (EU). Prior to March 2000, many strategic and financial investors heavily invested in the computer, telecommunication, and media industry to capture expected future cash flows from the new market. However, most acquisitions were overpriced and internet companies failed to succeed which led to a burst of the dot-com bubble. It is notable that prior to the burst, most acquisitions were conducted by stock payments⁵ which evidentially indicated overvalued stocks⁶ (Kunisch 2011, p. 59). Furthermore, German companies increasingly participated in acquiring companies from east European countries as well as Asia, which is also indicated by rising numbers of cross-border deals (Kunisch 2011, p. 59).

The fourth wave (2004-2009) was particularly coined by private equity investors, an increasing globalization, and the credit crisis. Within the period from 2004 to mid 2007, both the numbers of acquisitions as well as the transaction value increased significantly, reaching its peak in early 2007 (Kunisch 2011, p. 54). This was mainly driven by private equity funds and cross-border deals. From the second half of 2007 to 2009, the credit crisis impacted the German M&A market as the credit squeeze led to a dry up of capital markets. This was particularly severe for private equity funds⁷ and large-scale acquisitions which heavily depended on debt financing. Consequently, the overall transaction value decreased while the numbers of acquisition exhibited only a slight drop (Kunisch 2008, p. 49). The reason for the moderate decline of M&A was the increasing demand for distressed M&A which constitutes acquisitions of companies with financial difficulties. The German government particularly involved in distressed M&A activities, buying shares of banks which needed to be bailed-out⁸. Following the turbulent period from 2007 to 2009, the German M&A market has experienced a slight comeback in 2010. This is mainly due to low interest rates, sufficient liquidity and increasing activities by private equity investors (Spanninger 2011, p. 50).

As past experiences have shown, predicting the future of the German M&A market is very difficult. This is particularly true for the year 2011 due to there is still uncertainty about the cyclical development, the effect of public debt, and the profitability of companies (Spanninger 2011, p. 56). But, according to a survey⁹ conducted by the Boston Consulting Group (BCG) and the UBS, one in six companies is planning a large-scale transaction¹⁰ in 2011 (Kronimus and Roos 2010, p. 2). Among midsize and large companies, even one in three is planning such an acquisition. Overall, the study reveals that one third of the respondents expect that 2011 will be a good year for acquisitions, marking the start of the sixth German M&A wave. In the long-run, it is anticipated that the German M&A market will return to former success, comparable to the prosperous year 2007.

For these reasons and the fact that Germany is one of the most important M&A markets in the world, it is of use to investigate German M&A more closely. Although research on German M&A has increased in past years, there is much about German M&A that has not been fully investigated yet. One of these topics includes the choice of payment method. Thus, this paper attempts to shed some light on the choice of payment method in German M&A and hence contributes to current German M&A literature.

Abbildung in dieser Leseprobe nicht enthalten

1.2 Problem definition

As highlighted in the previous chapter, the German M&A market has become a highly professional and mature market with a significant transaction volume. To shed some light on the German M&A market, this paper theoretically and empirically investigates the choice of payment method.

In current literature¹¹, it is commonly recognized that the choice of payment method (cash, shares or a combination of cash and shares) is impacted by bidder-, acquisitions-, and business cycle characteristics. These empirical studies document that the bidder characteristics are considered to be most influential in determining the method of payment. Thus, the main focus of this paper is on determining which characteristics of the bidders are most likely to impact the choice of payment method in German M&A. In addition, the paper will investigate how certain acquisitions- and business cycles characteristics affect the choice of payment method. However, due to the limited scope of this paper, these two characteristics will only be covered marginally.

To provide empirical evidence, this paper investigates 207 German acquisitions conducted during January 2003 to December 2010. To the best knowledge of the author, there has never been a study exclusively investigating the payment method in German M&A yet. Thus, this paper contributes to the fields of M&A literature by delivering a detailed insight into the choice of payment method in German M&A.

2 FUNDAMENTALSANDTHEORETICALBACKGROUND

2.1 Mergers and Acquisitions

The term mergers and acquisition (M&A) is a descriptive term for buying, selling, and combining companies. The term also comprises of M&A related issues such as corporate restructuring, corporate control, and change in the ownership structure of the firm (Copeland and Weston 1988, p. 676). Although the terms mergers and acquisitions are generally used synonymously, a merger actually constitutes a combination of two companies whereas an acquisition describes a purchase without a combination of the two companies (Jansen 2001, p. 43). For the purpose of this paper, however, mergers and acquisitions are used synonymously and are defined as purchasing a controlling stake of a target company.

2.2 Mergers and Acquisitions transaction process

The M&A process generally follows a clear process which can be subdivided into three phases: the planning phase, the transaction phase, and the integration phase (Achleitner 2002, p. 153, Picot 2008, p. 34, Scherzinger 2008, p. 11, FIGURE II). In the planning phase a potential bidder determines the growth strategy. That is to say, the bidder decides on whether to grow organically or inorganically¹². In the latter case, a bidder has to identify preliminary targets and carry out a rough valuation based on a financial forecast and a business plan (Picot 2008, p. 34). In the planning phase, the bidder also considers economic, financial, and legal aspects with regards to the following phases. This includes choosing the method of payment, among other things. In the transaction phase, the bidder decides on the target, initiates the acquisitions, and closes the deal. This usually includes a first round bid, a second round bid, and the closing of the deal (Scherzinger 2008, p. 11). In the first round bid, the bidder contacts the target, approaches the regulators, and prepares a non-binding offer including a valuation of synergies and an assessment of benefits and risks. In this phase, the bidder’s management also communicates the way it intends to compensate the target shareholders. In the second round bid, the bidder is granted access to the data of the target to conduct a due-diligence. On the basis of this information, the bidder adjusts their valuation, negotiates on the terms acquisitions, and develops a final binding offer (Picot 2008, p. 35). In the closing phase, the acquisition is publicized to the target shareholders. This includes the acquisition price and the payment method, among other things. If the target shareholders accept the offer, the deal can be closed¹³ and the bidder can initiate the integration phase. This is the last phase of the M&A process and it comprises of the integration of the target as well as the implementation of planned synergies (Scherzinger 2008, p.12). Throughout the M&A process, it can be seen that the method of payment is a critical component and it contributes significantly to a successful closing of the deal. Citing Slusser and Riggs (1994, p. 209), “the choice of payment method may well determine both the ability to complete the acquisition and the success of the business after the transaction has been accomplished”.

FIGURE II : The M&A process

Abbildung in dieser Leseprobe nicht enthalten

2.3 Payment methods

The term method of payment¹⁴ describes the way to remunerate target shareholders for assigning their shares to the bidding company. Generally, a bidding company chooses between offering cash and/or shares to the target shareholders (Faccio and Masulis 2005, p. 1346). These two payment methods have conflicting effects for the bidder, the target, and the shareholders of both parties. The choice of the payment method also implicitly transmits different messages about a bidder’s believes of the own company, the target, and the acquisition itself.

The following chapter introduces the main payment methods as well as their major differences. It will be demonstrated that the choice of payment method has diverse implications for all parties involved. Thus, the choice of payment method is driven by distinct factors. In addition, this chapter will address recent discussions on the interrelation between the term method of payment and the term mode of financing.

2.3.1 Cash payments

In a cash deal, the bidder offers a fixed amount of cash in exchange of the target’s shares. Once the deal is closed, the target shareholders divest from the company allowing the bidder to retain control (Bessler et al. 2011, p. 422). The major advantage of cash deals is that its value is known to all participants and it neither dependents on the bidder performance nor on the success of the acquisition. Therefore, it is a clean break of the target shareholders with the target company. Citing Slusser and Riggs (1994, p. 213) “in a cash deal […], the seller simply can walk away and not worry about future performance”. This is the primary reason why cash deals are preferred by target shareholders.

Cash payments also signal different believes of the acquiring company and the acquisition. For instance, Fishman (1989, p. 42) shows that cash payments are offered when the bidder has a high valuation of the target. Accordingly, cash payments preempt potential competition because it sends a signal of high valuation¹⁵.

2.3.2 Share payments

The issuance of stock as a method of payment may seem to be as simple and straightforward as cash payments (Slusser and Riggs 1994, p. 214). However, a share deal has significant diverse implications for both the bidder and the target shareholders. In a share deal, the target shareholders usually receive a predefined number of shares of the bidding company as consideration for their shares. In contrast to cash offers, the real value of stock offers is not known to all participants and it heavily depends on the post-acquisition returns of the bidder. This is due to the fact that stocks have a “contingent-pricing effect” (Hansen 1987, p. 77, Fishman 1989, p. 42). If target shareholders do not sell their stocks immediately, they will invest their money in the acquiring company. Thus, their consideration depends on the future performance of the acquirer. This is to say, they will benefit if the value of stocks increases while their compensation is at risk when the share price declines (Slusser and Riggs 1994, p. 214).

Similar to cash payments, stock payments also reveal information on the bidder and the acquisition. According to Fishman (1989, p. 42), stock offers¹⁶ are used when the bidder has a low valuation of the target.

Although Cornu and Isakov (2000, p. 425) confirm that cash signals a high valuation, they find that cash offers are more often associated with competition among bidders than stock offers. This is due to the fact that cash offers are inherently more aggressive than share payments.

In Fishman’s (1989, p. 41) model, there is a choice between paying with cash or a risky security. However, risky securities are commonly referred to as stocks.

2.3.3 Mixed payments

Mixed payments describe a method of payment in which both cash and shares are employed. It allows the target shareholders to choose between cash or stock. Consequently, a target shareholder is offered the choice between divesting (cash) from the target company or investing (share) in the bidder company.

Similar to cash payments and share payments, the composition of the mixed payments also signals the value of the bidder company to the target shareholder. In extension to Hansen (1987), Eckbo et al. (1990, p. 673) show that the true post-acquisition value of the bidder is revealed to the target by the amount of cash, where the value is increasing in the amount of cash used in the offer.

2.3.4 Other payments

There are also other payment methods such as convertibles, preference shares, and deferred payments (Franks et al. 1988, p. 236, Slusser and Riggs 1994, p. 215 et seq., Sundarsanam 2003, p. 378). Convertibles can be converted into stocks at a predetermined conversion rate within a specific period of time. Preference shares are shares that usually carry no voting right and thus have priority over common stock for both dividend payouts as well as liquidation. Both payment methods are an excellent mean of issuing common stock in an acquisition without immediate dilution of control (Slusser and Riggs 1994, p. 216). Furthermore, there are deferred payments such as earn-outs which are future payments that are contingent on the target’s post-acquisition performance. These future payments are generally cash payments. The contingent payments are generally used as a mean to keep and motivate former managers and owners of the target during the years following an acquisition (Slusser and Riggs 1994, p. 216).

In this paper, however, theses alternative forms of payment methods will not be investigated. This is for two reasons. First, most researchers¹⁷ hold that M&A considerations are either cash, shares or a mixture of both and that other forms of payment method are only used as add-ons. Second, these alternative payment methods are not reported in common databases¹⁸ and thus they cannot be obtained easily. Consequently, this paper merely focuses on cash-, share-, and mixed payments.

2.3.5 Method of payment vs.Mode of financing

In the literature, the term method of payment is usually considered to be synonymous to the term mode of financing (Travlos 1987, Amihud et al. 1990, Martin 1996, Gosh and Ruland 1998, Faccio and Masulis 2005, among others). However, the term method of payment describes the way the target shareholders get paid and the mode of financing constitutes the ways the acquirer gets the “currency” for the transaction (Sperling 2010, p. 56). The mode of financing distinguishes between internal sources and external sources (Bessler et al. 2010, p. 432). With regards to FIGURE III, cash offers can be financed by internal funds as well as external funds such as debt and equity issuance. Similarly, stock payments can be finance by issuing new equity, using repurchased stocks or converting cash holdings from issuing debt into stock by repurchasing shares (Bessler et al. 2010, p. 421).

Therefore, Martynova and Renneboog (2008, p. 2) correctly claim that substituting the mode of financing by the method of payment may lead to incorrect conclusions about the validity of some theories, particularly those that explain a bidder’s financing decision. However, their empirical findings show that externally financed cash deals are mostly funded by debt For instance: Martin (1996, p. 1234), Zhang (2003, p. 19), Faccio and Masulis (2005, p. 1346), and Sperling (2010, p. 39), among others. Bureau van Dijk’s Zephyr Database presents the payment method earn-out (deferred payments). financing¹⁹, providing evidence that the financing decision is following a pecking order (Martynova and Renneboog 2008, p. 3). Similar findings are reported by Sperling (2010, p. 57) who conducted a pair-wise correlation between the method of payment and the mode of financing. He documents a highly statistically significant correlation²⁰ between cash payments and internally financed acquisitions as well as between share payments and equity financed acquisitions.

These findings suggest that there is interrelation between the method of payment and the mode of financing. That is to say, cash offers are mostly financed by internally funds and when the deal value exceeds current liquid assets, bidders opt to raise cash via debt²¹ rather than equity. By contrast, stock offers are mostly financed by equity issues. Thus, one could conclude that the method of payment can be used synonymously for the mode of financing, even though there is the chance that it is financed differently.

This paper recognizes the objections of Martynova and Renneboog (2008). However, due to the lack of reliable data on the mode of financing, the method of payment will be used to substitute the mode of financing in this paper. Thus, it follows Faccio and Masulis (2005, p. 1346) who assume that if the deal value exceeds liquid assets, cash offers require additional debt financing rather than equity financing. Therefore, cash offers are either internally financed or debt financed while stock offers are finance by equity only. Given the fact that internal funds are mostly insufficient to finance acquisitions , a bidder implicitly faces a According to Martynova and Renneboog (2008, p. 3), 70 percent of the external funded cash payments are debt financing while only 30 percent are equity issues. The correlation of cash payments and internally financed acquisition is 0.875 and share payments and equity financed acquisitions is 0.728 (Sperling 2010, p. 57). In accordance to Faccio and Masulis (2005, p. 1346) debt would dominate stock as the funding source for a cash payment due to lower flotation costs and the loss of potential tax-free capital gains treatment of the acquisition. choice of debt or equity financing when choosing the method of payment (Faccio and Masulis 2005, p. 1346).

FIGURE III : Method of payment vs. Mode of financing

Abbildung in dieser Leseprobe nicht enthalten

Source: Own research based on Bessler et al. (2010, p. 421)

2.4 Theoretical background of the payment method

Previous research on the method of payment in M&A has related the choice of payment method to asymmetric information and taxation. Franks et al. (1988, p. 225) and Fishman (1989, p. 41) state that in an ideal world with symmetric information, no taxes, and no transaction costs, the choice of payment method is irrelevant. However, as reality does not provide such a venue, Hansen (1987, p. 75) concludes that both asymmetric information and taxation can make the acquirer’s choice a “nontrivial one”. Some of the testable characteristics in this paper directly or indirectly derive from these information asymmetry and taxation arguments. Consequently, it is appropriate to review them first.

2.4.1 Asymmetric information

The issue of payment method has been widely analyzed both theoretically and empirically in the context of asymmetric information. Myers and Majluf (1984) show that with asymmetric information between investors and managers, companies that issue stocks to finance new investment opportunities have to face adverse selection problems. Managers that have superior information about the value of a company and want to act in the interest of current shareholders will make use of stock financing when stocks are overvalued (Myers and Majluf 1984, p. 188). In contrast, managers will forego good investments rather than issuing undervalued shares (Myers and Majluf 1984, p. 219). Thus, under conditions of asymmetric information, share payments generally signal bad news about a company’s share price while cash payments generally send a positive message to the stock market. Recognizing this adverse selection problem, rational investors will adjust their valuation of the company. That is to say, decrease stock value of companies that use stock financing and increase stock value of companies using cash financing (Myers and Majluf 1984, p. 203). Due to this adverse selection effect, debt issue is normally less expensive than equity issues. Consequently, Myers and Majluf (1984, p. 219) conclude that “external financing using debt is better than financing by equity”²².

Based on the Myers and Majluf’s asymmetric model, Hansen (1987, p. 77) suggests that bidder managers will prefer common stock exchange when they believe that their stocks are overvalued whereas cash is being offered when bidder managers believe their stocks are undervalued. Thus, target shareholders should be inclined to decrease the value of stock offers for fear of acquiring overvalued stocks (Chevalier and Redor 2008, p. 392). Empirical evidence for this adverse selection effect in the choice of payment method is provided by Travlos (1987), Wansley et al. (1987), Amihud et al. (1990), Servaes (1991), and Brown and Ryngaert (1991), among others.

2.4.2 Taxation

Numerous researchers have linked the choice of payment method to taxation (Wansley et al. 1983, Carleton 1983, Franks et al. 1988, Noronha and Sen 1995, and Brown and Ryngaert 1991, among others). With taxation, stock offers are generally more favorable than cash offers. The reason for this is that cash offers are considered to be immediately taxable while stock offers are generally non-taxable until the stocks are sold (Brown and Ryngaert 1991, p. 653). To compensate for additional tax burden in cash acquisitions, bidders need to pay a higher premium to target shareholders (Franks et al. 1988, p. 224). Therefore, in the absence of other considerations²³, it seems that share payments should dominate M&A payment methods from a bidder’s point of view.

This is also known as the pecking order theory which states that there is a tendency to rely on internal sources, and to prefer debt over equity for external financing (Myers 1984, p. 581, Myers and Majluf 1984, p. 187). For instance: the adverse selection effect of issuing new shares as explained by Hansen (1987).

However, cash-financed deals feature tax advantages linked to the possibility of amortization for the bidder company. According to accounting methods²⁴, premium payments that exceed the book value of equity must be reported as goodwill in the financial statement. The amortization of goodwill will decrease the profit before taxation and thus decrease the tax basis. Given this account treatment of cash-financed deals, a bidder will prefer a cash offer if the premium offered to the target does not exceed the taxation advantage of the offer (Carleton et al. 1983, p. 815, Chevalier and Redor 2008, p. 403). While cash offers have a reducing effect on the profits, it actually could lead to an increase in cash flows. This effect could be particularly important for managers whose compensation is calculated based on these figures. Therefore, taxation may have a significant impact on the choice of payment method. Though, citing Fishman (1989, p. 55), “tax consideration […] does not provide complete explanation” for the choice of payment method.

3 LITERATUREREVIEWANDHYPOTHESES

Research on the choice of payment method in M&A has started off in the 1980s. Since then, two different streams of literature emerged. One part of the literature has focused on the impact of the choice of payment method on the shareholder’s wealth. These studies concentrated on the market reaction to the announcement of the payment method. For instance, Travlos (1987), Wansley et al. (1987), Amihud et al. (1990), Servaes (1991) and Brown and Ryngaert (1991) document a significant loss of abnormal returns when the method of payment is stock rather than cash.

The second part of the literature has tried to explain the determinants of payment method. Hansen (1987) and Fishman (1989) developed theories on the method of payment based on the asymmetric information model of Myers and Majluf (1984). Wansley et al. (1983), Carleton (1983), Franks et al. (1988), Noronha and Sen (1995) as well as Brown and Ryngaert (1991) have raised the tax implication theory. Amihud et al. (1990), Martin (1996), and Gosh and Ruland (1998) have advocated the proposition that the choice of payment method is associated with managerial ownership. Chaney et al. (1991), Noronha and Sen (1995), and Martin (1996) related the choice of payment method to capital structure theories. Jensen (1987) and Sung (1993) documented that excess cash flow also impacts the choice of payment method in M&A. However, most of these studies were carried out for the US M&A market²⁵, ignoring their validity for other M&A markets, in particular European M&A markets.

To close this gap in literature, Zhang et al. (2003) investigated the determinants of payment method for 103 United Kingdom (UK) acquisitions conducted in the 1990s. They tested various determinants of the bidder and document that some findings are inconsistent with previous findings from the US. In 2005, Faccio and Masulis published their influential paper “The Choice of Payment Method in European Mergers and Acquisitions”. It is the most comprehend study on the determinants of payment method for European M&A. Their sample comprises of 3,667 acquisitions that have been announced over a four years period from 1997 to 2000 by bidders from 13 European countries. Most of the samples are UK acquisitions²⁶ (68 percent) while continental Europe acquisitions account for 32 percent (Faccio and Masulis 2005, p. 1355). Of the total sample size, German M&A only amount to 3.8 percent (139 acquisitions) of total acquisitions. Overall, their analysis has two implications. First, the choice of payment method in Europe significantly differs from US M&A. Especially, the bidder financial condition and the corporate control concerns are much more influential than in US M&A (Faccio and Masulis 2005, p. 1379). Second, UK acquisitions are substantially different from those announced by continental European bidders.

Subsequent to this paper, other scholars have investigated the choice of payment method in M&A. For instance, Swieringa and Schauten (2008) investigated the Dutch M&A market by analyzing 227 acquisitions conducted between 1998 and 2004. In 2008, Martynova and Renneboog analyzed both the financing decision and the choice of payment method for European M&A²⁷. Their sample comprised of 1,361 acquisitions launched between 1993 and 2001. Of the total sample, German acquisitions only account for 5.3 percent (72 acquisitions). Tavenier (2009) investigated the choice of payment method for Danish and Dutch M&A with a total sample of 227 acquisitions conducted between 2003 and 2008. André and Ben-Amar (2009) tested the determinants of payment method in Canadian M&A by analyzing 358 acquisitions from 1998 to 2004. Most recently, Sperling (2010) investigated the interaction effect of cash-richness and the method of payment as well as other determinants for a global sample of M&A. Overall, he examined 1,306 acquisitions announced during the period from 2001 to 2008 (Sperling 2010, p. 29). German acquisitions only amount to 1.69 percent (22 acquisitions) of the total sample.

In summary, most of these studies confirm the findings of Faccio and Masulis (2005). However, some studies also find inconsistent results, particularly those studies that investigate the payment method of an individual country. This suggests that choice of payment method does not only differ among the EU and US but it also differs among individual countries. Thus, it is essential to investigate the choice of payment method of a single M&A market to gain further insight in the payment behavior.

Although, German acquisitions were partially included in previous empirical studies, there has never been a study exclusively investigating the choice of payment method in German M&A. Thus, this paper provides empirical evidence for the choice of payment method in German M&A and compares its findings to current literature. As illustrated in FIGURE IV, the following section introduces the testable hypotheses which are subdivided into characteristics of the bidder (3.1), characteristics of the acquisition (3.2), and characteristics of the business cycle (3.3). This paper particularly focuses on the characteristics of the bidder because previous empirical findings suggest that these are most influential.

FIGURE IV : Structure of the literature review

Abbildung in dieser Leseprobe nicht enthalten

3.1 Characteristics of the bidder

3.2 Characteristics of the acquisition

Abbildung in dieser Leseprobe nicht enthalten

In investigating the choice of payment method in German M&A, the primarily focus of this paper is on the bidder’s choice of payment. It is recognized that targets’ preferences can also impact the choice of payment method. However, citing Faccio and Masulis (2005, p. 1349), “if a target’s financing choice is unacceptable to the bidder, then the proposed M&A transaction is likely to be aborted or else the bidder can make a hostile offer on its own term”. Therefore, an acquisition is successful, if the bidder is satisfied with the overall financial structure (Faccio and Masulis, 2005, p. 1349). A feasible financial structure can be determined by several bidder characteristics. The following chapter critically introduces the most important characteristics and provides empirical evidence from previous research. Furthermore, this chapter presents the testable hypotheses as well as the descriptions of the variables.

3.3 Characteristics of the business cycle

Abbildung in dieser Leseprobe nicht enthalten

3.1.1 Corporate control hypotheses

As control is valuable²⁸, cash and share payments have contrary effects on the ownership structure and the corporate control. Whereas in cash payments the ownership structure remains unchanged, share payments may lead to the incorporation of new blockholders. Thus, shareholders and managers with a stake in the company should be reluctant to offer stock when this causes a dilution of their control and leads to outside intervention (Amihud et al. 1990, Martin 1996, Grullon et al. 1997, Zhang et al. 2003, Faccio and Masulis 2005, and Swieringa and Schauten 2008).

In their study, Amihud et al. (1990) empirically test the proposition that corporate insiders who value control will prefer financing acquisitions with cash rather than offering shares which dilutes their holdings. Their data includes 209 acquisitions from 165 firms²⁹ during the years 1981 to 1983. Their findings support the hypothesis that the larger the managerial ownership fraction of the acquiring firm, the more likely cash will be applied (Amihud et al. 1990, p. 614). According to Stulz³⁰, this can also be interpreted using the asymmetric information argument. “If insiders hold a substantial quantity of their company’s shares because they believe them to be undervalued, they will be less willing to issue new stock to finance acquisitions” (Amihud et al. 1990, p. 614).

In his paper, Martin (1996, p. 1231) raises the hypothesis that managerial ownership may have a nonlinear effect on the likelihood of stock payments. His sample comprises of 846 US acquisitions conducted between the years 1987 and 1988. Martin (1996, p. 1231) claims that at both very high and very low levels of managerial ownership, managers should be less concerned about the impact of dilution of control. The analysis reveals that managers with low ownership stake are unconcerned about a dilution of control while managers with higher stakes, particularly those with stakes from five percent to 25 percent, consider a dilution of control as an important factor (Martin 1996, p. 1244). This implies a lower probability of stock payments.

Similar results are reported by Gosh and Ruland (1998, p. 794). Gosh and Ruland (1998) also claim that managers of target companies with a large percentage of shareholdings tend to value control in the combined companies after the acquisition. Their analysis shows that there is a significant positive³¹ relation between managerial ownership of the target and the incidence of stock payments. Based on these findings, they claim that the target’s managerial ownership is even more important than the bidder’s managerial ownership in explaining the choice of payment method in M&A (Gosh and Ruland 1998, p. 786). This is in accordance to Zhang et al. (2003) who document that managerial ownership of the bidder has less effect than the managerial ownership of the target. In contrast, however, Zhang et al. (2003, p. 38) find no evidence for a significant relationship of the bidder’s managerial ownership and choice of payment method.

Instead of investigating the relationship between managerial ownership and the payment method, Faccio and Masulis (2005, p. 1349) assess to what extent the presence of a dominant shareholder effects the choice of payment method. To test for dominant shareholdings, Faccio and Masulis (2005, p. 1349) uses the ultimate voting stake³² of the bidder’s largest controlling shareholder. Based on Martin’s (1996) findings, they incorporate the possibility of a nonlinear relationship between the method of payment and the voting rights of the bidder’s controlling shareholder. Their analysis shows that bidders are more likely to choose cash when a bidder’s largest shareholder has a controlling stake between 15.79 percent and 61.67 percent (Faccio and Masulis 2005, p. 1360). Below or above these transition points, shareholders exhibit no preference for a particular payment method. To account for these findings, they claim that at low levels of corporate control, shareholders are more likely to be indifferent about losing corporate control while at large levels of corporate control, the shareholder disposes of enough voting power that their position is only at risk when stock is used in large deals (Faccio and Masulis, 2005, p. 1360). The results and explanations are similar to Swieringa and Schauten (2008, p. 31) who argue that bidders with diffused or highly concentrated ownership might be less concerned about voting control threats. For a detailed explanation of this variable, please refer to Faccio and Lang (2002, p. 372). Due to the managerial ownership hypothesis has been frequently tested before this paper refrains from testing it again for German M&A. However, similar to Faccio and Masulis (2005), this study will assess the effect of a controlling shareholder on the choice of payment method. In addition, this paper investigates the impact of the free float on the choice of payment method. The term free float refers to shares that are not held by major shareholders³³ and hence they can be acquired on the stock exchange market by general public (Deutsche Börse 2011). Consequently, the higher the free float, the more diverse the ownership structure and thus the lower the concerns about control threats. This assumption is based on the empirical findings of Faccio and Masulis (2005, p. 1360) who document that control is not a serious concern at low levels³⁴ of voting power. Thus, it is assumed that the higher the free float, the more likely the acquisition will be paid with shares.

Based on previous findings and the assumption generated in this chapter, following hypotheses are created:

Hypothesis 1: The larger the share of control held by an acquiring company ’s largest shareholder, the more likely the deal will be cash-paid.

Variable 1: CONTROL is calculated by dividing the stakes of the largest shareholder by the numbers of outstanding stocks. If this figure does not exceed five percent, CONTROL is zero.

Hypothesis 2:

If the largest shareholder has shareholdings within the range of 20 percent to 60 percent, it is more likely that the deal is cash-financed.

Variable 2:

CONTROL_20_60 is a dummy variable, taking the value one if shareholdings of the largest shareholder are within the range of 20 percent to 60 percent and zero if otherwise.

Hypothesis 3:

The larger the free float rate, the higher the probability that the acquisition is share-paid.

Variable 4:

FREE FLOAT is calculated by the dividing all shares held by shareholders holding less than 5 percent of the bidder ’s stock, divided by the number of total shares outstanding at the year-end prior to the announcement.

3.1.2 Financial leverage hypothesis

Assuming that internal funds are insufficient to finance acquisitions, bidders will generally require additional borrowings or issue stocks. In accordance to Myers (1984) and Myers and Majluf’s model (1984), managers are following a pecking order when financing investment opportunities. That is to say, depleting internal funds first then using up risky debt and finally resorting to equity (Baker and Wurgler 2002, p. 26). Consequently, a high leverage ratio may indicate that a bidder is unable to raise debt and thus must employ stocks to finance the acquisition.

[...]

---

¹ For a detailed description, please refer to Müller-Stewens (2011, pp. 14-44 - Chapter: “M&A als Wellen Phänomen: Analyse und Erklärung“).

² For instance: Deutsche Post (1995), Deutsche Telekom (1995), and Deutsche Lufthansa (1997)

³ The yield returns of a German ten years governmental bond decreased in average by 4.6 percentage points from 8.9 percent to 4.3 percent within the period from 1990 to 1998 (Kunisch 2011, p. 57).

⁴ Deutsche Bank bought the British investment bank Morgan Grenfell in 1989 to establish a corporate finance advisory department (Deutsche Bank AG, 2011).

⁵ In 1999, 86 percent of German M&A were conducted by stock payments (Kunisch 2011, p. 59).

⁶ For an explanation of this argument, please refer to Chapter 2.4.1 Asymmetric Information or Chapter 3.1.7 Stock performance hypothesis .

⁷ In the second half of 2007, the numbers of acquisitions of the financial sector decreased by 27.3 percent from 187 to 136 acquisitions (Kunisch 2008, p. 59).

⁸ The Federal Republic of Germany bought 100 percent of the Hypo Real Estate AG in 2009 and holds 25 percent plus one stock in the German commercial bank Commerzbank AG (Bundesanstalt für Finanzmarktstabilisierung 2011).

⁹ The survey investigates European companies’ merger and acquisition plans for 2011 and includes responds of chief executive officers (CEOs) and senior managers from 179 of the largest publicly listed companies of the European countries.

¹⁰ Large-scale transactions involve acquisitions of companies with sales of more than 500 million EUR (Kronimus and Roos 2010, p. 2).

¹¹ Large-scale transactions involve acquisitions of companies with sales of more than 500 million EUR (Kronimus and Roos 2010, p. 2).

¹² Achleitner (2002, p. 153) refer to this as “build-or-buy strategy”. The buy strategy refers to inorganic growth strategy and constitutes an acquisition of a company.

¹³ Achleitner (2002, p. 153) refer to this as “build-or-buy strategy”. The buy strategy refers to inorganic growth strategy and constitutes an acquisition of a company.

¹⁴ It this paper medium of exchange, method of payment, M&A consideration, and M&A currency are used synonymously to describe payment methods in M&A.

¹⁵ It this paper medium of exchange, method of payment, M&A consideration, and M&A currency are used synonymously to describe payment methods in M&A.

¹⁶ Similar results are reported by Gosh and Ruland (1998, p. 794).

¹⁷ It this paper medium of exchange, method of payment, M&A consideration, and M&A currency are used synonymously to describe payment methods in M&A.

¹⁸ It this paper medium of exchange, method of payment, M&A consideration, and M&A currency are used synonymously to describe payment methods in M&A.

¹⁹ Similar results are reported by Gosh and Ruland (1998, p. 794).

²⁰ It this paper medium of exchange, method of payment, M&A consideration, and M&A currency are used synonymously to describe payment methods in M&A.

²¹ Similar results are reported by Gosh and Ruland (1998, p. 794).

²² It this paper medium of exchange, method of payment, M&A consideration, and M&A currency are used synonymously to describe payment methods in M&A.

²³ Similar results are reported by Gosh and Ruland (1998, p. 794).

²⁴ It this paper medium of exchange, method of payment, M&A consideration, and M&A currency are used synonymously to describe payment methods in M&A.

²⁵ Similar results are reported by Gosh and Ruland (1998, p. 794).

²⁶ Faccio and Masulis (2005, p. 1357) classifies their sample into UK bidders (including Ireland) and continental European bidders.

²⁷ Martynova and Renneboog (2008, p. 37) include M&A from 24 European countries.

²⁸ For more details, please refer to Nenova (2003, p. 329).

²⁹ Firms that appeared in the 1980 list of Fortune 500 companies (Amihud et al. 1990, p. 607)

³⁰ Explanatory note in Amihud et al. (1990, p. 614)

³¹ Target ownership is significant at the one percent level for values exceeding three percent (Gosh and Ruland 1998, p. 793).

³² For the purpose of this paper, major shareholdings are defined as owning shares exceeding five percent of the total numbers of outstanding shares.

³³ Faccio and Masulis (2005, p. 1360) identified that when a shareholding exceeds the transition point of 15.79 percent, cash financing is significant positive while they find significant negative results below this transition point.

³⁴ For the purpose of this paper, major shareholdings are defined as owning shares exceeding five percent of the total numbers of outstanding shares.