Mergers and Acquisitions

Mergers and Acquisitions

Chapter 3: Methodology

Classification of high- and low-valuation markets

Each calendar month is classified as high-, neutral-, or low-valuation month on the basis of the P/E ratio of the value-weighted market index (TOTMKUK). In order to classify each month into a valuation group, the market (TOTMKUK) P/E is detrended by removing the best straight line fit (OLS) from the P/E of the month in question and the five preceding years. The month in question is classified into an above (below) average group if its detrended index P/E was above (below) the past 5-year average. Then the months are ranked in order of detrended P/E. Months that belong to the top half of the above average group are classified as high-valuation months and those that belong to the bottom half of the below average group are classified as low-valuation months. All remaining months are classified as neutral-valuation months. This procedure leads to 53 high-valuation, 63 low-valuation and 124 neutral-valuation months, respectively.4

Selection criteria and sample description

We examine a sample of 2973 successful domestic acquisitions by U.K. public companies over the period from January 1st, 2000 to December 31st, 2008. The sample of acquisitions is drawn from the Securities Data Corporation's (SDC) Mergers and Acquisitions Database. The following criteria are used in selecting the final sample: (1) acquirers are publicly traded U.K. firms, listed on the London Stock Exchange (LSE) and have at least 5 days of return data around the acquisition announcement for short-run analysis, and 1-3-year return data for the long-run analysis available from the Thomson Financial Datastream. (2) Targets are U.K. public or private firms. (3) The deal value is one million US$ or more. (4) The acquirer owns less than 50% of the target company's stock before the deal and more than 50% after the deal. (5) We require that the deal value represents at least 1% of the market value of the acquirer. Market value is measured as monthly share price multiplied by the number of ordinary outstanding shares 1 month before the announcement date. (6) Both bidding and target firms are non-financial and non-utility firms.

In addition to these restrictions, multiple acquisitions (in which an acquirer announced two or more acquisitions within 5 days) are also excluded in order to isolate the overlapping effect among deals on bidder returns. The sample is then divided into three groups based on the payment method for the acquisition, i.e., pure cash, pure stock, and mixed. Cash acquisitions consist of transactions made solely in cash, or cash and debt. Stock acquisitions are defined as transactions made solely in common stock. Mixed payment acquisitions include all acquisitions in which the payment method is neither pure cash nor pure stock, and methods classified as “other” by SDC.

Table 1 (see appendix) presents the activity of acquisitions among public and private targets, value of acquirer and the value of deals stratified by the acquisitiveness of the acquirer, deal value and method of payment for the different market valuation ...