Unpleasant shocks or welcome surprises? What information is conveyed in merger announcements?

Abstract

This paper investigates two issues: how much merger announcements surprise the market and what market responses to the announcement reveal about the motives underlying the proposed deal. Using a simultaneous-equations framework, we model investor anticipations in the first equation and abnormal returns in the second equations. Ouranalysis indicates that investors can successfully predict bidders but not target candidates. Cumulative abnormal returns to bidders whose candidacy was widely anticipated in the market prove significantly larger in magnitude than returns to bidders whose candidacy wasn't anticipated. Bidder abnormal returns differ insignificantly from zero when market expectations are met, whereas bidder returns prove significantly positive when markets are surprised that the firm made a bid. This favorable market response to the surprise in bidder identity suggests that to an important extent managerial merger motives serve shareholder interests.