Tuck School of Business at Dartmouth Tuck School of Business Working Paper No. 2011 94 Merger negotiations with stock market feedback
The takeover literature suggests that bidders systematically mark up offer prices with pre bid target stock price runups. Such "markup pricing" is surprising because it suggests either a lack of market deal anticipation despite the media frenzy often surrounding takeover bids or that bidders tend to "pay twice" for the target shares (costly feedback loop) To resolve this puzzle, we first characterize the theoretical relationship between target runups and offer price markups under rational deal anticipation. The theory provides testable implications for the existence of a costly feedback loop, and for how target stand alone value changes may be inferred from runups in equilibrium. We then provide large sample empirical tests which strongly support deal anticipation in runups while rejecting the existence of a costly feedback loop in the data. Contrary to the prevailing view, pre offer target runups do not appear to increase bidder takeover costs. *This paper, and an early precursor entitled "Markup pricing revisited" were presented in seminars at Boston University, Dartmouth College, HEC Montreal, Lille University, London Business School, Norwegian School of Economics, BI Norwegian School of Management, Southern Methodist University, Texas Tech University, Tulane University, York University, University of Adelaide, University of Arizona, University of British Columbia, University of Calgary, University of Colorado, University of Connecticut, University of Georgia, University of Maryland, University of Melbourne, University of Notre Dame, University of Oregon, University of Stavanger, and the meetings of the Financial Management Association (FMA) FMA European Meetings, European Finance Association, the European Financial Management Association, the Paris Spring Corporate Finance Conference, the Northern Finance Association, and the UBC Summer Finance Conference. We are also grateful for the comments of Laurent Bach, Michael Lemmon, Pablo Moran, Annette Poulsen and, in particular, Eric de Bodt.