Academic journal article Financial Management

Capital Structure and Ownership Distribution of Tender Offer Targets: An Empirical Study

Academic journal article Financial Management

Capital Structure and Ownership Distribution of Tender Offer Targets: An Empirical Study

Article excerpt

The purpose of this study is to examine empirically the predictions of theoretical models on the role of leverage and equity ownership in takeover decisions and outcomes. Our focus is on the extent to which these factors are not only related to the ultimate outcome of a tender offer (i.e., either successful or unsuccessful) but also the extent to which the offer is contested (i.e., either opposed or unopposed). In a related study, Sridharan and Reinganum (1995) examine the relationship between leverage and ownership structure and the decision to pursue control through either a tender offer or a proxy contest. Their results indicate that tender offer targets are less leveraged than those involved in proxy contests. They also show that management ownership is higher in firms that are targets of a proxy contest than in targets of tender offers.

Theoretical models of management's capital structure decision in response to tender offers have been developed by Harris and Raviv (1988), Israel (1991, 1992), and Stulz (1988). While these models imply a negative relationship between leverage and the probability of a tender offer and the probability of the tender offer's success, the models are developed from distinctly different perspectives. Israel considers the role of capital structure in allocating the target firm's cash flows among the parties in the tender offer process. The focus of the Harris and Raviv and the Stulz models is on the ability of leverage to alter the firm's ownership structure and, consequently, management's ability to control the tender offer's outcome. Testable hypotheses implied by these models include the following:

1) Tender offer targets increase leverage during takeover periods.

2) Targets of unsuccessful tender offers will issue more debt than will targets of successful tender offers.

3) The distribution of equity ownership between management and outside shareholders is different among firms that are successful, firms that are unsuccessful, and firms that do not oppose a tender offer.

Management that is interested in affecting the outcome of tender offer contests, to benefit either themselves or shareholders, has many options at its disposal. Theoretical models predict that capital structure is an important option. An empirical investigation of these models is important to the understanding of not only the outcomes of control contests but also management's motivation to add debt to the firm's capital structure. The capital structure decision remains a puzzle to researchers; an empirical study showing that capital structure and its changes seem to be related to tender offer opposition and outcomes may provide some insight into this important decision.(1)

Based on several univariate tests, our findings tend to support the models' prediction that capital structure and ownership structure are related to the results of tender offers. Using a multiple logistic regression analysis to examine the joint effects of changes in capital structure and ownership structure, we show that only changes in capital structure are statistically related to both the opposition and outcome of the tender offer.

The paper is organized as follows. Section I provides a brief review of some of the related literature. Our data are described in section II. Our results are discussed in sections III and IV. Section V presents a summary.

I. Review of Related Studies

There is a vast, rich literature dealing with both the capital structure decision and the role of debt in the market for corporate control.(2) The purpose of this section is to review only that portion of the literature that is related to our study. We briefly discuss theoretical models and review several empirical studies of the role of capital structure decisions in the tender offer process.

A. Theoretical Models

Harris and Raviv (1988) and Stulz (1988) develop models of the decision by the target firm's management to increase leverage as a way to affect the tender offer's outcome. …

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