Bank Merger Bids, Managerial Control And Value Maximization (*1)
The traditional theory of the firm is based on the assumption that management acts in the best interest of the stockholders, which is value maximization. In line with such a principle, various merger-event studies show that for target firms, there is usually (1) a large positive market reaction to the public announcements of merger proposals and (2) a positive reaction to the approval of completed proposals. Such reactions to merger events indicate that target firm shareholders seem to expect substantial abnormal capital gains that may serve the value maximization objectives for the shareholders. (1) Moreover, there seems to be a negative market reaction to target management rejection of merger proposals. Assuming the market is efficient, shareholders' expectations of management decisions would be to accept the increased market value of the target firm and present such proposals to the stockholders for their final vote.
However, state codes require that management (board of directors) approve merger proposals before presenting them to the shareholders, (Martindale-Hubbell ). That is, shareholders get a chance to vote only on those merger proposals that are approved by the board of directors. If a board does not favor a merger proposal for any reason, selfish or otherwise, it may veto the proposal and decide not to put it to the shareholders' vote. This is a formidable discretionary power vested in the board of directors by state laws. From the daily market reports in the financial press, it is evident that a number of merger proposals that the market views as value maximizing to the shareholders get vetoed and rejected by their board of directors. Thus, decisions on mergers appear to be subjected to an ongoing managerial discretionary interference, (2) thereby, perhaps, frustrating market efficiency. It is the purpose of this study to attempt to answer the nagging question, "Does management represent the best interest of shareholders?" Bank industry data are used for this study.
Competing theories in agency and expense preference suggest that managers may be apt to maximize their own benefits and not necessarily represent the best interest of the shareholders in terms of value maximization. (3) Since state codes give management of target firms decisive veto power over all merger proposals (excluding tender offers), the response of target managements to the proposals and the daily market reaction to such discretionary responses provide an opportunity to assess whether or not managements' decisions are made in the best interest of the stockholders.
Merger proposals usually involve offers to obtain the target company's stock at a price well above the existing market price for that stock (Eckbo , Malatesta , Roll , and Weston and Chung ). Consequently, shareholders of the target firm realize substantial capital gains (Dennis and McConnell , Dodd , and Wansley, Lane, and Yang ). Residual analyses indicate that when firms merge, the shareholders of the target firm receive significant increase in abnormal returns (Asquith and Kim , Dodd , and Halpern ). These varied studies all report that returns to the acquiring firm owners are mixed, at best. Asquith, Bruner, and Mullins  argue that abnormal returns to the acquiring firm are also positive at announcement, while others show inconclusive results (Piper and Weiss ). Still others (Neely  and Stover ), for example, find that the acquiring firm's returns may be positive but not statistically significant. However, those results are consistent with other studies in supporting the efficient market model as a predictor of share prices of participating companies. Nevertheless, these studies do not address the agency problems in bank mergers and their impact on target bank shareholder returns. …