Empirical Analysis of Exempt Takeover Offers on the Toronto Stock Exchange

By Smith, Brian F.; Amoako-Adu, Ben | Revue Canadienne des Sciences de l'Administration, December 1993 | Go to article overview

Empirical Analysis of Exempt Takeover Offers on the Toronto Stock Exchange


Smith, Brian F., Amoako-Adu, Ben, Revue Canadienne des Sciences de l'Administration


The underlying policy of the takeover bid provisions of the current Ontario Securities Act is to ensure equal treatment of all holders of a class of publicly traded shares. The Act quires that in a takeover bid for a class of shares of a company in which at least 20% of the shares of that class will be subsequently owned by the bidder, the tender offer must be made on an equal pro rata basis to all shareholders. The two major exemptions from this requirement are the "private agreement exemption" and the acquisition of less than 5% of shares in a given twelve-month period. In 1978, revisions to the Act established the extent to which this policy applied through the private agreement exemption. The private agreement exemption allowed some large block shareholders to obtain a limited premium on the sale of their shares, without the offer being extended to all shareholders.

The private agreement exemption specified in Section 92(1)(C) of the Act allows for the purchase of a block of a given class of securities without making a formal bid where three conditions are met: (1) the purchases are made from not more than five sellers; (2) the bid is not made generally to all holders of that class of securities; and (3) the value of the consideration paid for the securities does not exceed 115% of the "market price." The market price is determined by Regulation 164, made under the Act, as the simple average of the closing prices on each of the 20 trading days preceding the date of the bid. Prior to 1979, private agreements were allowed without any limit on the premium that could be paid.

The application of the private agreement exemption has been controversial because of its potentially differential impact on the wealth of sellers of controlling blocks of shares and outside shareholders. For example, market expectations of an imminent takeover bid may affect the calculation of the market price during the twenty days prior to the agreement and thus raise the maximum bid price allowed under a private agreement. (For a historical review of how the OSC and the courts have dealt with this problem, see Anisman (1988) and Bailey and Crawford (1983)). Large block shareholders may then sell their shares for a significant gain while outside shareholders are excluded from the transaction. Furthermore, since outside shareholders do not participate in the takeover, they may be concerned that the new controlling shareholder may not act in their interest and the value of their shares may fall in response.

The impact of tender offers on shareholder wealth in Canada has been documented by Calvet end Lefoll (1987), Eckbo (1986), Masse, Hanrahan, and Kushner (1990), and Smith and Amoako-Adu(1992). All these studies found positive returns to shareholders receiving tender offers. This paper is the first to focus on the shareholder wealth effects of exempt offers or private agreements. The paper also examines the relationship between the change in outside shareholders' wealth and cross-sectional variables, such as the percentage of additional shares acquired and the presence of a government as a bidder, in order to determine the sources of wealth changes.

The next section of the paper develops hypotheses surrounding the expected impact of the exempt offer announcement on shareholder wealth. Section three provides information on data sources while the fourth section describes the methodology. The fifth section discusses empirical results and the last section provides conclusions.

THE EXPECTED IMPACT OF EXEMPT OFFERS ON SHAREHOLDER WEALTH

In order to analyze the expected impact of exempt offers, one must consider the conditions under which such private agreements are likely to occur. Each party to the private agreement should expect to be better off than in a tender offer alternative. A seller may have an incentive to sell through a private agreement when the premium is expected to be higher than that obtained in the open market. …

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