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Firms that learn from the market’s reaction to their plans end up making better acquisitions.

Mergers and acquisitions (acquisitions for simplicity) represent the largest corporate investments in the lifecycle of firms, shape corporate boundaries, and have significant implications for a wide range of stakeholders. The vast body of academic research on acquisitions typically focuses on the acquisition process starting with the public announcement of an agreement between an acquirer and a specific target firm. However, firms often develop and announce acquisition plans as a first step to execute a corporate strategy of growth through acquisitions before they initiate an acquisition process with a specific target firm. And yet, little attention has been paid to acquisition planning and to the communication of acquisition plans. 

In our paper titled “Is there information in acquisition plans?” we construct a novel and comprehensive sample of 13,137 firm announcements of acquisition plans by 3,536 unique US firms from 2003 to 2015 from Mergermarket Ltd. We then examine the information content of acquisition plans for capital market participants, how acquisition plans potentially affect acquisition decisions, and the benefits to firms from announcing such plans.

We find that the number and percentage of acquisition-planning firms represents an economically important fraction of U.S. listed firms. For instance, acquisition-planning firms represent 32% of the total market capitalization U.S. listed firms. Perhaps more importantly, over 33% of acquisition transactions follow the announcement of an acquisition plan and 34% of unique acquirers communicate acquisition plans before executing a transaction. This suggests that the announcement of acquisition plans is indeed an important component of the U.S. acquisition deal-making process.

We show that acquisition plans are generally non-numeric and contain soft information disseminated mostly in institutional conference settings and interactions with the financial press. Such plans vary greatly based on the strategic information furnished by management. For instance, firms communicate their target selection strategies as well as their level of commitment to acquisitions as a means of executing strategic corporate growth plans.

Our evidence strongly suggests that the stock market reacts to the announcement of acquisition plans, but the reaction can be positive or negative depending on the nature of the plan. Moreover, acquisition-planning firms are incrementally more likely to engage in subsequent acquisition transactions relative to other firms. In economic terms, acquisition-planning firms are associated with an incrementally 128% higher propensity of making subsequent acquisitions. 

As a next step, we explore where the informativeness of acquisition plans comes from. Our evidence shows that acquisition plans are even more informative when acquisition-planning firms’ target selection strategy involves an internal M&A pipeline and acquisition-planning firms explicitly communicate their commitment to future acquisitions. These results are consistent with the view that such acquisition-planning firms have already expended resources to build an acquisition pipeline and are committed to future acquisitions to pursue their corporate growth strategy. 

We investigate the potential benefits to firms from announcing acquisition plans. First, we expect and find that firms communicate acquisition plans to utilize information from market reaction to acquisition plan announcements, so that they can take the market’s feedback into account when deciding whether to pursue acquisitions as well as about how to implement their acquisition plans. These results are most important for firms that have more flexible acquisition plans. More specifically, firms that are not committed to acquisitions to implement their corporate strategy and firms that do not maintain an internal M&A pipeline are more likely to adjust subsequent acquisition behavior based on market reaction to acquisition plan announcements. Specifically, if the market reacts negatively to the acquisition plan communicated by a firm, that firm is less likely to engage in subsequent acquisitions. Second, we find strong empirical evidence that the communication of acquisition plans lowers market uncertainty regarding subsequent acquisition activities. 

Do firms that communicate acquisition plans create more value when they undertake acquisitions? The answer is yes. Acquisitions of planning firms, on average, generate significantly greater value for shareholders through acquisitions. However, these results are confined to acquisitions of firms that are most likely to learn from market feedback to their acquisition plan announcements. In other words, firms that learn from the market’s reaction to their plans end up making better acquisitions.

In sum, our research provides a novel and important perspective on the acquisition process by bringing light to the existence and importance of acquisition planning that evolves prior to the initiation of an acquisition process with a specific target firm. Our research is the first to demonstrate the information content and implications of acquisition planning for acquisition behavior and value created from acquisition transactions. Our paper shows that market feedback plays an important role for investment and resource allocation decisions of acquisition-planning firms, helping them to make better acquisitions and communication of acquisition plans reduce market uncertainty around subsequent acquisition announcements. 



By René M. Stulz (The Ohio State University, NBER, and ECGI), Sinan Gokkaya (The Ohio University), and Xi Liu (Miami University)

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This article features in the ECGI blog collection Mergers and Acquisitions

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