THE EFFECTS OF ACTIVIST INVESTORS ON FIRMS’ MERGERS AND ACQUISITIONS

• Published date: 01 March 2019
• Author: Keven Yost,Steve Swidler,Tri Trinh
• Date: 01 March 2019
• DOI: http://doi.org/10.1111/jfir.12167

THE EFFECTS OF ACTIVIST INVESTORS ON FIRMS’MERGERS

AND ACQUISITIONS

Steve Swidler

Lafayette College

Tri Trinh and Keven Yost

Auburn University

Abstract

We investigate the effects of activist investors on firm acquisitions, where activist

investors include both hedge fund activists and entrepreneurial activists (venture capital

funds, private equity funds, and individual investors). For completed deals, acquirers

with activist investors experience significantly higher announcement cumulative

abnormal returns compared to acquirers without activist investors. In addition, acquirers

with activist investors are more likely to withdraw from value-destroying transactions.

Furthermore, the market reacts more favorably to acquirers with activists than to those

without activists when these value-destroying transactions are withdrawn. Our results

highlight the role of activist investors in aligning managers’and shareholders’interests

in acquisition decisions.

JEL Classification: G14, G32, G34

I. Introduction

Activists investors have received considerable academic attention in recent years. One

criticism about activist investors is that they are short-sighted. They increase firm

profitability in the short term but destroy the value of long-term shareholders. In recent

papers on activist investors, however, researchers consistently find positive effects of

activist investors on their firms. Activist investors not only have positive effects on their

firms’stock returns (Brav et al. 2008; Klein and Zur 2009), but they also have significant

real effects on the firm. For example, Brav, Jiang, and Kim (2015) focus on hedge fund

activists (HFAs) and find that HFAs enhance firm productivity and increase firm focus. In

Brav et al. (2018), HFAs increase innovation efficiency. Additionally, Bebchuk, Brav,

and Jiang (2015) find no evidence that HFAs reduce firm operating performance in the

long term.

In this article, we focus on the effect of activist investors on mergers and

acquisitions (M&As). Acquisitions frequently account for a large proportion of a firm’s

We wish to thank participants at the 2017 Southern Finance Association meeting, the 2017 Vietnam Finance

Conference, and the 2017 Southwestern Finance Association meeting, and seminar participants at Auburn

University. We also thank Scott Hein, Jeff Mercer, and Drew Winters for their editorial guidance, as well as

associate editor Dan Bradley and referee Qin Lian for helpful comments.

The Journal of Financial Research Vol. XLII, No. 1 Pages 181–201 Spring 2019

DOI: 10.1111/jfir.12167

181

© 2019 The Southern Finance Association and the Southwestern Finance Association

total capital expenditures, and researchers have widely documented that managers do not

always make value-maximizing decisions. Jensen (1986) proposes a free cash flow

hypothesis that argues that managers are more likely to undertake value-destroying

acquisitions in firms with large free cash flows. Morck, Shleifer, and Vishny (1990) find

that acquisitions that benefit managers destroy shareholder value at the same time.

Fortunately, this conflict of interest between managers and shareholders can be mitigated

by corporate control mechanisms. Masulis, Wang, and Xie (2007) investigate the role of

antitakeover provisions on the acquirer’s stock returns and find that managers of firms

with more antitakeover provisions are more likely to make value-destroying acquisitions.

Another monitoring mechanism could be the presence of activist investors who are able

to influence a firm’s business strategy (Brav et al. 2008).

Accordingly, our first area of focus is the effect of activist investors on the

acquirer’s stock returns around the acquisition announcement. Specifically, we examine

whether acquirers with activist investors experience higher abnormal stock returns

during the announcement period. We further examine the abnormal returns according to

whether the activist also serves on the board of directors. Our second area of focus is the

likelihood of withdrawing from acquisitions that, ex post, are value-destroying

transactions. Stock price reactions around acquisition announcement dates provide direct

feedback of how the market perceives the quality of a bid (Paul 2007). We therefore

consider acquisitions where the acquirer’s three-day cumulative abnormal returns

(CARs) around the announcement date are less than 0 as value-destroying acquisitions

and examine the extent to which activist investors are associated with a firm’s decisions

to withdraw the deal. For example, on July 20, 2011, AMAG Pharmaceuticals Inc.

announced a $686 million deal to merge with Allos Therapeutics Inc. The three-day CAR

was 15.66%. The deal was ultimately rejected by shareholders on October 21, 2011,

when activist hedge fund MSMB Capital stated that management’s decision was not in

the best interest of shareholders and the deal would have had “disastrous consequences”

(Xu 2011).

Our article contributes to the literature in two ways. First, we examine the real

effects of activists on their firms, especially on firms’asset allocation decisions. Brav,

Jiang, and Kim (2015) show that activist investors increase firm spin-offs. However, we

are not aware of any papers that provide direct evidence of the effect of activist investors

on acquisition decisions. Second, most studies focus on HFAs. However, other

entrepreneurial activists, as defined by Klein and Zur (2009) to include venture capital

funds, private equity funds, and individual investors, may be important as well. For

example, Gamco Assset Management Inc. (formerly Gabelli Assets Management), a

publicly traded fund, engaged in 474 activist campaigns between 1995 and 2015 either by

acquiring at least 5% of a firm’s stock or by publicly influencing firms’management

(according to FactSet). By including hedge funds, as well as private equity funds, venture

capital funds, and private investors, we present a more inclusive picture of how activists

affect their firms’acquisitions.

Using comprehensive data on activist investors including both hedge fund and

other entrepreneurial activists (venture capital funds, private equity funds, and individual

investors), we find that 138 of 1,301 acquirers have activist investors between 1996 and

2015. We consider an acquirer to have an activist investor if (1) an investor purchases at

182 The Journal of Financial Research