Question

In relation to mergers and acquisitions, Franks et al. (1987) study the returns to the bidder across different means of paying for the target company. How do the returns to the bidder offering cash differ from those of the bidder paying with equity? Can you offer a possible explanation?

Answer 1

Returns to the bidder who is offering the cash is different from those of the bidder who are staying with equity because cash offering are those offering in which acquiring firm will be buying the target company with cash whereas in case of stock merger, acquiring company will be having to pay the stock rather than the cash to complete the whole of the acquisition deal.

Returns to the bidder in case of offering equity share will be rather higher than the cash because offering of equity share will mean that it is giving a chance in order to acquire the company by issuance of stock and it will also mean that company will be having a potential of growth as the shareholders of targeting company will be becoming the shareholders of the acquiring company and they will be remaining invested in the company for a longer period of time and it will also mean that they will be earning a higher amount of Return through capital appreciation for stakeholder of target company who can be the shareholder of acquiring company for a longer period of time and it does not lead to payment into cash

Cash merger and acquisition are very traditional in nature as they do not have to pay stock but they will have to pay cash from the books of accounts of the company as it will lead to a lower amount of income for the company as company will be having to pay cash outflow and they will be impacting the operational cash flow of the company in the short run and it will also mean that liquidity of the company will also be going diwn along with the solvency of the company will be going down so this will lead to stress on the books of accounts of company and issuance of equity is much more better than issuance of cash because issuance of cash is like a buyout where as it was of equity is like merging two companies for a longer period of time in order to get advantage of synergy benefits but issuance of cash will be taking a hit on the company in the form of financial distress and loss of liquidity,so return to the bidder offering equity will generally be higher than return to the leader who is offering Cash.