The effect of target managerial ownership on the choice of acquisition financing and CEO job retention

Monitoring by a large block holder created through a merger is illustrated in the 1984 acquisition of electronic data systems (EDS) by General Motors (GM). Ross Perot, the founder and chairman of EDS, converted his 48% interest in EDS into a 17% stake in the newly created GM Class E shares. Immediately following the merger, Mr. Perot became GM’s largest shareholder, and consequently retained his position as chairman of the EDS board and gained a position as a director on the GM board. While in these positions, he became an active critic of GM management. For example, he publicly criticized the 1985 acquisition of Hughes Aircraft Company by GM as a poor investment. Subsequently, through a greenmail transaction in 1986, GM repurchased Mr. Perot’s E shares and he left both the EDS chairman and GM director positions.

In a study of bank acquisitions Hadlock et al. (1999) also find a positive relation between job retention of a target’s top executive and ownership level of target insiders.

For the 157 tender offers, 4 are stock offers, 128 are cash offers, and 25 are mixed offers.

Replacing the relative size of acquisition with value of the acquisition has virtually no effect on this coefficient.

Faccio and Masulis (2005) likewise argue that bidders play a dominant role in deciding the financing choice.

Following Martin (1996), we also normalize cash and marketable securities with the value of acquisition instead of total assets. Results for this alternative measure of cash are similar to those reported for the cash variable in Table 2.

When using target managerial ownership as the independent variable, the coefficient is also negative and significant.

We also recognize that some of our explanatory variables, specifically transaction characteristics, are endogenously determined. For example, the choice between a merger and tender offer is substantially influenced by whether takeover offers are hostile and whether bidder and target are in the same industry. In addition, managerial ownership tends to be related to firm size, the variance of stock returns (Demsetz and Lehn 1985), and Tobin’s Q (Morck et al. 1988a; McConnell and Servaes 1990). However, since we are using these variables strictly as statistical controls, we do not address the endogeneity issue further.

Here we assume that the intention of retaining a target CEO at the time the acquisition is negotiated is highly correlated with actual post acquisition job retention. This is similar to the assumption made in Ghosh and Ruland (1998) and Martin and McConnell (1991). We note that a majority of acquisition announcements do not disclose whether target CEOs will be retained, and that very often even if target CEOs are retained it is only for the transitional period.

Also, for non-takeover-related management turnovers Huson et al. (2004) and Kaplan and Minton (2006) show that turnover among top managers is high following poor firm performance.