Testing the Pecking Order, Method-of-Payment, Financial Slack, and Misvaluation Hypotheses for Tender Offers: Evidence from Japan


In this paper, we investigated the affect of tender offer transactions in Japan from four perspectives. The first one is in regards to the Pecking Order Theory, and the second one concerns the Method-of-Payment Hypothesis. Both of these first two perspectives are related to manager payment method decisions, such as cash versus stocks. The third perspective is taken from the Financial Slack Hypothesis, which is very similar to the Free Cash Flow Hypothesis, and the last perspective takes into account the Misvaluation Hypothesis. These latter two perspectives are similarly related to the subsequent responses from investors that follow the announcements of tender offers.
We found strong evidence supporting the Pecking Order Theory, because managers are deeply motivated to select cash payments when they have an extensive amount of financial slack, free cash flow, representative of cash or cash equivalent. Unfortunately, on the other hand, we could not find any empirical data to fully support the Method-of-Payment hypothesis which was originally introduced and supported empirically in the U.S.
Evidence from our research for the Financial Slack or Free Cash Flow and Misvaluation hypotheses proved that investor reactions in Japan are similar to those in the U.S. A Japanese market with an increase in tender offer transactions contributes to the wealth of both acquiring and target firms, despite the stock market responding negatively to investments from acquiring firms with an extensive amount of financial slack or free cash flow. Furthermore, our B/P ratio conclusions reaffirm the propositions of Shleifer and Vishny (2003), while the V/P ratios support Dong, et al. (2006) who used the Residual Income Model.

[JEL Classification] G34, M41
[Key Words] Tender Offers, Pecking Order, Method-of-Payment, Financial Slack, Misvaluation Hypothesis

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