Corporate Takeovers: Theory and Evidence

In this essay, we review theories and empirical evidence describing how bidders and targets navigate the takeover process from the decision to initiate through bid revisions and final acceptance (or rejection) of the offer. This navigation involves complex decisions where potential rival bidders are jockeying for competitive advantage through multiple strategic decisions. Sequentially, these involve (1) Whether to initiate the takeover process (exploiting a first-mover advantage); (2) purchase target shares in the target prior to the first bid (toehold bidding); (3) how to respond to a prebid target stock price runup (markup pricing); (4) optimal bid revisions (jumps) following rival competition and target management resistance; and (5) deal financing and a strategic payment method choice under information asymmetries and a potential for bidder opportunism. We also address more policy-oriented issues related to (6) merger-driven listing dynamics and (7) antitrust policy towards horizontal mergers. We apply the standard auction framework with a single (pivotal) seller as our main theoretical workhorse, which we explain with a set of largely unified variable notations across takeover models. This auction framework, which helps identify theoretical puzzles, is also useful for explaining the outcomes of merger negotiations as it effectively describes the outside option during bargaining.