The stock market reaction towards acquisition announcements in different business cycles

Abstract

We investigate whether the stock market reaction towards acquisition announcements is dependent on different business cycles. In addition, we examine if the stock market reaction is consistent with predictions in the free cash flow theory (Jensen, 1986) and the overvaluation theory (Myers & Majluf, 1984). Our paper builds mostly on the previous work by Bouwman et al. (2009) which investigates acquisition quality related to different stock market valuations. Thus, we estimate the cumulative abnormal returns for 233 acquisition announcements of publicly listed firms on the Swedish stock exchange between 1997 and 2014. We conclude that there is evidence of a relationship between the stock market reaction and business cycles. We also find that the stock market reaction is consistent with the free cash flow theory and the overvaluation theory regarding that cash acquisitions outperform stock acquisitions. Additionally, our findings indicate that the market perceives acquisitions in high (low) business cycles differently from high (low) stock market states.