The use of lockup options in corporate acquisitions: Theory and evidence.

This dissertation presents a theoretical and empirical study of the use of lockup options in corporate acquisitions. Traditionally defined, a lockup option is a warrant to buy shares of a target firm's stock, granted by the target to a potential acquirer in a negotiated acquisition. The theoretical portion of this dissertation develops the value-maximization theory to explain the use of lockup options. The value-maximization theory models the decision of the target and a chosen acquirer to utilize a lockup option when they anticipate the possibility that a higher-valuing, third-party bidder may appear. The auction subgame between the chosen acquirer and third party considers the chosen acquirer's incentive to compete by modeling the interaction between bidding costs and the chosen acquirer's toehold. The theory shows that a lockup option increases the total deal surplus when the chosen acquirer has a small toehold. Empirical predictions include (1) lockup options should be more prevalent in deals with small acquirer toeholds, and (2) target shareholder wealth should not be harmed by the proper use of lockup options. The empirical portion of this dissertation examines 100 merger proxies from completed acquisitions in 1988-1989 and 2,687 completed and not completed acquisition attempts announced in Securities Data Corporation (SDC) data during 1988-1994. Lockup option usage is documented and tests are performed on the value-maximization theory and an agency explanation, in which self-serving target managers grant lockup options to circumvent the auction process and hand-select an acquirer. The evidence is more consistent with the value-maximization theory than the agency explanation. Specifically, there is no systematic evidence that lockup options are more prevalent when (1) target management fails to run a fair auction, (2) suit is brought to enjoin the negotiated deal, and (3) an employment agreement between management and the acquirer exists. Target shareholder returns are higher and acquirer returns are lower in deals with lockup options. After controlling for deal completion, deal attitude and the number of days until deal completion for completed deals, however, lockup options have no significant relation to target returns, although the negative relation to acquirer returns persists.Ph.D.FinanceSocial SciencesUniversity of Michigan, Horace H. Rackham School of Graduate Studieshttp://deepblue.lib.umich.edu/bitstream/2027.42/130668/2/9811040.pd