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Who makes acquisitions? CEO overconfidence and the market's reaction

Ulrike Malmendier () and Geoffrey Tate

Journal of Financial Economics, 2008, vol. 89, issue 1, 20-43

Abstract: Does CEO overconfidence help to explain merger decisions? Overconfident CEOs over-estimate their ability to generate returns. As a result, they overpay for target companies and undertake value-destroying mergers. The effects are strongest if they have access to internal financing. We test these predictions using two proxies for overconfidence: CEOs' personal over-investment in their company and their press portrayal. We find that the odds of making an acquisition are 65% higher if the CEO is classified as overconfident. The effect is largest if the merger is diversifying and does not require external financing. The market reaction at merger announcement (-90 basis points) is significantly more negative than for non-overconfident CEOs (-12 basis points). We consider alternative interpretations including inside information, signaling, and risk tolerance.

Date: 2008
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Related works:
Working Paper: Who Makes Acquisitions? CEO Overconfidence and the Market's Reaction (2004) Downloads
Working Paper: Who Makes Acquisitions? CEO Overconfidence and the Market's Reaction (2003) Downloads
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