Darryl Laws Infp

  The idea that mergers are driven by biases of the acquiring manager has popular appeal, as evidenced in finance literature by authors such as by Roll (1986) who first introduced the hubris hypothesis of corporate takeovers. Building on this literature, Malmendier and Tate posit that overconfident CEOs overestimate the positive impact of their leadership and their ability to select profitable future projects, whether in their current company or in the combined merged companies. Typically, they overestimate the synergies between their company and a potential target’s or underestimate how disruptive the merger will be. As a result, overconfidence induces mergers / acquisitions that are value destroying. At the same time, overconfident CEOs view their company as undervalued by outside investors who are less optimistic about the prospects of the firm. This perceived undervaluation makes overconfident CEOs reluctant to issue equity to finance a merger. The trade-off between perceived ...

  The analysis of overconfidence relates several branches of behavioral economics and psychology literature. First, extensive amount of experimental literature documents the tendency of individuals to consider themselves above average on positive characteristics (Alicke, 1995; Alicke, 1985; Svenson, 1981). Example, Svenson demonstrates that the vast majority of subjects rate their driving skills as above average . Svenson’s finding has been replicated numerous times in various countries and with respect to various IQ or skill related outcomes like driving. When asking a sample of entrepreneurs about their chances of success, Cooper (1988) found that 81% answered between 0 and 30% (with 33% attaching exactly zero probability to failure). However, when asked the odds of any business like theirs failing, only 39% of them answered between 0 and 30%. Larwood and Whittaker (1977) find that corporate executives are particularly prone to this form of self-serving bias. The better than ave...

  Thus, there are two main theories; 1) rational responses to agency costs and 2) irrational response to managerial hubris that have been detrimental to explain why managers make value destroying acquisitions. Although the hubris hypothesis has considerable intuitive appeal it has only been lesser subjected to empirical testing. Behavioral assumptions such as overconfidence have become common in articles written on asset prices, but corporate finance literature has largely neglected behavioral economic assumptions in models of managerial decision-making (Barberis, 2003). In the real world of uncertainty, competitiveness, macro-economic change or competitor pre-emption may render apparently realistic acquisition targets unavailable or unattractively expensive (Bradley, 1988). All management teams face the same dilemmas when making takeover decisions, any acquisition target carries the risk of overpayment, which may be founded on unconscious irrational justifications, such as an over...

  Introduction. The biggest challenge for the analysis of CEO overconfidence is; “How to construct a plausible measure of overconfidence?” Biased beliefs naturally defy direct and precise measurement (Malmendier and Tate, 2004). Malmendier and Tate’s (2004) previous work proposes two approaches to measurement; 1) the first is a revealed beliefs argument. They infer CEOs’ beliefs about the future performance of the company from their personal portfolio of stock options transactions, (incentive compensation), 2) the second approach captures how outsiders, the public and press, perceive the CEO. They classify CEOs as overconfident based on their portrayal in the press. This measure was proposed by Malmendier and Tate in 2005, builds on the perception of outsiders. The authors conducted a study of Forbes 500 companies which was comprised of their collecting data on how the press portrays each of the CEOs during a sample period 1980 to 1994. They search articles referring to the CEOs...

  Who Makes Acquisitions? CEO Overconfidence and The Market’s Reaction .   Ulrike Malmendier and Geoffrey Tate, 2008, Journal of Financial Economics, Elsevier Abstract. Overconfident CEOs over-estimate their ability in numerous ways. One of which is their over estimation to generate returns (ROE, cash dividends) to their companies. Often, they undertake mergers or acquisitions that destroy their own company’s value. Overconfident CEOs often perceive outside financing cost to be over-priced.  Malmendier and Tate (2008) classify CEOs as overconfident when they hold their options in their own company’s stock until expiration. The authors find; 1) that these CEOs are more acquisitive on average, particularly via diversifying acquisitions transactions which are not germane to their core business, 2) the effects are more ostensible on firms with abundant cash and untapped debt capacity, 3) that the measure of overconfidence used, media (press) coverage as confident or optimisti...