Industry Merger Waves

In February, we talked about Motives for Mergers.  We followed up on this theme in March writing about Catalysts for Merger, discussing shocks that lead to merger waves within an industry:

"So what are these shocks, these catalysts?  Common catalysts include: shifts in regulation, shifts in consumer tastes, competition from unexpected sources, changes in the factors of production and changes in technology."

As a result of these shocks mergers occur in waves, both in the aggregate economy and within industries.  We'll leave the aggregate waves for another discussion and today talk about waves within an industry.   Current examples include old technology firms, banking, pharmaceuticals, and energy.

An interesting research piece on industry merger waves is by Jarrad Harford of the University of Washington.  Harford uses a novel measure of merger waves and extends our knowledge about the necessary conditions for a wave.   

Harford calculates merger waves in a statistical fashion, defining a merger wave within an industry as a twenty-four month period with a statistically unusual level of activity.  He identifies 35 merger waves in 28 industries over the 1981-2000 period. A list of these industry waves is contained in the article.  

While Harford notes that shocks do indeed precipitate merger waves, he also notes that shocks are not enough.  In particular, Harford notes that "There must be sufficient capital liquidity to accompany the asset reallocation.  The increase in capital liquidity and reduction in financing constraints that is correlated with high asset values must be present for the shock to propagate a wave..." (p. 1)

The abstract of the article entitled, "What Drives Merger Waves" is below.

Abstract: What Drives Merger Waves, by Jarrad Harford     

"Aggregate merger waves could be due to market timing or to clustering of industry shocks for which mergers facilitate change to the new environment. This study finds that economic, regulatory or technological shocks drive industry merger waves. However, the degree of capital liquidity determines whether a shock initiates a merger wave. This macro-level liquidity component causes industry merger waves to cluster in time even if industry shocks do not. Market-timing variables have little explanatory power relative to an economic model including this liquidity component. The contemporaneous peak in divisional acquisitions for cash also suggests an economic motivation for the merger activity."

The complete article can be downloaded here.

All the best,

Ralph