Accepted Answer

Dear Friend,

 

Target Firms are the firms that has been targeted by another firm for a takeover. Companies are targeted for a number of reasons. A firm may be attractive because it possesses large cash reserves, undervalued real estate or otherwise huge potential.

 

A number of empirical studies have studied and compared the characteristics of raider firms with those of target firms and/or firms not engaged in merger activity. Singh (1971), in a study conducted in UK, used four different measures of profitability, growth rates, and valuation ratio. He found that for each individual measure over the period 1955-60, victim firms were below average than other firms in the same industry. But the spread of values for both victim firms and the rest was so great that the difference in means were not statistically significant for any single measure. He found that size was the best measure for discriminating victim firms from the rest. The probability of being
taken over was about the same for small and medium sized times but was much lower for larger firms. That is, he found that substantial variations in profits made little difference to the chance of being taken over, and a large firm was quite likely to survive even if it was relatively inefficient. But for any given size class in an industry, profitability was the best indicator of the probability of being taken over. Over a six year period, within a given size class, firms with below average profitability were twice as likely
to be taken over as those with above average profitability.

 

Siriopoulos, Georgopoulos and Tsagkanos (2006), using a logit model, have conducted a similar study in a small open economy like Greece. They find age, size and productivity emerging as significant determinant variables of target firms in a merger, as compared to financial and performance variables. Their results indicate that bidders prefer mature targets with large size and high productivity.

 

Different factors which can explain whether a particular firm can be identified as a takeover target can be investigated by using a binary logit model. In the binary logit model, the type of firm (target, non-target) is represented by a dummy variable which takes the values 1 for targets and 0 for non-targets. The likelihood of being taken over is related to a set of explanatory variables Xi. The log of the odds ratio in favour of being a merger target is not only linear in X, but also (from the estimation view point) linear in the parameters

 

If the market for corporate control hypothesis holds: the firm will have the following clear characteristics...

 

1. If debt equity ratio of a firm is high, it implies that chances of the firm being taken over is low because an acquiring company may not be interested in bearing the huge debt burden of a target company which involves fixed interest obligations annually. A high debt equity ratio may also imply that the shares of the company are majorly in the hands of a few individuals (who may be the original promoters of the company) which may make it difficult for a bidding company to acquire shares from them.
2. If payout ratio of a firm is high, the chances of such a firm becoming a merger target is low because the existing shareholders are satisfied with the incumbent management and may not agree to sell out to a bidding company.
3. If total asset turnover ratio which is a measure of productivity of a firm is high then due to efficiency in operations, it makes the firm a weak merger target.
4. If size of company is big, then it acts as a deterrent to takeover bids for such a company
Similarly, if return on net worth of a firm is high which has been taken as a measure of its profitability, then it implies that the firm is running efficiently and chances of it becoming a merger target is weak.
5. On the other hand, the higher is the trading volume of a company in the year of acquisition, the greater are the odds of it becoming a merger target because high volume firms may imply lower acquisition transaction costs due to marketability.

Reference:

http://74.125.153.132/search?q=cache:J2z4JWR_8nwJ:www.eurojournals.com/irjfe_29_12.pdf+characteristics+of+target+firms&cd=13&hl=en&ct=clnk&gl=in

 

I hope the above helps...

Regards,

Expert:	Milan Vaishnav
Pos. Feedback:	99.6 %
Accepts:	965
Answered:	8/28/2009

Financial Advisor

Technical Analyst in Financial Markets -- Experience of more than 10 years in consulting