Live or let die? An analysis of the decision to voluntarily liquidate the firm
Abstract
The positive wealth effects of voluntary corporate liquidations are well-documented which has led to the consensus that managers, acting in the best interests of shareholders, voluntarily liquidate when the piecemeal value of the firm exceeds its value in operation. While many reasons have been advanced in the literature to explain this phenomenon, the motivation underlying this extreme managerial decision remains unclear. The purpose of this study is to provide an indepth characterization of 61 voluntary liquidations completed during 1976 and 1991, and the situations their respective board of directors faced when deciding to dissolve the firm, to shed some light on the motivation underlying this event. A logistic regression analysis is used to relate specific firm characteristics of voluntarily liquidating firms, relative to their industry counter-parts, to predict when managers would adopt such an extreme measure. Additionally, the impact of these characteristics on shareholder wealth is examined, and the ex-post returns generated by the actual liquidation process are analyzed. The results indicate that relative to their peers, liquidating firms are characterized by significantly underutilized assets, as proxied by Tobin's q ratio, a high incidence of prior attempts to transfer the assets to higher valued uses, higher board ownership, and boards that are dominated by insiders and founding family members. They are not, however, any more or less profitable, leveraged, or liquid. The announcement gains to shareholders are found to be significantly higher the more underutilized the assets prior to liquidation, as proxied by the return on assets and Tobin's q, the higher the board's ownership stake, and when the board is dominated by insiders and founders. These findings suggest that the incentive structure of voluntarily liquidating firms is sufficient to closely align the interests of managers and shareholders. Consistent with this conjecture, the analysis of the liquidating distributions shows that the liquidation was indeed a positive net present value undertaking for the firm, and the ex-post returns were significantly higher than market benchmarks. Finally, the findings indicate that market participants correctly estimated the piecemeal value of the firm, upon the liquidation announcement, using a risk-adjusted valuation model.
Degree
Ph.D.
Advisors
McConnell, Purdue University.
Subject Area
Finance|Management
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