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This paper investigates effects of going-private buyout proposals made from 1974 to 1986 on the
value and default risk of convertible and nonconvertible debt and preferred stock securities.
Positive average price reactions are documented for public convertible securities and nonconvert-
ible preferred stock; many of these issues are redeemed as part of the buyout. Most nonconvert-
ible debt securities remain outstanding without renegotiation after buyouts. and minimal average
price reactions are documented for public nonconvertible debt. Following successful buyouts the
proportion of debt in the capital structure more than triples on average, and most rated debt
securities experience downgradings in Moodys ratings.
*We appreciate useful conversations with Linda and Harry DeAngelo and comments fro.n
seminar participants at Baruch College, Duke University, Harvard University, Yale University,
the Stanford Summer Accounting Workshop, and the Universities of Alberta, Chicago, Illino%,
Minnesota, Oregon, Rochester, and Texas. Particularly helpful suggestions were provided by
Gailen Hite (the referee). This research was supported by the Center for Research in Security
Prices, by the Institute of Professional Accounting, and by th: Executive Program Research Fund.
all at the Graduate School of Business of the University of Chicago.
We use the terms going-private buyout, going-private transaction, and buyout to refer to a
tran;action in which public common stock ownership is extinguished and incumbent managcmcnt
retains control (i.e., the firm is not purchased by another firm with different managers). There is
management equity participation in all our sample buyouts. We include convertibie and I~OIKO~-
vertible debt and preferred stock in the terms senior securities or securities and refer only to
common sock as stock.
*Most but not all of our sample buyouts involve leverage increases.
156 L. Marais et al., Effects of going prioare on senior securities
For 113 sample firms, there is 4.5 times as much private as public long-term
debt (measured by book values) before the buyout. In additicn, more than
80% (by book value) of this private debt is nonconvertible and has no
ummarized in Moods) restricting additional borrowing with
r seniority. Buyout-related borrowing increases the value-
e leverage ratio from 0.265 before the buyout to 0.894 after-
ase in leverage may aflectmore of the private than the public
nonconvertible debt, because a higher proportion of private debt (6% versus
ook value) remains outstanding without renegotiation after the
Bondholders Can Take a Terrific Beating, Heard on the Street, Wa11 Street Journal, June 1, 1987:
and Sandier. Owens-Illinois, in Going Private, Limits Right of Junior Bondholders to Gzt Money
Back, Heard on the Street, Will Srreer Journal, June 9, 1987. An example often mentioned in
these stories is the n&es issued by Revlon in the summer of 1985 in a defensive recapitalization.
Subsequently, management proposed a leveraged buyout of Revlon (the Wull Sweet Jourttul
carried a story on Qctober 2 cies&oing board consideration on October 1 of a management
buyout proposal). Closiltg prices of Revlon notes in the days surrounding October 1 and 2 are as
fQllOWS.
nurr 9,26 9/27 9/30 10/l iO/2 10/3 lO/4 10/7
Price 100.0 market 99.0 92.75 93.5 94.5 90.0 87.875
closed
Thus. k)vcr the seven trading day!; centcrcd on October 2. the notes lost 12.125%.
See Smith and Warner (1979) end McDanrell (1986) for a discussion and analysis of bond
covenants.
i\n exception is Masulis (1980). which documents significant average abnormal losses of - 0.3%
co~ve~tib!e bonds upon the announcement of debt for stock exchange oilers,
asses for holders of ~~,~co~vc~ti~~edebt without covenant protect against the
ti~a9 debt of equal or senior sIanding ( -0.843 ), No significa losses were
ers of convertible debt.
L. Marah et al., cts 01 going priuate ma sefh= securities 159
See Jensen (1986) for a discussion of the implications of debt for corporate efficiency and
Smith (1988) for related empirical evidence.
RIn addition to these sources, we used the WSY Index to obtain daily observations of tkc DC)N
Jones Bond ctive Data Corporation data bases and
MorUdal and Id Record for prices, face value. interest ts.
covenant pr conversion features of debt; Center fsa
(CRSP) daily stock returns files daily stock returns of NYSE, A
Pro statements and other publi e Capital Changes Rep0
for scripions of leverage cha Ption of securities. and changes in ownership struc-
tures.
160 L. Marais et al., Efects of going private on setlior securities
Dcfcnsivc ~U~VIJPproposals are made in response to a takeover bid or the threat of ore (as
e filing of form 13D, by published rumors in the financial press, or by the firms
aving rejected a takeover offer within the last year). Successful buyout proposals are those that
ulminate in a ~cccs~ful tender oKer. w that the stock of the buyout firm is
is c;mtrolled by the rn~~~~erne~~buyout group.
L. Marais et al., Effects of going prime on seuior securities 161
The leverage ratio is computed, using book values, as: (long-term debtj/(long-term debt + Iota!
stockholders equity). Prebuyout levera&_ ratios arc computed using data from the balance sheet
immediately preceding the buyout announcement; postbuyout ratios are computed from the
expected capitalization as disclosed in public buyout filings (such as proxy statements). We were
able to obtain sufficient data to compute leverage ratios for 113 of the 165 successful buyouts in
our sample.
Private securities are not registered with the SEC, whereas public securities are. We categorize
a debt security as protected if its description in M&Vs indicates there are covenants rcstricllng
the issuance of debt with equal or higher seniority. Francis (1988) provides evidence that the
information in Moodvs is a good description of the actual covenants. Specifically, she c
the Mooc$s descripiion with the actual indenture ements for 45 public industrial
and found that the covenants were reporte
classifcations that Franciss results apply to our sa jzublic debt securities.
Table 1
Characteristics of 290 going-private buyout announcements by 264 NYSE, AMEX, and NASDAQ firms, 1974-1985.
-
Panel A: 290 announcements made by 264#rms, selected without regard to capitul st; ucture
Defensive announcements are those made in response to a takeover bid or the threat of one (as indicated by the fifing of form 13D, by published
rumors in the financial press, or by the firms having rejected a takeover otler within the preceding year).
bSuccessful buyout proposals are those that lead to a merger or successful tender offer, so that the common stock is delisted and the firm is
controlled by the buyout group.
Market values are measured in millions of dollars at the most recent available price at least two days before the buyout-announcement date.
NY/AM means listed on the New York and American Stock Exchanges. Senior securities refer to public debt and preferred stock; for senior
securities, total market value is: (number of shares or bonds outstanding at the fiscal year-end preceding the buyout announcement) * (most recent
available price at least two days preceding the announcement). n is the number of events with sufficient available data for computing a market value; n
is less than or equal to the given total number of announcements. Mm, median*, and max are the minimum, median, and maximum of the n
market values.
164 L. Muruis et al., Efects of going prirwte 011 setoior securities
Table 2
Sample distribution of leverage ratio? before and after 113 going-private buyouts undertaken by
AMEX, NOSE, and NASDAQ firms. 1974-1985!
Tine ieverage ratio is computed as: (book value of long-term debt)j(book value of long-term
debt + book value of total stockholders equity). The ratio before the buyout is computed from the
balance sheet for the fiscal year end immediately preceding the buyout announcement. The ratio
after the buyout is computed from the pro forma capitalization information given in SEC filings
related to the buyout.
These are 30 NASDAQ firms and 83 AMEX and NYSE firms for which leverage measures are
available from proxies or other SEC filings related to the buyout, annual reports, and 10-K
reports.
x refers to the /erfel of leverage ratio before and after the buyout and to the c/rarrge in leverage
ratio upon the buyout.
*?The potential importance of the protection clause is illustrated by the 9.59, debentures of
Metromedia. On December 6, 1983 a management team proposed a management buyout, to be
financed by over $1 billion in bank debt and the issuance of new debentures that would rank
debentures. The price of these debentures dropped from 90% of par about
announcement to 85% of par two days after the announcement and 82% of
the announcement. After the buyout, both Moodys and .Y
s) and from BB + to B - (S&P). Both rating
the changes.
L. Muruis et al.. Efects of goittg prirwe ott setmr stwcrirres 165
Table 3
Capital structure of 113 AM and NADAQ firms before and after g~in~-~~~~te
011ts.
1974-1985.
Value-weighted (a) and equal-weighted (bj average book value of long-term debt, preferred stock.
and common equity as a proportion of long-term debt plus stockholders equity by security type.
Public securities are registered with the SEC, while private securities are not.
bProtection here means that Moodrs indicates there are covenants restricting the issuance of
debt with equal or higher seniority.
Other long-term debt includes deferred taxes, deferred investment tax credits. and other
b!ance-sheet items, and excludes unfur&d pension obligations.
Common stockholders equity includes the par value of common stock, additional paid-in
capital, and retained earnings, and excludes tmasury stock.
Table 4
Outcomes to holders of debt securities and preferred stock associated xith 113 goi~~~~~v~~~
buyouts by AMEX. NYSE, and NASDAQ firms. 1974-198s.
Book value of debt and preferred stock in thousands of dollars. followed by number of issues
in parentheses.
Fully redeemed for cash 98,138 (6) 1,052.480 (72) 1.500 (1) 3.790 (3)
Partially redeemed for cash 52,312 (5) 89.604 (6) 0 (0) 0 (0)
Exchanged for other securities 0 (0) 0 (0) 0 (0) 1,539 (1)
Remain outstanding without
renegotiationc 603,081 (23) 2.284.010 (227) 9.120 (1) 18,223 (3)
Total 753,531 (30) 3,429,197 (3061 10.620 (2) 23,551, (7)
Fully redeemed for cash 6,762 (1) 191,205 (11) 46,518 (1) 166,976 (9)
Partially redeemed for cash 0 (0) 10.512 (1) 0 (0) 0 (0)
Exchanged for other securities 0 (0) 132.W (2) 0 (0) 0 (0)
Remain outstanding without
renegotiation 278,083 (8) 94,818 (8) 0 (0) 1.4% (1)
Total 284,845 (9) 42X.535 (22) 46,518 (1) 168,424 (10)
Panel C: Preferred stock
Private Public
-~ -
Nonconvertible Convertible Nonconvertible Convertible
Fully redeemed for cash 7,749 (2) 0 (0) 68,218 (5) 20.518 (5)
Partially redeemed for cash 0 (0) 0 (0) 0 (0) 0 KU
Exchanged for other securities 0 (0) 2 (1) 0 (0) 0 (0)
Remain outstanding without
renegotiation 0 (0) 75,100 (2) 65.109 (1) 168,000 (1)
Total 7,749 (2) 75,102 (3) 133,327 (6) 188,518 (6)
Protection here means that Moodys indicates there are covenants restricting the issuance of
debt with egual to higher seniority.
bPtlblic securities are registered w&h the SEC, while private securities are not.
The timing of payments was rescheduled for one nonconvertible private security with a book
value of $3.1 million.
ecuri er
We estimate the wealth effects on the common stock and senior securities of
firms that armounce buyou
returns into estimates of
168 L. Muruis et ~1.. Eec 15 qf going prime m settior securiries
common stock our index model is the familiar market model, conditioned on
returns tc the CRSP equal-weighted NYS stock index for
EX securities and on the equal-weighted N index for
issues. For debt and preferred stock we use dex model
on both CRSP stock index returns and returns to the Dow Jones
nd Index.16 Our purpose in including the latter is to attempt to compensate
r interest-rate movements in our estimaics of abnormal returns to fixed
income securities.17
Owing to the infrequent trading of several of the senior securities in our
sample, our data contain numerous multi-day returns. We interpret each such
multi-day return as the sum of a corresponding set of unobserved single-day
returns, each of which is generated by the single-day index model. Therefore
the appropriate index model for a multi-day return has the same coefficients as
that for e-day return, but these coefficients multiply the sum of the
correspo dex returns. Similarly, the intercept coefficient multiplies n,
tL .-l..rnt:.3
U& UUI~UU~ Gf t he iR*dti- day return, instead of 1. The error term in the
equation for the n-day index model has n times the variance of the single-day
Single- or multi-index models for bond returns are less well established in the empirical
finance literature than those fo- stock returns. Several theoretical and empirical difficulties %i:jfh
such models are unresolved, e.g., the choice of an appropriate index and the potential nonstation-
arity of the beta coefficient. Our specification of the two-index model is justified on the pragmatic
ground that several alternative specifications. including the single-index market model and simple
mean adjustment, yield qualitatively identical conclusions. See Alexander (1980) and Elton and
Gruber (1987. ch. 19) for further details regarding index models for bonds.
There are several theoretical grounds for skepticism about our implicit assumptiull of
stationarity of the heta coefficient that measures the sensitivity of bond returns to movements in
the index portfolio of bonds. Elton and Gruber (1987, ch. 19) discuss one such consideration,
which implies that the bond beta equals the ratio of t:. ,Macauley) duration of the bond to that
of the index portfolio. This implies, in turn. that beta decreases with time and that the decrease
becomes steepei as the bond approaches maturity. The average time 10 maturity of our sample
bonds is over twelve years. A!1 but seven of our sample bonds have at least five years to maturity,
and for each of these the theoretically implied variation in beta over the relevant period is small
compared with its standard error of estimation. For the remaining seven short-maturity bonds
the time io maturity ranges from seven to 28 months. None of these seven bonds experienced an
abnormal return greater than 0.9% in magnitude at 7 buyout announcement. and no associated
r-statistic exceeds 0.9 in magnitude. Moreover, a replication of our event study using a simple
mean adjustment instead of the bond-index mod4 does not materially alter these statistics fgr the
individual securities involved or our aggregate conclu ions.
tiOur treatment of multi-day returns for sparsely traded securities implicitly assumes that the
prosess that governs when trades occur is indepetdetrt of the underlying return-generating process.
(The same assumption underlies the Scholes and Williams (1977) procedure for correcting
estimates of beta for nonsynchronicity.] One concern about this assumption is the possibility that
circumstances that trigger trading also tend to have economic content that drives unusual returns.
eriod the observed returns arc not necessarilv drawn from an
g returns process. as we assume. We make &is observation& 3s
do not have an econometric scutiun.
Table 5
Summary statistics fm d least square5 estimate5 of index models for common stock, debt,
and preferred stock se of AMEX. NISE. and NASDAQ firms proposing going-private
transactions, 1974-1985.
The index model for the jth common stock or security is
~tra,rl,,+P,r,,,+~,~d,phr+~,/I~
where 5, is the return to the j th common stock or security;
AMEX market return for fisted stock and the equal-wei NAS~AQ market return for
NASDAQ stock: rh, is the return to the Dow Jones bond index: d, is a dummy variable equal to
0 if security j is common stock and 1 otherwise; a,, fi,, and /I$ are intercept and slope
coefficients: q,, is the duration of 5, (i.e., v,, = 1 for a single-day return): and P,, is an error term.
-- - --
Quartiles
Security type &VO Median Range 0.25 li.75
Punel A : fi
NYSti and AMEX common stock 197 0.85 - 0.26 to 3.59 US4 1.14
NASDAQ common stock 90 0.63 - 0.19 to 2.34 0.34 1.19
Convertibl, debt 30 0.31 -0.19 to 1.61 0.18 0.47
Convertible preferred stock 24 0.56 - 0.08 to 1.17 0.39 0.75
Nonconvertrble debt 68 0.06 - 0.98 to 0.49 - G.05 0.21
Nonconvertible preferred stock 12 0.30 -0.07 to I.11 0.13 0.39
Pmel B: 8
Convertible debt :; 0.13 - 0.68 to 1.47 - 0.03 0.35
Convertible preferred stock 0.31 - 1.24 to 5.49 - 0.04 0.96
Nonconvertible debt 68 0.39 -0.G to 2.70 0.17 0.70
Nonconvertibie preferred stock 12 0.31 -0.23 to 1.23 0.04 0.64
Punei C; R (unudjusted)
NYSE and AMEX common stock 197 0.08 0.00 tbzt3.34 0.03 0.13
NASDAQ common stock 90 0.03 0.00 to 0.28 0.01 0.07
Convertible debt 30 0.05 0.00 to 0.25 0.02 0.11
Convertible preferred stock 25 0.10 0.01 to 0.26 0.07 0.14
Nonconvertible debt 68 0.06 0.01 to 0.40 0.02 0.12
Ncnconvertibie preferred stock 1& 0.02 0.W to 0.17 0.01 r)O5
with an associai
Table 6
Abnormal returns for public securities at 80 announcements 01 going-private proposals by 73 AMEX, NYSE, and NASDAQ firms, January 1974 to
November 1985.
-_
Abnormal returns ,--statiHics
- -___
Quartiles Quartiles
No. of
announcements Mean Median Range 0.25 0.75 Aggregatea Median Range 0.25 0.75
rl
w
174 L. Marais et al., E$pcts oi going privute on senior securities
iions yields a r-statistic of 2.44, while assuming that aI correlations equal one
yields 1.13.) Thus a selected representative debt security may not yield the
same conclusion about abnormal returns as an anaiysis of a firms entire
portfolio of public debt issues.
Our econometric procedure provides r-statistics far the abnormal returns
associated with the subperiods of interest, thus standardizing them for differ-
ent residual variances and for varying numbers of estimation-period ob-
servations. Under the nukl hypothesis of zero announcement effects the
distributions of these ts still differ cross-sectionally because of their varying
degrees of freedom. To facilitate cross-sectional aggregation of evidence from
our sample, we further standardize each t-statistic by dividing it by its
theoretical standard deviation under the null; we refer to the standardized ts
as z-statistics. In table 6 we also report aggregate z-statistics equal to the sum
of the individual zs divided by the square root of the number of terms. Under
the null hypothesis both the individual and the aggregate z-statistics are
distributed approximately as standard normal variables.
Panel A of table 6 presents results for the 6%day period preceding the
pearance of t e buyout announcement in the Wall Sireet Journal. In this
preannouncement period commolL 7 stock, convertible debt, and convertible
referred stock earn abnormal returr-1?3averaging 9%, 3%, and 12%. respec-
vely. Under the null hypot esis of no abnormal performance for any an-
sample, the corresponding individual z-statistics should
om sample from a standard normal distribution. In addi-
ctional distribution, we report an aggregate z-statistic for
The event study reported in table 6 was replicated for all 286 stocks with sufficient returns
data. While results for this larger sample were very similar to those reported in table 6, it is not
clear whether such results would be observed for samp!es drawn from other time periods.
L. Marais et al., Efecrs ofgoing prioore on settior securities 175
Table 7
Abnormal returns and conversion premi ms for 39 convertible debt and convertible preferred
stock securitiesa at announc tnents of going-private Buyouts. 1974 1985.
-_
Convertible debt Convertible preferred stock
No. of securities 21 18
No. of firms 19 15
Abnormal returnb
Average 0.06 0.09
Range - 0.008 to 0.33 - 0.09 to 0.26
Median 0.04 0.05
Conversion premiumC
Average 0.09 0.18
Range - 0.88 to 0.70 - 0.04 to 0.50
Median 0.13 0.17
Regression of abnormal returns
on positive conversion premiums
.\D2 ~~uj~Skd)
/*A, 0.68 0.60
Slope coefficient 0.53 0.55
Standard error of slope 0.10 0.12
No. of observations 15 16
a We were able to find a cash or cash-equivalent offer price as well as conversion terms for 39
securities of 30 distinct firms. (Four firms have both convertible debt and convertible preferred
stock in the subsample.)
bAbnormal returns are computed using the procedures described in the appendix.
The conversion premium for a given security is computed as: ln[(number of shares of common
stock into which the security is convertible*cash oiler price to common stock) + (most recent
trade price)].
ZIt doe5 not appear that these different reactions are associated with leverage changes. The
positive bond reaction is associated with a leverage increase of 0.597 and a bond-rating decrease
3; the nr;ative reaction is associated with a leverage increase of 0.093 and a
bond-rating decrease ft.xn Ba2 to B2.
kinder the null hypothesis that the probability is 3.5 that a buyout prr~pnsmlwith ;i positive
return will succeed, a binomial test based on three successes out of 19 proposals yields a =-statistic
of - 2.98. sigtificrnt at bettec than the 0.05 ievel.
18C L. Marais er al., ETfects of poittg privure ott settior securilies
For example, s Services had completed a debt-for-stock exchange offer that replaced
one-third of its out ing common stock with deh about a year before its 1982 buyout offer. At
the buyout a~~ou~ceme~t, the debt issues . .. the exck offer experienced a - 0.053 return (the
stock return was 0.?6.
nea debenture, eventn
43.5. Abnormal returns after buyout announcenzents
After the announcement period., there are generally insignificant abncrmal
returns to common stock and public securities in successful buyouts. Although
both posittile and negative abnormal returns are documented in panel C of
table 6, the only aggregate t-statistic that that approaches significance at
conventional levels is that for common stock (1.54), and the median z-statistic
for common stock (0.23) does not indicate signiicance. These results are
consistent with the QW that ultimately successful buyout proposals are
followed, on average, by minimal revisions in expect;ations. In contrast, almost
uniformly negative abnormal returns are observed in the period following
buyout proposals that ultimately fail (panel D o f table 6).* The largest sample
size in this panel, however, is 15, and most sample sizes are less than 10, so
these results should be interpreted cautiously.
Given that the overall success rate of the 290 buyout proposals in our sample is about 55%
the asymmetry of the results in panels C and D of table 7 may appear anomalous. Partitioning the
preannouncement- and announcement-period abnormal rettims to common stock by ultimate
success cr failure yields no evidence that the market is able to discriminate the two classes of
events at the time of the announcement. Nevertheless, the outcomes that we label success or
failure are not a simple dichotomy. fn particular, the information content of falure varies
substantially depending, for example, on whether the buyout failed because of a competing
outside bid.
26The covenant protection of private debt may differ systematically from that of public debt.
Although they do not consider private-debt agreements explicitly, Smith and Warner (1979) report
that their analysis suggests that private debt has both higher risk and more detailed covenant
restrictions than does public debt, Leftwich (1983) reports that variations from generally accepted
accounting principles are found more frequently in private debt covenants, and that these
variations generally restrict managements ability to choose accounting rules that favor stockhold-
ers over bondholders. Our own evidence on differences in covenants for public and private debt is
c<Mned IO the covenant protecting against the i~~ance of debt cf equal or greater seniority. AS
indicated in table 30 of 306 (about 10%) of our sample private ~o~co~v~~~tib~edebt issues have
the protection covenant, and 9 of 22 public debt issues (about 40%) have this covenant.
182 L. Marais et al., Efects oj going privare on senior securities
Section 4.3 documented bond-rating decreases for six firms with negative
abnormal returns, and one fir with positive ahnormal returns, to noncor-.ver-
tible debt following buyout ~~~o~nce~nen~.s. expand the
analysis to ir~iude all sibt,& sciur oorjys. The
ose is to i~vcstigate w ~yo~t-related increases in leverage impair
L. Marais et al., Effects oj going pricate on senior securities 183
It is not clear how Moodys determines default risk. Previous research [e.g., Belkaoui (1983)]
has documented that linear models that include leverage measures and subordination status havs
substantial explanatory power for bond ratings. To the extent that Moodys decision rules are
influenced heavily by increases in leverage ratios, rating decrcases following leveraged buyouts
seem highly likely. Some support for this conjecture is found in Wall Strser Journal stories
announcing rating decreases for our sample securities, Moodys officials are often quoted as
referring to the buyout-related ieverage increase as a primary reason for the change.
28We do not investigate timing issues, for example, whether bond-rating change announcements
fo,!owing major ieverage increases r&ax ii<w inf~i~ia*rion about the effects of the leverage
increase. The purpose of our analysis is to supplement the results obtained in :he e Jent study in
section 4.3. For a test of stock-price effects of bond-rating change announcements, sr.e f-fohhausen
and Leftwich (1986).
29None of the sample firms that co,mpleted a buyout ad preferred stock with a Moodys rating
in the month preceding the buyout announcement. Five f the firms that announced an unsuccess-
ftiabtiyoilt propC& had preferred stock [uiPe nCinconV ribie and four conver?ib]e pferrc+ c@+
Au,$ iii i6,id) iJi& by MGX!~S zs Of the montb prece e at-mouncement. No preferred stock
ratings changed between the buyout-announcement and buyout-resolution dates.
184 L. Marais et ul.. Effects of going priLBate on senior securities
Table 7
Transtion matrix of Moodys debt ratings before and after 33 successful going-private
transactions. 1974-1985.
@ells above the diagonal are downgrades; the diagonal is indicated in boldface.
Revised rating
Prior rating Bal Ba3 Ba3 Bl B2 B3 Total
Aa 0 0 0 0 0 4
Al 0 0 0 ii 0 0 0
A2 0 1 0 0 0 0 1
A3 c) 0 9 0 0 0 9
Baa1 1 0 1 0 0 0 2
Baa2 0 0 3 0 1 0 4
Baa3 0 0 1 0 1 0 2
Bal 0 0 0 0 0 0
Ba2 0 ii 0 1 1 0 2
Ba3 0 0 0 0 1 1 2
Bl 0 0 0 0 3 3
B2 0 0 0 0 : 1 6
B3 0 0 0 0 0 1 1
Total no. of
securities 1 1 13 5 9 6 36
Revised rating
Prior rating Baa1 Baa2 Baa3 Bal Ba2 iia3 Bl B2 B3 Total
-__
Baa1 0 0 0 9 0 4 0 5
Baa2 0 0 0 0 9 1 0 1
Baa.3 0 0 0 0 0 1 0 1
Bal 0 1 0 0 0 0 0 1
Ba2 0 0 7 0 0 0 0
Ba3 0 0 0 0 0 0 0 ;
B: 0 0 0 0 1 0 1 2
Total no. of
securities 1 0 0 1 7 0 1 6 1 17
Prior ratings are taken from Moodys Bond Record one month before the buyout announce-
ment. Subsequent ratings are taken from Moodys Bond Record in the earlier of the resolution
date (the date of shareholder approval, completion of tender offer. or common-stock dehsting) and
the most recent month for which a bond rating is available.
Table 9
Summary of Moodys debt-rating changes for 146 debt securities of AMEX. NYSE, and
NASDAQ firms making going-private buyout proposals and for all rated securities, 1974-1983.
I-
Pane/ A : Afoo~vs rating changes Pr I CS debt securities of jrms making going-private proposals
Number of Moodys
rated securities Number of changes
Year of Rating
announcement Buyout sample Totalb Upgrades Downgrades change score
The proportion downgraded is the fraction with rating downgrades. The sample includes no
rat+ upgrades.
This is the total number of debt securities rated by Moodys as of June in a given year.
In a given year, each upgrade (downgrade) is assigned a score of + 1.0 ( - 1.0). regardless of the
number of categories across which the rating is changed The sum of the scores in a given
year is divided by the number of debt securities with Moodys ratings as of June of that year.
year for a debt security is assigned a score of - 1.0 (+ 1.0). A security with no
rating change during the year is assigned a score of 0.0. The total score for all
rated debt securities is divided by the total number of ebt securities with
Moody. .atings as of June of that year. A score is regorte
9 for each year in which buyout p posals were annou
debt ratings are available before a after the buyout ahi
annual scores are then weighted by the proportion of all
whose firms annouuced buyouts during that year. The result
indicates a slight ten
186 I.. Marais et al. Eflects of going p: ;wte on senior securities
We also collected the ratings of debt securities of firms which announced unsuccessiui buyour
proposals. These ratings were largely unchanged. Only one convertible and one nonconvertible
debt security had a rating downgrade, and the raiing was reduced by only one rating category in
each case.
L. Marais et al, Eflects of going private on senior securities i87
view that bond values were generally reduced during our sample period
g0ingprivate transactions. hether this evidence would generalize to the large
buyouts of 1986--1988rem s an open question. Additional analysis produces
weak evidence, ,within our sample of nonconvertible debt, that more negative
abnormal returns are associated with successful buyout proposals d propos-
als followed by bond-rating decreases. (Our sample is characteriz by perva-
sive downgradings of Moodys debt ratings following successfu! buyout
proposals.
A ix: a s es
where
Rj, = return to security j between the close of trading on trading day t - k
and day t; if k > 1 this is a multi-day return,
'j* = closing price plus accrued interest (in the case of bonds) or closing price
(in the case of preferred stock) for security j on day t; if no trade
occurred on day t then a bid--ask average is used, if available,
Cj, = coupon or dividend payment to holders of record of security j during the
interval between day t - k and day t.
Because most senior securities do not trade publicly every trading day, many
of the returns computed as in (X.1) cover several trading days.
-x----=x X X * Security 1
trades
Security 1
returns
0-x -x X X-a
Security 2
R 24 R21 R 29 returns
Trading
1 2 3 4 5 6 7 8 9 days
Fig. 1. Illustrative price series and overlapping multi-day returns for two hypothetical securities.
x indicates a price observation: R,, denotes the observed return to secur+ _i at time t. The
estimation period begins on day 1.
If the estimation data for diKerent securities of the same firm were contem-
poraneous and included no multi-day returns, the required variances and
covariances could easily be estimated from lthe parallel time series, as is done
in the well-known seemingly unrelated regressions procedure. With tstimation
data that include multi-day return observations, such as those depicted in fig.
1, the estimation problem is more complicsted. Although the returns of the
two securities in the figure overlap, they are nonsynchronous. For example, the
first return of security 1 ( R12) overlaps the first return of security 2 ( RZ4) by
one day. The second return of security 1 (R,,) overlaps R,, by two days and
R 27, the second return of security 2, by one day. These overlaps can be
exploited to estimate the covariance between the two series.
We use the following generalization of the estimator used in the seemingly
unrelated regressions procedure. 33 Define matrices Iii containing the number
of days by which return observations for the ith sectirity overlap with return
observations for the jth security. In the two-secu+ity example shown in fig. 1,
for example, the (2,3) cell contains the number c8f days b!l which the second
return observation for security 1 overlaps the t:tird return observation for
security 2, while the (3,2) cell contains the overla:3 (in days) between security
ls third return and security 2s second return. If a return lo security 1 does
not wrnrln
.,,,,p a given return to security 2 at all, the corrtSpunding element of
Eij equals zero. Zjj need not be a square matrix because diKerent securities
can have different numbers of available returns.
In the special case of a single security i, each return tiverla s itself for its
entire duration. Tht result is a diagonal 0s~ elements are sim
The covariancc estimator described here is unbiased and fairly easy to compute: it is not the
maximum-likelihood estimator, however, and may he ineftkient.
190 L, Marais et al., Effects of going private on senior securities
(A-2)
where
We require that Di,be at least 12. In several cases the estimation periods used
in the WLS estimation of the index models do not overlap sufficiently for two
securities of the same firm to meet this requirement. In these cases we reduce
the preannor Icement subperiod to one month as described in section A.2.
This procedure provides estimates of the single period, contemporaneous
disturbance covariances for all of a given firms securities. Marais (1986) shows
in detail how to compute the derived estimates of the variances and covari-
antes between the multi-day abnormal returns for related securities, consistent
with the description in the first paragraph of this section.
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nkiinmal ______ ._ -a rnnrtfnli~
r,=ta~mrto ..--__ 1 gf ---&_.lj
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l.-lA. )I._ UO, +~~~.oA
l suvIY
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