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The Hubris Hypothesis of Corporate Takeovers* Finally, knowledge of the source of takeover gains still eludes us. [Jensen and Ruback 1983, p. 47] * The earlier drafts of this paper elicited many comments. It is a pleasure to acknowledge the benefits derived from the generosity of so many colleagues. They corrected several conceptual and substantive errors in the previous draft, directed my attention to other results, and suggested other interpretations of the empirical phenomena. In general, they provided me with an invaluable tutorial on the subject of corporate takeovers. The present draft undoubtedly still contains errors and omissions, but this is due mainly to my inability to distill and convey the collective knowledge of the profession. Among those who helped were C. R. Alexander,

In an efficient market, the fundamental value of a security fluctuates randomly. However, trading costs induce negative serial dependence in successive observed market price changes. In fact, given market efficiency, the effective bid-ask spread can be measured by where "cov" is the first-order serial covariance of price changes. This implicit measure of the bid-ask spread is derived formally and is shown empirically to be closely related to firm size. FINANCIAL SCHOLARS AND PRACTITIONERS are interested in transaction costsfor obvious reasons: the net gains to investments are affected by such costs and market equilibrium returns are likely to be influenced by cross-sectional differences in costs. For the practical investor, the measurement of trading costs is painful but direct. (They appear on his monthly statement of account.) For the empirical researcher, trading cost measurement can itself be costly and subject to considerable error. For example, brokerage commissions are negotiated and thus depend on a number of hard-to-quantify factors such as the size of transaction, the amount of business done by that investor, and the time of day or year. The other blade of trading costs, the bid-ask spread, is perhaps even more fraught with measurement problems. The quoted spread is published for a few markets but the actual trading is done mostly within the quotes. This paper presents a method for inferring the effective bid-ask spread directly from a time series of market prices. The method requires no data other than the prices themselves; so it is very cheap. It does, however, require two major assumptions:1) The asset is traded in an informationally efficient market.2) The probability distribution of observed price changes is stationary (at least for short intervals of, say, two months).Given these assumptions, an implicit bid-ask spread measure is derived in Section I. It is investigated empirically in Section II.

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There is an impressive body of empirical evidence which indicates that successive price changes in individual common stocks are very nearly independent. Recent papers by Mandelbrot and Samuelson show rigorously that independence of successive price changes is consistent with an "efficient" market, i.e., a market that adjusts rapidly to new information. It is important to note, however, that in the empirical work to date the usual procedure has been to infer market efficiency from the observed independence of successive price changes. There has been very little actual testing of the speed of adjustment of prices to specific kinds of new information. The prime concern of this paper is to examine the process by which common stock prices adjust to the information (if any) that is implicit in a stock split. In doing so we propose a new "event study" methodology for measuring the effects of actions and events on security prices. Keywords: efficient markets, effect of information on stock prices, stock splits, dividend increases, market conditions, rate of return, effect of split(s) on return(s), residuals, average dividends, dividend "increases", and dividend "decreases".