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Title: CAPM-Based Company (Mis)valuations

Author(s): Olivier Dessaint, Jacques Olivier, Clemens Otto and David Thesmar

Publication Date: December 2017

Keyword(s):

Programme Area(s): Financial Economics

Abstract: There is a discrepancy between CAPM-implied and realized returns. As a result, using the CAPM in capital budgeting decisions - as is recommended in finance textbooks should have valuation effects. For instance, low beta projects are expected to be valued more by CAPM-using managers than by the market. This paper empirically tests this hypothesis using publicly announced M&A decisions. We show that takeovers of lower beta targets are accompanied by lower CARs for the bidder. Consistent with our hypothesis, the effect is more pronounced for larger acquisitions, higher growth targets, and private targets. Furthermore, low beta bidders are more likely to use their own stock to finance the deal. More generally, low beta firms are less likely to issue equity, and more likely to repurchase shares. These effects are not reversed in the long-run, suggesting that CAPM-using managers may be irrational, though this last test lacks power.

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Bibliographic Reference

Dessaint, O, Olivier, J, Otto, C and Thesmar, D. 2017. 'CAPM-Based Company (Mis)valuations'. London, Centre for Economic Policy Research. https://cepr.org/active/publications/discussion_papers/dp.php?dpno=12526