Why Do Companies Go Private and Use LBOs ?

Abstract

This study investigates the driving forces behind going private and their impacts on the tendency to take LBOs. Companies with high Tobin's Q and low cash flow tend to remain in the public markets, which only weakly supports the free-cash-flow hypothesis. Furthermore, we find that firms with lower market-adjusted returns but high growth rate of sales are more likely to go private. It reveals that undervaluation is an important determinant in going private decision. In addition, we find that firms with lower financial slack, higher idiosyncratic risk, lower CER but high growth rate of sales tend to go private. These results, respectively, imply that information asymmetry and company-specific risk also motive firms to go private. In addition, by separating all samples into two groups, pre- and post- Sarbanes-Oxley Act, we find that firms with higher tax liability are more likely to go private after the 2002 Sarbanes-Oxley Act. Furthermore, given the decision to go private, companies with low agency cost, less strong background, less tax liability and higher idiosyncratic risk are reluctant to engage in LBOs. It is also found that RLBO with low Tobin's Q, high cash flow and low accounting profitability tend to perform better after returning to public market again, which confirm that LBO is a mechanism to resolve undervaluation and agency problem.