The Predictive Power of Managerial Tone: A Text-Based Analysis of Takeover Performance

We analyze the use of positive and negative language in financial disclosures and the ability of such language to predict long-term gains to the acquirers. In order to predict long-term takeover performance, we apply textual analysis to the MD&A Section of SEC filings for M&A deals taking place in the United States, between 2000 and 2016. Our overall findings reveal that a negative managerial tone has a strong negative association with takeover performance, whereas a positive managerial tone indicates managerial confidence in merger success, and hence reflects an enhanced takeover performance over an extended period. The evidence clearly rejects the hypothesis that a positive managerial tone is interpreted as managerial ‘overconfidence’ in a merger’s success. Our findings also affirm that the predictive power of a negative tone is far more pronounced than that of a positive tone and of any other sentiment word lists. Moreover, stock returns do not adjust to the textual description immediately due to investors’ general inattentiveness and inability to process subtle textual information more accurately. We also observe that the significance of predictive power of a negative managerial tone gains strength in the post-crisis period and for cross-border and for riskier deals due to the comparatively higher uncertainty associated with evaluating such deals on the basis of ‘hard information’.