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INSTITUTIONS, THE THEORY OF THE FIRM AND VALUE CREATION:

EVIDENCE FROM ACQUISITION ACTIVITY

Anju Seth

Pamplin Professor of Management and Head

Department of Management

Pamplin College of Business

Virginia Tech University

2007 Pamplin Hall

Blacksburg, VA 24061 (0233)

Tel: (540) 231-635

Fax: (540) 231-3076

Email: aseth@vt.edu

Protiti Dastidar

Assistant Professor, International Business Department

School of Business, George Washington University

2201 G Street, Funger Hall 401Q

Washington, DC 20052

Tel: (202) 994-1219

Fax: (202) 994-7422

Email: dastidar@gwu.edu

May, 2009

DRAFT – PLEASE DO NOT CIRCULATE

Names are in reverse alphabetical order and both authors have contributed equally.

Corresponding author: Anju Seth. We thank Xavier Castaner, Mike Peng, Lihong Qian, Roger

Smeets, Rajshree Agarwal, seminar participants at the Institute for Financial Management and

Research in Chennai, HEC Paris, WZB Berlin and at the Academy of Management Meeting

Milan for comments. We would also like to thank Lihong Qian and Paolien Chen for expert

research assistance.

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INSTITUTIONS, THE THEORY OF THE FIRM AND VALUE CREATION:

EVIDENCE FROM ACQUISITION ACTIVITY

ABSTRACT

We investigate the features that distinguish cross-border acquisitions from U.S. domestic

acquisitions and the explanations that underlie these transactions. We find systematic differences

across these types of acquisitions. Our results indicate that both US-foreign and foreign-US

cross-border acquisitions are primarily driven by synergy, but the evidence is mixed for U.S.

domestic acquisitions. US-foreign acquisitions indicate evidence of bounded rationality but not

of managerialism, whereas US-US and foreign-US transactions appear to be characterized to a

greater extent by managerialism. The institutional contexts of the acquiring and target firm

appear to influence the extent of value creation in acquisitions as well as the gains to the

participants in such transactions.

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INSTITUTIONS, THEORIES OF THE FIRM AND VALUE CREATION: EVIDENCE

FROM ACQUISITION ACTIVITY

Why do firms expand, and what are the economic consequences of this expansion?

Central issues in the theory of the firm relate to organizational scale and scope. Penrose‘s

influential work on the theory of the growth of the firm represents the foundation of

investigations of these issues in the strategy field that are primarily focused on the domestic

context. In parallel, the ―theory of the multinational firm‖ (Caves, 1971; Buckley & Casson,

1976), has explored the rationale for the scale and scope of the firm in the context of global

expansion. Both literatures predict economic efficiencies from scale and scope decisions that

internalize transactional frictions to create economic value. Other theories of the firm make

different predictions. In agency theory, if adequate constraints do not exist to curtail managers‘

discretion to pursue their own interests as opposed to those of the firm‘s shareholders,

scale/scope decisions may destroy economic value. Alternatively, the behavioral theory of the

firm highlights managers‘ cognitive limitations. In the presence of bounded rationality (Simon,

1955), scale and scope decisions may merely reflect managers‘ mistakes in estimating synergies

from growth opportunities and accordingly may or may not yield economic value.

These observations motivate interesting questions. What is the relative explanatory power

of each of these theories for domestic expansion? For international expansion? The very context

of international expansion brings into sharp focus institutional issues that impact doing business

across international borders, issues that the context of domestic expansion downplays. Here, we

use the term ―institutional context‖ to refer to the systems of formal laws, regulations, and

procedures, and informal conventions, customs, and norms, that shape economic activity and

behavior (North, 1991). Institutions influence the magnitude of transactional frictions that yield

internalization benefits to firms, the governance mechanisms that limit managers‘ discretion to

pursue their own self-interest at the expense of shareholders, and the informational context that

limits the effectiveness of managerial action (McMillan, 2002). But, do the institutional

characteristics of cross-border expansion make a material difference in explaining scale and

scope decisions and their value consequences? The purpose of this paper is to explore these

questions in an empirical context. Clearly, such an exploration has the potential to extend

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knowledge not only in the strategy and international business fields but also other areas of

inquiry such as economics and finance that investigate the theory of the firm.

This paper uses evidence from the acquisition activity of US firms to shed light on these

issues. Since acquisitions represent specific transactions that alter the scale and scope of the

firm, and (as we shall demonstrate) have measurable consequences that correspond to different

theories of the firm, they represent a particularly fruitful setting for such an exploration. Our

research approach examines the evidence for three empirically testable hypotheses that

correspond to the theories of the firm as outlined above.

First, the synergy hypothesis (deriving from efficiency-oriented theories of the firm)

suggests that changes in the scale and scope of the firm via acquisition activity reflect

entrepreneurial attempts by managers to create economic value in the presence of transactional

frictions in product, input or geographical markets. Another necessary feature of the institutional

context is that informational difficulties are not so severe as to preclude managers from gauging

these frictions with reasonable accuracy, so that the firm may effectively internalize these

externalities.

Second, the managerialism hypothesis argues that since acquisition activity carries

private benefits for managers, it merely reflects their attempts to enrich themselves at the cost of

shareholders. The managerialism hypothesis is a specific variant of agency theory: it assumes

not only that managers have the motive to pursue their own self-interest but also that the

governance mechanisms in the institutional context are not powerful enough to deter this

behavior.

Third, the bounded rationality hypothesis (associated with the behavioral theory of the

firm) proposes that managers undertake acquisition activity intending to create value but may

erroneously judge the potential for economic gains. The bounded rationality hypothesis assumes

complexity, uncertainty and information asymmetry between transacting partners in the

institutional environment. Clearly, in the absence of these contextual conditions, managers are

likely to make efficient scale and scope decisions irrespective of their cognitive limitations.

Of particular interest in our setting is that each hypothesis may well have differential

explanatory power for acquisitions that represent different institutional contexts: US acquisitions

of domestic firms, US acquisitions of foreign firms and foreign acquisitions of US firms.

Underlying this conjecture is the premise that the assumptions of each hypothesis (and associated

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theory of the firm) regarding the incentives and constraints on managerial decision making are

likely to vary across different institutional contexts.1 For example, the synergy hypothesis

assumption of frictions in asset, input and geographical markets may plausibly characterize the

institutional context of cross-border acquisitions to a greater extent than domestic acquisitions.

Or, information processing difficulties may be more pronounced in the institutional context of

cross-border acquisitions than in domestic acquisitions so that the bounded rationality hypothesis

may be more relevant as an explanation for the former. Or, the effectiveness of governance

mechanisms may systematically vary in different institutional contexts, so that the managerialism

hypothesis may have differential explanatory power. Further complicating matters is that

different explanations for acquisitions are likely to co-exist in any institutional context.

For our research setting, we combine two databases (SDC and DataStream/Worldscope)

to create a sample of 1,224 acquisitions that represent expansion activities in a variety of

institutional contexts in the time period 1990-2003. We identify three sub-samples that represent

distinct institutional contexts for acquisition activity: 946 domestic transactions (US acquirer/

US target), 101 transactions involving a US acquirer/ foreign target and 177 transactions

involving a foreign acquirer/ US target. The specific research questions that we investigate are

as follows:

1) Are US acquisitions of domestic firms/ US acquisitions of foreign firms/ foreign acquisitions

of US firms primarily characterized by synergy, managerialism or bounded rationality?

2) Are there systematic differences in the explanatory power of synergy, managerialism and

bounded rationality for domestic and the two different kinds of cross-border acquisition

transactions?

A novel feature of our study is the development of a methodology that quantifies the

relative importance of the three different explanations for acquisition activity, which we then use

for our comparison of the three institutional contexts. Our methodology builds upon prior work

by Berkovitch and Narayanan, 1993 and Seth, Song and Pettit, 2000. These studies examine the

prevalence of different hypotheses in a sample of 330 US tender offers from 1983-1988, and 100

acquisitions of US firms by foreign bidders from 1981-1990. While both studies show that

different explanations co-exist in their samples, neither study quantifies the relative importance

1 Prior research shows that countries differ in their institutional and corporate governance contexts (e.g., Inkpen et

al. 2000; Gedajlovic and Shapiro, 1998; Short, 1994).

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of the explanations within a specific institutional context nor attempts a comparison across

different institutional contexts, the focus of our interest here. In effect, a systematic comparative

analysis of the explanations underlying acquisition activity in a variety of cross-national

institutional contexts has not been hitherto conducted, nor have the implications for the

explanatory power of associated theories of the firm been identified.

In addition, even within specific national contexts, the institutional environment since

time periods covered by these studies may well have changed since the time period covered by

these studies. The recent economic crisis in the US has renewed the debate on the comparative

efficiency of governance systems that prevail in different economies. In light of the recent

events and given the critical importance of the issue for managers as well as public policy

makers, it is particularly important to re-evaluate the explanatory power of the different theories

of the firm and explore the relative merits of the governance system that prevails in the US

relative to those in other institutional contexts. Since we explore the relative prevalence of

different explanations of firm growth, our study will shed light on this issue.

The paper is organized as follows. We first review the literature that informs our study.

The following section develops our theoretical framework and outlines our hypotheses. We next

describe our research design and methodology and present our results. The final section provides

a discussion of the results.

LITERATURE REVIEW

Explanations for Domestic and Cross-Border Acquisitions

The literature suggests three hypotheses for takeovers that correspond to efficiency-

oriented theories of the firm (the synergy hypothesis), the behavioral theory of the firm (the

bounded rationality hypothesis) and agency theory (the managerialism hypothesis) respectively.

In this section, we describe these hypotheses of takeovers and their underlying theoretical

foundations, and show how each of these hypotheses may not only be relevant but also

differentially relevant to domestic versus cross-border acquisitions. We also summarize the

existing empirical evidence vis-a-vis each of the hypotheses in the domestic and cross-border

contexts.

Efficiency-Oriented Theories of the Firm and the Synergy Hypothesis

The synergy hypothesis proposes that acquisitions take place when the value of the

combined firm is greater than the sum of the values of the individual firms (Bradley, Desai &

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Kim, 1988; Seth, 1990a). Synergistic acquisitions attempt to create economic value via

complementarities between the acquiring and target firm. These complementarities can arise for

a variety of reasons, including increased efficiency through economies of scale or scope,

increased market power, gains from removing incompetent or entrenched target management and

risk reduction.

Underlying the synergy hypothesis is the theory of firm growth proposed by Penrose

(1959). Penrose described the firm as a bundle of productive assets and resources, and proposed

that the long-run profitability of the firm is closely associated with the growth in its productive

opportunities. In order to efficiently use excess capacity in its tangible and intangible assets and

avoid diminishing marginal returns in its core product or home markets, the firm seeks new

products and markets wherein these assets can be productively utilized. So, firm growth yields

economic gains. The theory of the multiproduct firm (Panzar & Willig, 1981; Teece, 1980) and

the theory of the multinational enterprise (Caves, 1971; Buckley & Casson, 1976; Rugman,

1982; Hennart, 1988) highlight additional considerations: the firm‘s unique and specialized

resources are not costlessly appropriable by other firms, and there exist market frictions that

prevent the firm from trading its stock of valuable ―excess‖ resources. Internalizing these

frictions to more efficiently utilize the firm‘s specialized resources yield synergies.

This discussion indicates that domestic and cross-border acquisitions can realize

synergies from economies of scale and scope in the presence of factor market frictions. An

acquisition may create the potential to transfer valuable intangible assets, such as knowhow,

between the combining firms (whether domestic or internationally) in the presence of

transactions costs that lead to failure of factor markets. Gains may also be realized from ―reverse

internalization‖: firms acquire skills and resources that are expected to be valuable in their core

products (in the case of domestic acquisitions) or in their home markets (in the case of cross-

border acquisitions).

A related source of synergistic gains in both domestic and cross-border acquisitions

focuses on demand characteristics in end-product markets rather than failures in input markets.

In order to efficiently utilize their ―excess‖ resources for long-run profitability, firms will invest

in new businesses or invest abroad when growth in their core business or their home country is

limited i.e., for market development opportunities rather than internalization of markets for

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managerial and technological resources. Note that in the international context, an additional

condition for this source of gains to hold is the presence of trade barriers which restrict exports.

The potential for acquirers to realize efficiency improvements in targets with high levels

of agency problems by taking action to resolve these problems is a source of synergistic gains for

both domestic and cross-border acquisitions. In the case of domestic acquisitions, an acquiring

firm‘s specialized expertise in mitigating the agency problem underlies such value gains (Slutzky

and Caves, 1991). In the case of cross-border acquisitions, such gains could arise if agency costs

vary systematically across countries (as a result of variations in the effectiveness of governance

systems) and foreign acquirers have specialized expertise (relative to domestic acquirers) in

reducing agency costs in domestic targets (see, for example, the discussions by Roe and Gilson,

1993). Of course, firms may be reluctant to undertake acquisitions in an institutional

environment characterized by weak governance systems with corresponding difficulties in

property rights.

The above discussion suggests that the synergy hypothesis is likely to be relevant for both

domestic and cross-border acquisitions. However, is it differentially more relevant to each type

of acquisition? First, we note that given institutional differences in the international context,

some sources of synergy may be specific to only cross-border acquisitions. The international

business research shows that consumer tastes and preferences, technologies, factors of

production, and institutional framework vary across countries (Bartlett and Ghoshal, 1989;

North, 1990; Prahalad and Doz, 1987). These differences in turn can have an important impact

on firms‘ growth opportunities and strategies (e.g., Peng, 2003; Ricart, Enright, Ghemawat, Hart,

& Khanna, 2004). Using real options theory, Tong et al. (2008) show that country and industry

effects play an important role in explaining the variation in the value of growth options of firms.

The prior literature has also highlighted financial synergies that may accrue to cross-

border acquisitions (but not domestic acquisitions) that arise from institutional issues that create

frictions in capital markets. Specifically, if national capital markets are segmented due to capital

controls, information asymmetries and/or exchange controls, it may be possible for multinational

firms to realize the benefits of lower costs of capital, thereby creating shareholder value (Aliber,

1970; Lessard, 1973). Errunza, Hogan, and Hung (1999) find that investors can achieve

international diversification benefits by adding MNCs and ADRs to portfolios of domestically

traded securities.

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At the same time, institutional issues can create higher costs for cross-border acquisitions

relative to domestic acquisitions. Greater institutional differences between two countries can

create increased conflict between acquirers and targets and thereby reduce the magnitude of

expected synergistic gains. Stahl and Voight (2008) found that cultural differences affect

synergies between acquirer and target and shareholder value. Very et al. (1996) found that

acculturative stress was more likely to occur in cross-border acquisitions than in domestic

acquisitions, which can be disruptive and a key obstacle to integration and thereby reduce their

economic value. Chatterjee et al. (1992) found a strong inverse relationship between perceptions

of cultural differences and shareholder gains from acquisitions, but in contrast, Chakrabarti et al.

(2009) find that long run returns in cross-border M&A are positively related with cultural

distance. Monitoring a large firm operating in multiple markets with different accounting and

financial regulations and in a different governance environment may pose difficulties, further

interfering with obtaining synergies from cross border acquisitions.

In summary, differences in institutional context between domestic and cross-border

acquisitions may suggest both greater magnitudes of potential synergies in cross-border

acquisitions as well as greater difficulties in realizing these synergies. As we have previously

indicated, the synergy hypothesis that managers understand and can (reasonably) accurately

evaluate the net benefit of these synergies, so that they undertake those acquisitions that yield

positive net gains.

The Bounded Rationality Hypothesis

In contrast to the synergy hypothesis, the bounded rationality hypothesis suggests that

acquisition activity is merely evidence of overconfidence on the part of bidding firm managers

who make mistakes in evaluating the target and overpay for the acquisition. It is similar to the

hubris hypothesis proposed by Roll (1986) in that it proposes that the valuation of the target is a

random variable whose mean equals the current market price. Errors could arise from either over

or undervaluation of the target, but the distribution of the observed error is typically truncated by

the current market price. Roll‘s explication of the hubris hypothesis was predicated on strong-

form market efficiency. However, it simultaneously assumes non-rational behavior on the part of

managers, since rational managers should realize that paying more than market price for the

target is an error and desists from acquisition activity.

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The bounded rationality hypothesis that we here propose, building on the behavioral

theory of the firm, adopts less stringent (and more realistic) assumptions. We assume that

market frictions do exist, so that there are indeed potential gains from acquisition activity that

managers seek. However, information asymmetries between bidder and target firms‘ managers

that arise from bounded rationality confound the valuation of the target by the acquirer. Although

managers ex-ante expect positive synergistic gains, because the valuation of the target may be

erroneous and the distribution of valuations is truncated on the left, ex-post some acquisitions

may result in overpayment by the acquirer to the target and therefore, in a loss to shareholders of

the acquiring firm.

Clearly, bounded rationality may be operative in both domestic and cross-border

acquisitions. However, valuation mistakes may be more likely to occur in the latter if

information asymmetries between acquiring and target firms are exacerbated due to variations in

accounting rules, tax codes, legal systems, and regulations that govern public information

disclosure such as those mandated by stock markets. Reuer et al. (2004) suggest that differences

in enforcement of contracts and legal systems across countries can increase acquirer risk and

thereby reduce value from the deal because the acquirer cannot easily overcome the risk that the

target may turn out to be a ―lemon‖ (Akerlof, 1970) or the problem of moral hazard caused by

the target misrepresenting its true value. Firth (1990), using a sample of U.K. takeovers, finds

evidence that is consistent with the bounded rationality hypothesis.

The Managerialism Hypothesis

Unlike the bounded rationality hypothesis, which proposes that managers inadvertently

overpay for target firms, the managerialism hypothesis suggests that managers will knowingly

overpay in takeovers: managers embark on acquisitions to maximize their own utility at the

expense of the shareholders of the acquiring firm. A necessary condition of the managerialism

hypothesis is the existence of unresolved agency problems, i.e., governance institutions, are

assumed to inadequately limit managerial discretion to embark on expansion activities that

benefit them but destroy shareholder wealth2.

Since managerial compensation frequently is tied to the amount of assets under their

control, managers may seek higher rates of growth in assets than profits (Marris, 1964).

2 Previously we mentioned a source of synergy where the acquirer is able to increase efficiency by reducing agency

problems in target firms. The managerialism hypothesis focuses on agency problems in acquiring firms.

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Managers may wish to build empires because managerial compensation and perquisite

consumption increase in direct proportion to the size of the firm rather than its performance

(Jensen and Murphy, 1990). Amihud and Lev (1981, 1999) suggest that managers can diversify

personal risk and increase their job security by pursuing growth avenues in new businesses.

Morck, Shleifer and Vishny (1990) found evidence that firms that systematically underperform

their industry peers also make value-destroying acquisitions, which they attribute to agency

problems in these acquiring firms. While these arguments have primarily been raised in the

context of domestic acquisitions, the managerialism hypothesis can also apply to cross-border

acquisitions. Managers may pursue costly cross-border acquisitions in order to build empires, to

seek asset and sales growth or to take advantage of low correlations between earnings in

different national markets and thereby reduce personal risk, although these may be value-

destroying for shareholders.3

Whether in the domestic or cross-border context, agency problems can be reduced

through effective governance (Hoskisson et al, 2002, Miller, 2004). At the same time, the

managerialism hypothesis may be differentially relevant for domestic versus cross-border

transactions due to various institutional features that arise from differences in national culture,

government regulations, the limits imposed by governance mechanisms, depth of capital markets

and strength of financial institutions, and environmental munificence (Zahra et al., 2000;

Newman, 2000; Hitt et al., 2004). In the first place, the shareholder-manager agency problem

may be more likely to be evidenced in individualistic cultures, such as the United States, than in

more collectivistic cultures common in Asian countries (Shimizu et al., 2004). Also, the types of

corporate governance mechanisms used varies across countries (Gedajlovic and Shapiro, 1998;

Short, 1994) implying that there may be different levels of control on managerial discretion to

make value-destroying acquisitions in different institutional environments. Acquiring firms are

influenced by their national culture in the use of control mechanisms (Calori et al., 1994) and

French acquiring firms rely more on managerial transfer and strategic control relative to British

firms (Lubatkin et al., 1998).

3 Whether a risk-reducing acquisition is value-destroying or value-creating depends upon whether shareholders can

achieve the risk reduction benefits at lower costs. Shareholders are more likely to be able to achieve these benefits

at low costs in integrated capital markets, suggesting that managerialism is more likely to characterize cross-border

acquisitions in such markets than in segmented national markets.

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Berkovitch and Narayanan (1993) and SSP (2000) found evidence for the managerialism

hypothesis in a sub-sample of US domestic and cross-border takeovers respectively that reflected

negative gains. Harris and Ravenscraft (1991) find that foreign acquirers pay 10% more to U.S.

targets than do domestic acquirers. They conjecture that their results could be driven either by

foreign acquirers being more susceptible to overpayment for targets than domestic acquirers

(consistent with the managerialism or bounded rationality hypotheses) or by the advantages of

expansion into the U.S. market (consistent with the synergy hypothesis).

The prior literature that examines agency problems in acquisitions has primarily focused

on implications of self-interest on the part of acquiring firms‘ managers (―acquirer

managerialism‖). Here, we also raise the possibility that agency problems may also exist in

targets of such acquisitions. In the face of opposition from targets to a desired acquisition,

acquiring firms may make side payments (e.g., in the form of a ―golden parachute‖ to target

managers to overcome their resistance). Target firm managers may accede to an acquisition bid

for such private gains at the expense of their own shareholders: we call this ―target

managerialism.‖ Clearly, target firm shareholders will do what they can to prevent such value-

destroying bids – if they can. However, the governance environment may not provide

shareholders with the means to block value-destroying acquisitions. Even large shareholders,

whether of acquiring or target firms, may not prevail. Consider HP‘s $24 billion all-stock bid for

Compaq: within two days of the merger announcement, the stock prices of both HP and Compaq

fell with an estimated $13 billion lost in terms of market capitalization. The considerable

resistance from large HP shareholders who were convinced that the merger was not in their best

interests did not succeed in preventing the merger.

The Empirical Evidence: Relative Importance of the Explanations of Domestic and Cross-

Border Acquisitions

The discussion so far indicates that from a theoretical perspective, 1) synergy, bounded

rationality and managerialism are potentially all relevant explanations for both domestic and

cross border acquisitions and 2) in light of institutional issues, each of these explanations may be

differentially relevant for domestic versus cross-border acquisitions. We now summarize

relevant prior empirical evidence from the literature on the relative importance of the three

hypotheses in domestic and cross-border acquisitions respectively.

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Before we proceed, it is useful to briefly outline the empirical approaches used to derive

the results germane to our discussion. The short run abnormal stock price reaction to

announcements of takeovers is the most frequently used analytical measure of acquisition

performance (McNamara, Haleblian and Dykes, 2008; Capron and Pistre, 2002; King et al.

2004) and is generally considered to be the most statistically reliable measure of the value

consequences of takeover activity. This methodology has predictive validity (McNamara et al.

2008): Abnormal returns are positively correlated with increases in operating cash flows (Healy,

Palepu and Ruback, 1992) and unsuccessful mergers that result in ex-post divestitures are

associated with significantly lower announcement returns (Kaplan and Weisbach, 1992). Though

long run returns may better capture long run effects of the merger, they are also subject to many

problems including confounding effects from other changes in the firm and methodological

concerns (Barber and Lyon, 1997; Kothari and Warner, 1997; Fama, 1998; Mitchell and

Stafford, 2000; Brav, 2000; Andrade, Mitchell, and Stafford, 2001). Furthermore, long-run

abnormal performance results do not change our priors that result from the announcement period

analyses (Andrade, Mitchell and Stafford, 2001).

The majority of studies focus on the economic performance of acquiring firms. In

contrast, some scholars (e.g., Bradley, Desai and Kim, 1988; Seth, 1990a, b; Cakici, Hessel, and

Tandon, 1996) have argued that to more fully understand acquisition activity, although

methodologically more complex, it is necessary to examine first, the total wealth gains in

acquisitions (i.e., the combined gains to matched pairs of acquirers and targets) and then consider

how these gains are divided between their shareholders. In interpreting the results of these two

streams of research vis-à-vis the three hypotheses, we note first that the division of wealth gains

between the target and the acquirer depends on their relative bargaining power or on the

competition in the market for corporate control.

The three hypotheses discussed earlier have different implication for the distribution of

wealth gains between the acquirer and the target firms. The synergy hypothesis implies that

economic gains to the combined firm are positive and returns to shareholders of acquiring firms

are >= zero. In contrast, bounded rationality suggests that acquisitions merely result in a transfer

of wealth from acquiring firm shareholders to target firm shareholders so that total gains are zero

on average. Managerialism predicts that acquisitions are characterized by negative total gains on

average and acquiring firms lose value. However, since all three explanations may co-exist in a

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sample of acquisitions, their effects may counter each other so that average results can only show

whether synergy or managerialism primarily characterizes their samples. Further, the effects of

synergy and managerialism may cancel each other out and so may be indistinguishable

empirically from bounded rationality. A third stream of research (e.g., Berkovitch and

Narayanan, 1993; Seth, Song & Pettit, 2000) shows how an examination of the correlation

between total gains and the partitioning of these gains between acquiring and target firms can

effectively discriminate among the explanations underlying acquisition activity.

The results from all three approaches suggest that the synergy hypothesis primarily

characterizes U.S. domestic acquisitions on average, or in Zollo and Meier‘s (2008) terminology

– shareholders have positive expectations for the future success of the acquisition – albeit with

most of the gains accruing to the target shareholders. In their review of the literature, Andrade,

Stafford, and Mitchell (2001) report that target returns in domestic acquisitions have been

remarkably stable at 16 to 24% over the last three decades for domestic acquisitions, and gains to

bidders are not statistically different from zero. Bradley, Desai and Kim (1988) quantify the

average total gains to the US domestic acquisitions in their sample at 7.4%, whereas Seth

(1990a) estimates these gains at 10.7%. Bradley, Desai and Kim (1988) find that 75% of their

sample is characterized by positive total gains, similar to the results reported by Berkovitch and

Narayanan (1993) (76%). However, Berkovitch and Narayan also find evidence for the bounded

rationality hypothesis (which they term as the hubris hypothesis) and for the managerialism

hypothesis.

The evidence from cross-border acquisition activity is not only more mixed, but also

indicates that there may be significant differences depending upon the whether the acquisition

involves US acquiring firms with foreign targets or foreign acquiring firms with US targets.

Datta and Puia (1995) report that US firms‘ acquisitions of foreign targets do not create value on

average, and cultural distance decreases wealth effects. Markides and Ittner (1994) show that

from the perspective of the US acquirer, cross-border deals experience significantly higher

returns relative to domestic deals while Moeller and Schlingemann (2002) show the opposite

effect. Manson et al. (1994) find that US acquirers benefit when their targets are located in high

tax countries. Beckman and Haunschild (2002) find that the premium paid for the acquisition

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increases with greater diversity in the targets‘ networks.4 Cebenoyan et al (1992) find that cross-

border acquisitions entail superior total gains relative to domestic acquisitions. This argument is

predicated on the assumption that cross-border acquisitions give rise to superior synergies

relative to domestic acquisitions.

In contrast to the results for US-foreign acquisitions, the existing evidence suggests that

the synergy hypothesis primarily characterizes foreign firms‘ acquisitions of US targets, similar

to results for US domestic acquisitions. SSP (2000) report an average value increase in the

combined firm of 7.5% for their sample of acquisitions of US firms by foreign acquirers, with

74% of the acquisitions in their sample characterized by positive total gains.

TESTABLE HYPOTHESES

As described above, both theory and the extant evidence indicates that all three

explanations are likely to co-exist in a sample of acquisitions, whether domestic or cross-border.

However, this evidence is derived from research that covers different time periods, so we do not

know the extent to which each explanation characterizes domestic versus cross-border

acquisitions in a contemporaneous time period. We also do not know whether institutional

differences are of a large enough magnitude that the explanations differently characterize US

domestic acquisitions, US acquisitions of foreign targets, or foreign acquisitions of US targets.

Our first research question explores whether synergy, bounded rationality or

managerialism is the primary explanation for US-US acquisitions, US-foreign acquisitions and

for foreign-US acquisitions in the time period 1990-2003. Consistent with the prior literature,

we propose that the synergy hypothesis is the primary explanation for US domestic and both

types of cross-border transactions in our sample of contemporaneous acquisitions. Note that

there are two different sets of alternative hypotheses as identified in H1a and H1 b.

Accordingly,

H1: US-US acquisitions, US-foreign acquisitions and foreign-US acquisitions are

primarily motivated by synergy.

H1a: US-US acquisitions, US-foreign acquisitions and foreign-US acquisitions are

primarily explained by bounded rationality.

4 In related research on multinational diversification and the real options theory, Tong and Reuer (2007) find that

multinationality decreases risk but the relationship is curvilinear. Downside risk also increases with greater cultural

distance. We are not aware of any research connecting the real options perspective to cross-border acquisitions.

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H1b: US-US acquisitions, US-foreign acquisitions and foreign-US acquisitions are

primarily motivated by managerialism.

Our second research question explores the relative importance of each explanation in

domestic versus each type of cross-border acquisitions in this time period. First, consider the

role of synergy. As we have previously argued, internalization and reverse-internalization can

characterize both domestic and cross-border acquisitions. However, it is possible that cross-

border acquisitions create access to new geographic markets that represent significant profit

opportunities relative to expansion in domestic markets. Also, certain benefits of acquisitions

such as financial diversification and currency premium considerations are likely to accrue only to

cross-border acquisitions. If cross-border acquisitions additionally rely on some sources of

synergy that are unavailable to domestic acquisitions, we would expect that the frequency of

synergistic acquisitions is higher for cross-border than for domestic acquisitions. In addition, if

the sources of value creation which cross-border acquisitions rely on are inherently more

―valuable‖, on average, than those which domestic acquisitions rely on, the average value gains

to synergistic acquisitions will be higher for cross-border transactions than for domestic

transactions.

Note that economic value gains from synergistic acquisitions are shared between the

acquirer and the target firms. The latter will receive an increasingly larger proportion of the total

gains as competition for ownership of the target increases among potential acquiring firms. This

level of competition is expected to be influenced by the extent to which the assets of each

potential combination are uniquely co-specialized (Barney, 1988). If the assets of the target firm

contribute to synergistic gains in combination with few potential acquiring firms so that there

exist specialized complementarities between them (we term this ―synergy -- co-specialization‖),

both firms gain from the acquisition and the acquirer will realize a sizeable proportion of the

total gains from the acquisition. Alternatively, if the target confronts many potential acquiring

firms in the market for corporate control (―synergy – competition‖), the acquirer will realize only

a small proportion or no gains from the acquisition. So, conditional on the presence of synergy,

since cross-border acquisitions are likely to represent more ―unique‖ combinations than domestic

acquisitions, we expect synergy—co-specialization to characterize the former. Accordingly, we

examine

17

H2a: The incidence of synergy and its positive value consequences is higher for cross-

border acquisitions than for domestic acquisitions.

H2b: The incidence of synergy—co-specialization and its value consequences is higher

for cross-border acquisitions than for domestic acquisitions.

Recall that the bounded rationality hypothesis entails valuation mistakes made by

managers of acquiring firms and relies upon the assumption of information asymmetries between

bidding and target firms. In cross-border acquisitions, information asymmetries could be

exacerbated due to variations in tax codes, governance, institutional factors, and regulations.

Accordingly, we expect valuation mistakes to be at least if not more likely to occur in cross-

border acquisitions than in domestic transactions. However, if the US market for corporate

control is characterized by greater transparency of information than overseas markets, we would

expect the incidence of bounded rationality to be lower, as well as its negative economic value

consequences for acquirers to be mitigated for cross-border acquisitions involving foreign firms

and US targets. Firms competing for US targets (whether US or foreign) should have an

informational advantage over US firms competing in foreign markets for corporate control. So,

H3a: The incidence of bounded rationality and its negative value consequences for

acquirers is higher for cross-border acquisitions than domestic acquisitions.

H3b: The incidence of bounded rationality and its negative value consequences for

acquirers is higher for cross-border acquisitions by US firms than for their domestic

acquisitions or cross-border acquisitions by foreign firms of US targets.

On the other hand, in the case of managerialism, bidding firms are aware that they have

overvalued the target but persist anyway in its pursuit. To understand the relative prevalence of

managerialism in domestic versus cross-border acquisitions, different institutional factors - the

level of competition in the market for corporate control and the associated bargaining power of

target firms - become relevant to consider. Bidding wars in a competitive market for corporate

control can lead to a higher probability that acquiring firms considerably overbid for target firms.

Under the assumption (we discuss this further below) that the governance systems of US and

foreign acquirers are equally effective in limiting agency problems, but high competition in the

market for corporate control drives a greater degree of overbidding in acquisitions for US targets,

we would expect:

18

H4: The incidence of managerialism and its negative value consequences is likely to be

higher for domestic US acquisitions and cross-border acquisitions by foreign firms of US

targets than cross-border acquisitions by US firms of foreign targets.

Although a matter of considerable debate, one often cited conjecture is that US corporate

governance systems are more effective than those of other nations in limiting managerialism. We

believe this is a somewhat oversimplified account, but for completeness note that it implies

(contrary to H4) that the incidence of managerialism and its negative value consequences is

likely to be higher for cross-border acquisitions by foreign firms of US targets than U.S.

domestic acquisitions and cross-border acquisitions by US firms of foreign targets. Accordingly,

our test of H4 also sheds light on this conjecture.

Institutional Influences on Acquisition Explanations: Market-Based Economies versus

Other Economies

Above, we have suggested that the institutional context of the US market for corporate

control is characterized by first, greater transparency of information and second, by a greater

degree of competition in the market for corporate control. Specifically, we conjecture that the

first feature is likely to reduce the likelihood of over-valuation of US targets (thereby resulting in

a lower incidence of acquisitions characterized by bounded rationality for these transactions

relative to transactions involving foreign targets), whereas the second feature is likely to increase

the likelihood of over-bidding for US targets (thereby resulting in a higher incidence of

acquisitions characterized by managerialism for these transactions relative to transactions

involving foreign targets). However, the question arises: are these institutional features only

specific to the US market for corporate control or are they more generally representative of other

economies as well?

To the extent that the institutional climate vis-à-vis competition in the market for

corporate control and transparency of information is homogenous across nations with market

economies, we expect to see similar patterns characterizing all acquisitions involving targets

from such economies. At the same time, we expect these patterns to be dissimilar to those of

acquisitions involving targets from non-market economies (i.e., those that are predominantly

controlled by banks or business groups5). More formally,

5 SSP (2002) suggest a three-way classification of economic systems based on Bishop (1994). The first type, the

market-oriented system (Finland, Sweden, the UK and the US), is characterized by high stock market liquidity and

relatively high disclosure of financial information where capital markets and the market for corporate control are

19

H5a: The institutional characteristics of the target firm’s country of origin have similar

economic value consequences for acquisition activity.

We now turn to examining the impact of the institutional context of the acquiring firm. In

explaining Hypothesis 4, we assumed that the governance systems of US and foreign acquiring

firms are equally effective in limiting agency problems and showed how rejecting this hypothesis

would call this assumption into question. In another test of this assumption, we note that if the

institutional climate vis-à-vis national governance systems is equally effective in market

economies relative to non-market economies, we would expect to see similar patterns

characterizing all acquisitions involving acquirers from both market and non-market economies.

These patterns would be dissimilar to those involving acquirers from non-market economies. So

we examine:

H5b: The institutional characteristics of the acquiring firm’s country of origin have

similar economic value consequences for acquisition activity.

RESEARCH METHOD

Sample and Data

Our initial sample included all domestic US and cross-border acquisitions (US acquirers

with foreign targets and foreign acquirers with US targets) as reported in SDC for the 1990-2003

time period. We discarded asset sale transactions and deals where the acquiring firm held less

than 51% of the target after the announcement, so that the sample represents control acquisitions.

In order to reduce noise in the data we also excluded transactions where the pre-acquisition value

of the target was less than 2% of the value of the acquirer and those with confounding events

during the event window. The final sample consists of 1,224 acquisitions with 946 US-US

domestic transactions and 278 cross-border transactions. Our cross-border sample consists of two

sub-samples: Cross-border 1 (US acquirer-foreign target) = 101 deals; and Cross-border 2

(Foreign acquirer- US target) = 177 deals. Data on transaction characteristics and country-origin

of acquiring and target firms were obtained from SDC. Daily returns for the acquiring and target

important governance mechanisms in controlling agency costs. The second type, the bank-oriented system, is

characterized by high bank ownership where banks play a critical monitoring role. The third type, the group-oriented

system, is characterized by high concentration of ownership by business or family groups. Both bank-and group-

oriented systems are characterized by relatively limited financial disclosure and less reliance on the market for

corporate control than market-oriented systems. Our sample precludes us from a systematic three-way comparison,

so we combine bank- and group-oriented systems to conduct a two-way comparison with market-oriented systems.

20

firms, their dollar market values and daily market returns were obtained from Datastream. We

used Eventus to calculate cumulative abnormal returns (CARs).

Method

Our approach to hypothesis testing extends the methodology described in SSP (2000) and

SSP (2002), and is described in detail in the section below. To conduct our empirical tests, we

need to measure economic value creation (i.e., total gains to the combining firms) as well as how

this value is apportioned between the target and acquirer firm. Towards constructing these

measures, we use event study methodology to first estimate acquirer and target abnormal returns

based on the standard market model, using appropriate indices from the country-of-origin of the

acquirer and target respectively to identify market returns.6 The parameters for the market model

are estimated over a period from day -160 to day -40. Cumulative abnormal returns (CARs) are

estimated for acquirers and targets for 3 day (-1,+1); 11 day (-5,+5); and 21 day (-10,+10)

windows. Following McWilliams and Siegel (1997) we use multiple event windows in our

analysis and we eliminate deals with confounding events. Our discussion focuses on the results

for the 11 day window: results for alternative event windows are very similar and are not

reported. Since announcement dates in SDC may be incorrect, we randomly checked

announcement dates in major newspapers. We did not find any instances of inaccurate dates.

Further, it is likely that a large 11 day event window would adequately capture the

announcement effect if the error in the announcement date is not large.

Many studies measure firm performance using accounting based measures rather than

CARs. McNamara et al. (2008) suggest several reasons why CARs are the more appropriate

measure of acquisition performance: 1) the impact of the acquisition can take many months to

manifest and may not be reflected in accounting data; 2) During the integration period, the firm

does not remain static and accounting measures may be subject to confounding effects caused by

changes within the firm; 3) accounting measures may not be the same across all industries

resulting in misleading conclusions. We follow prior literature and use the most frequently used

approach - CARs - to measure firm performance (Capron and Pistre, 2002; King et al., 2004).

6 It is possible that investor characteristics vary across markets and that they may value firm performance

differently. These valuation differences are likely to impact firm performance as well as overall market performance

in the same way. Therefore, we do not expect valuation differences to our measure of abnormal returns which

adjusts for the market and consequently for valuation preferences of investors.

21

The total dollar gain associated with the announcement of the acquisition is the difference

between the value of the combined firm given the acquisition announcement and the sum of the

values of the individual firms prior to the announcement (see Seth, 1990a). So, we define total

dollar gains as:

TOTGAIN = AMV-40 *ACAR-5,+5 + k* TMV-40 *TCAR-5,+5

where AMV and TMV are the acquirer and target market value in dollars 40 days prior to the

event date; k is the proportion of target shares purchased by the acquirer, and ACAR and TCAR

are the acquirer and target returns for the 11 day event window.

Dollar gains to acquirers and targets are computed as follows:

TARGAIN= TMV-40 *TCAR-5,+5

ACQGAIN= AMV-40 *ACAR-5,+5

The percentage total gain normalizes the dollar total gain by the pre-acquisition value of

the combined firm and is computed as follows:

4040

5,5405,540

*

***%

TMVkAMV

TCARTMVkACARAMVTOTGAIN

Our approach to empirically examining both research questions extends the methodology

developed in Berkovitch & Narayanan (1993) and SSP (2000), and is summarized in Table 1.

The Primary Explanation for Domestic and Cross-Border Acquisitions

We first explore examine whether and why synergy, bounded rationality and managerialism

differentially characterize domestic acquisitions versus cross-border acquisitions. The tests of

Hypothesis 1 are relatively straightforward. Note that the average total gains can be considered

as a summary statistic that indexes the extent to which each of the managerial motives for

acquisitions is operative and the average economic value gain or loss associated with that

motive, i.e.,

Average total gains = f(p(synergy)*average economic value of synergy + p(bounded

rationality)*average economic value of bounded rationality + p(managerialism)*average

economic value of managerialism.

We infer if synergy primarily characterizes a particular sub-sample when the following

conditions hold:

Positive total gains on average

22

The proportion of acquisitions with positive total gains is higher than that expected by

chance

Non-negative gains on average to acquirers

To infer whether bounded rationality primarily characterizes a particular sub-sample, we

examine whether the following conditions instead hold:

Zero total gains on average

The proportion of acquisitions with positive total gains is equal to that expected by

chance

Negative gains on average to acquirers

Similarly, for managerialism:

Negative total gains on average in acquisitions

The proportion of acquisitions with negative total gains is higher than that expected by

chance.

Negative gains on average to acquirers.

Quantifying the Co-Existence of Synergy, Bounded Rationality and Managerialism

We now describe our empirical approach to quantifying the extent to which different

explanations co-exist in the sample. The three hypotheses are likely to play a different role

within the sub-sample of acquisitions with positive total gains and the sub-sample with negative

total gains. Following Berkovitch and Narayanan (1993) and SSP (2000), in the sub-sample with

positive total gains, the managerialism hypothesis (which predicts negative total gains) can be

assumed to be eliminated, and the problem is to examine the roles of the synergy hypothesis and

the bounded rationality hypothesis. In the sub-sample with negative total gains, the synergy

hypothesis (which predicts positive total gains) can be assumed to be eliminated and the problem

is to examine the roles of the managerialism hypothesis and the bounded rationality hypothesis.

Positive total gains sub-sample: In this sample we expect the synergy hypothesis to play

an important explanatory role, but it is also possible that the bounded rationality hypothesis co-

exists with synergy. We go beyond the prior empirical investigations by Berkovitch and

Narayanan (1993) and SSP (2000) to examine the empirical evidence for two distinct types of

synergistic acquisitions relative to bounded rationality. Bounded rationality similarly predicts

that total gains from acquisitions are garnered by targets with no gains to acquirers. In sum,

synergy--co-specialization, synergy-competition and bounded rationality all predict positive

23

gains to targets in the positive total gains sub-sample. Gains to acquirers may be positive or

negative; the impact of synergy-competition and bounded rationality will be to drive down

acquirer returns.

To examine whether synergy--co-specialization, synergy-competition or bounded

rationality primarily characterize the positive total gains sub-sample, we consider the correlation

between target gains and acquirer gains separately for the group of acquisitions with positive

acquirer gains and the group with negative acquirer gains. In the group with positive total gains/

positive acquirer gains, if there is a strong positive relationship between target and acquirer

gains, we infer that synergy—co-specialization (where both the target and the acquirer have

strong bargaining positions) characterizes the group, In contrast, if synergy-competition or

bounded rationality characterizes this group, the gains to acquirers will be small and there should

be no correlation between target gains and acquirer gains.

Summarizing, we infer the three alternative explanations underlying the group of

acquisitions with positive total gains/positive acquirer gains as follows:

Synergy – co-specialization: positive correlation between target gains and acquirer gains.

Synergy – competition or bounded rationality: no correlation between target gains and

acquirer gains.

Positive total gains/negative acquirer gains group: In this sample, synergy—co-

specialization is assumed to be eliminated. If synergy-competition characterizes this group,

acquirer losses will be small and there will be no correlation between acquirer and target gains.

However, if instead bounded rationality plays the dominant role in this group, acquirer losses

will be large with a negative correlation between target gains and acquirer gains. Summarizing,

we infer the two alternative explanations for the group of acquisitions with positive total gains

and negative acquirer gains as follows:

Synergy – competition: no correlation between target gains and acquirer gains.

Bounded rationality: negative correlation between target gains and acquirer gains.

Negative total gains sub-sample: In this sample, the task is to distinguish between the

managerialism and bounded rationality hypotheses. Both bounded rationality and managerialism

predict that gains to acquirers will be negative, but the prediction for target returns is more

complex. The prior literature has typically framed managerialism only in the context of motives

of acquiring firms‘ managers. However, it is possible that target firms can also be characterized

24

by managerialism. In the face of opposition from targets to a desired acquisition, acquiring firms

may make side payments to target managers to overcome their resistance, at the expense of

shareholders of the target firm. So, gains to targets can be positive or negative.7

To evaluate the roles of acquirer managerialism, acquirer and target firm managerialism

and bounded rationality in the negative total gains sub-sample, we examine the correlation

between target gains and total gains for the group of acquisitions with positive target gains and

the group with negative target gains. Acquisitions characterized by managerialism on the part of

acquiring firm managers but not target firm managers, (i.e., the group with negative total

gains/positive target gains) will evidence a negative relationship between target and total gains.

In these acquisitions, the gains to targets are achieved at the expense of significant value losses

to the combined entity. For acquisitions that also involve managerialism on the part of target firm

managers wherein both target firm and acquiring firm managers collude to achieve private gains

at the expense of their shareholders (i.e., the group with negative total gains/negative target

gains), we expect that the relationship between target and total gains will be positive. However,

if the bounded rationality hypothesis is the dominant explanation for the negative total gains sub-

sample, since the total gain is unaffected by overpayment by the acquirer, we expect there to be

no correlation between target and total gains. Summarizing, we infer the presence of different

explanations in the negative total gains /positive target gains sample as follows:

Acquirer managerialism: negative correlation between target gains and total gains.

Bounded rationality: no correlation between target gains and total gains.

Similarly, we infer the presence of different explanations in the negative total

gains/negative target gains sample as follows:

Acquirer and target managerialism: positive correlation between target gains and total

gains

Bounded rationality: no correlation between target gains and total gains.

RESULTS

Table 2 contains descriptive statistics and provides the results for the tests of Hypotheses

1. The table reports total gains and CARs to acquirers and targets for the event window (-5,+5).8

7 It is possible (though not very likely) for target firm managerialism to occur in combination with synergy seeking

or hubris on the part of acquiring firms‘ managers. Also, these combinations are difficult to empirically

disentangle. Accordingly, we do not consider these in this paper.

25

According to the table, the mean total gain for the full sample is $21.98 million (2% of the pre-

announcement value of the combined firm). Acquiring firm shareholders lose one percent of total

value on average while target firm shareholders gain 21% on average.

The table shows that 57% of US domestic acquisitions in our sample are characterized by

positive total gains, as do 60% of the cross-border acquisitions (both US-foreign and foreign-US

transactions). In our sample, average total gains are 2%, 3% and 4% of the pre-acquisition value

of the combined entity for US domestic acquisitions, US-foreign transactions and foreign-US

acquisitions respectively. These results are materially lower than estimates of total gains in prior

work. Bradley, Desai and Kim (1988), Seth (1990), Berkovitch and Narayanan (1993) and SSP

(1993) all report higher positive average total gains (7-10% of the pre-acquisition value of the

combined entity) for their samples of US and cross-border acquisitions. These differences

suggest that the proportion of domestic and cross-border transactions characterized by value

creation has decreased from the 80s to the 90s.

As regards the division of the gains, 41% of the acquirers in US-US transactions create

value for their shareholders, compared with 55% for acquirers in US-foreign transactions. The

average cumulative abnormal returns (CAR) of acquirers in US-US transactions is -2% (p=.01);

whereas those of acquirers in US-foreign transactions is 1%. So, US firms appear to do better as

acquirers in their cross-border transactions than in their domestic transactions on average, from

the point of view of creating value for their shareholders. Similar to the results in SSP (2000),

acquirers in foreign-US transactions realize an average CAR of 1%, with about half of these

transactions creating value for their shareholders.

Although the targets of US-foreign transactions do create value on average for their

shareholders, their average level of gains is lower than that of targets in US-US transactions

(17% versus 21%). The highest level of target returns (27%) are realized by US firms that are the

targets of foreign-US transactions.

The results in Table 2 suggest that both cross-border samples are primarily characterized

by the synergy hypothesis: these acquisitions meet all the criteria described in Hypothesis 1.

These results are similar to those in SSP (2000) who found that the synergy hypothesis was the

primary explanation for cross-border acquisitions that involve foreign bidders and U.S. targets.

8 Results for alternative event windows are very similar and are not reported.

26

In contrast, in US domestic acquisitions although the ratio of positive to negative total

gains and the mean total percentage total gains is consistent with the predictions of the synergy

hypothesis, the average level of total dollar gains is statistically indistinguishable from zero,

consistent with the predictions of the bounded rationality hypothesis (H1a). Also, shareholders

of acquiring firms suffer significant losses, consistent with the predictions of the bounded

rationality and managerialism hypotheses (H1a and H1b). This pattern suggests that US domestic

acquisitions cannot unequivocally be characterized by the synergy hypothesis as the primary

explanation. Note that these results contrast with those reported in previous studies who found

the synergy hypothesis to be the primary explanation of acquisitions in an earlier time period.

Our tests for H1 and its alternatives suggest substantively important findings in that they provide

evidence of critical differences in explanations for domestic versus cross-border acquisitions.

We now turn to a more fine-grained analysis of the prevalence of different explanations.

Table 3 contains the frequency distribution of the sample according to total gains, acquirer gains

and target gains. The table indicates that 36%, 49% and 40% of US-US, US-foreign and foreign-

US acquisitions involve positive gains to both acquiring and target firm. At the other extreme,

12%, 12% and 4% of US-US, US-foreign and foreign-US acquisitions involve negative gains to

both the acquiring and target firm. There is evidence of a wealth transfer from acquiring firms to

target firms in 31%, 28% and 40% of US-US, US-foreign and foreign-US transactions, with a

small number of additional transactions evidenced by a wealth transfer from targets to acquirers.

The regression results that allow us to quantify the existence of the synergy, bounded

rationality and managerialism hypotheses are presented in Table 4. This table examines the

relationships between target gains and acquirer gains (to discriminate between synergy and

bounded rationality) and target gains and total gains (to discriminate between managerialism and

bounded rationality) for the 11 day event window. Cumulative abnormal returns and

%TOTGAIN cannot be used to estimate the relationship between gains to targets and acquirers

or gains to targets and total gains to the combined firm because there may be large size

differences between the target and the acquiring firm making interpretation of the regression

coefficients problematic. We use dollar gains to estimate these relationships in accordance with

Berkovitch and Narayanan (1993) and SSP (2000).

For the positive gains sub-sample we include a dummy variable which takes the value of

one if the acquirer gain is negative and zero if it is positive. β1 measures the impact of acquirer

27

gains on target gains for the positive acquirer gains group while β1 + β2 measures the impact of

acquirer gains on target gains for the negative acquirer gains group. For the negative total gains

sub-sample we include a dummy variable which takes the value of 1 if the target gain is negative

and zero if it is positive. β1 measures the impact of target gains on total gains for the negative

total gains group while β1 + β2 measures the impact of target gains on total gains for the negative

target gains group.

The results indicate that in US-US acquisitions and both types of cross-border

transactions with positive total gains, synergy--co-specialization characterizes acquisitions with

positive bidder gains and bounded rationality characterizes the group of acquisitions with

negative bidder gains.9

The data is not consistent with the predictions of synergy-competition for

either group. For transactions with negative total gains, both US-US and foreign-US transactions

indicate the presence of acquirer and acquirer/target managerialism (but not bounded rationality).

While the evidence suggests the presence of acquirer/target managerialism in US-foreign

transactions, it is consistent also with the existence of bounded rationality (but not acquirer

managerialism) in these transactions. Our results for foreign-US transactions are very similar to

those reported in SSP 2000 for their sample of foreign-US acquisitions.

Based on these results, we can classify all the acquisition transactions in our samples

according to the three hypotheses. Add additional discussion re how the n‘s are calculated.

Table 5 presents the frequency distribution, total gains and division of the gains between

acquirers and targets for acquirer gains for each hypothesis. The similarities and differences

among US-US acquisitions, US-foreign acquisitions and foreign-US acquisitions are summarized

in Figure 1, and represent the results of our tests of H2-4.

The data are in general consistent with H2a and H2b, which propose that the incidence

and positive value consequences of synergy, and more particularly, synergy -- co-specialization

are higher for cross-border than for domestic acquisitions. As indicated in the figure, the

incidence of synergistic acquisitions that entail co-specialization is higher for cross border

acquisitions (49% for US-foreign and 40% for foreign- US acquisitions) than for US domestic

acquisitions (36%). However, a chi-square test indicates that this difference is statistically

significant only for US-foreign versus US domestic acquisitions. Also, the magnitude of average

9 The positive relationship between target and acquirer gains in cross-border acquisitions could be due to a positive

correlation between the market returns of the target and acquirer countries. To control for this we include a market

correlation variable for each transaction. Our results do not change.

28

total gains is in the predicted direction. At the same time, pairwise t-tests indicate that foreign-

US acquisitions demonstrate significantly greater total gains on average than do US-foreign

acquisitions or US domestic acquisitions. Overall, the probability of achieving synergies that

benefit both parties in the transactions is highest in cross-border transactions involving US

acquirers and foreign targets, but the magnitude of average synergies is highest in cross-border

transactions involving foreign acquirers and US targets. A possible reason is that the high level

of competition in the US market for corporate control causes some synergistic mergers between

foreign bidders and US targets to go unconsummated, but the economic potential of access to US

markets or technology rewards successful bidders.

At the same time, average value losses to acquirers are higher for both types of cross

border transactions compared to domestic transactions, suggesting that information asymmetries

exist in bidding across national borders. However, bounded rationality does not appear to

equivalently characterize US-foreign and foreign-US transactions. As predicted by H3b, the

incidence of bounded rationality is both substantively and statistically significantly higher in US-

foreign acquisitions (40%) than that of US-US or foreign-US transactions (20%). Together,

these results suggest that the information asymmetries inherent in cross-border transactions can

be mitigated by relatively high informational transparency in US capital markets.10

Cross-border acquisitions by foreign firms of US targets and US domestic acquisitions

also have the potential to give rise to the largest total value losses and wealth destruction for

acquiring firms‘ shareholders, consistent with H4. The incidence of managerialism is more than

three times higher in these transactions (44% and 40% respectively) than US acquisitions of

foreign firms (12%). These results lend credence to our argument that the likelihood of bidding

wars that result in value destruction appears to be most pronounced in the US market for

corporate control, so that the shadow of the winner‘s curse -- the outcome of managerialism and

bounded rationality -- is most likely to characterize acquirers of US targets. Another implication

of these results is that the US institutional climate is not systematically more effective in

curtailing managerialism than that of other nations, at least in the context of acquisition activity.

10

Note that measurement of hubris can entail total wealth gains or total wealth losses, with the critical test

depending on the correlation between target and acquirer gains or target and total gains. The US-foreign acquisitions

in our sample characterized by hubris indicate zero total value gains. However, US-US and foreign-US transactions

characterized by hubris entail value losses to acquiring firms that are more than compensated by value gains

accruing to targets, so that these acquisitions demonstrate total value gains. These transactions therefore have similar

characteristics to managerialist acquisitions.

29

Table 6 contains our results for H5a and H5b. Panels A and B of the table indicate that

the sign and statistical significance of the correlation between target and acquirer gains/ target

and total gains are similar for transactions involving targets from market-oriented economies,

i.e., US domestic acquisitions and US acquisitions of foreign targets in market-oriented

economies. However, these correlations are different than those reported in Panel C. Together

these results indicate that the institutional characteristics in the target firm‘s country of origin

have similar economic value consequences for acquisition activity, consistent with Hypothesis

5a. The negative correlations between target and acquirer gains in Panels A and B are consistent

with the conjecture that competition in the market for corporate control drives down acquirer

gains for transactions involving targets in all market-oriented economies on average, not just

transactions involving US targets. Concomitantly, the positive correlation between target and

acquirer gains in Panel C also suggests that US acquirers evidence greater synergistic gains in

their acquisitions of targets from non market-oriented economies than of targets from market-

oriented economies.

Panels A and D of Table 6 indicate that the sign and statistical significance of the

correlation between target and acquirer gains/ target and total gains are similar for transactions

involving acquirers from market-oriented economies. However, there is no correlation between

target and acquirer gains for transactions involving acquirers from non market-oriented

economies. Consistent with H5b, these results suggest that institutional characteristics associated

with national governance systems in the acquirer‘s country of origin have systematically

different effects across market versus non-market oriented economies. The pattern of results also

indicates that acquisition activity has more benign consequences for acquirers from non market-

oriented systems, similar to the SSP (2000) results.

DISCUSSION AND CONCLUSION

Our study makes numerous contributions. First, ours is the first comprehensive

comparison of the value creation (i.e., the combined shareholder wealth gains to matched pairs of

targets and acquirers) and the division of these gains between acquirer and target firms in

domestic compared to cross-border acquisitions. Second, we show how the extent of value

creation in acquisition activity can be linked to the underlying explanations for these transactions

and their value consequences. We discriminate among the explanations that underlie acquisitions

30

and show how these differ between domestic and cross-border transactions. Third, we go beyond

the prior literature to provide a more fine-grained analysis of explanations underlying acquisition

activity, identifying two variants of the synergy hypothesis and two variants of the

managerialism hypothesis. Fourth, we explore how explanations for acquisition activity are

linked to institutional features in acquiring and target firms‘ countries of origin.

Our empirical results indicate that there appear to be important differences in institutional

contexts between cross-border and domestic acquisitions so there is differential evidence for the

existence of the explanations described above. We show that cross-border acquisitions are

primarily driven by synergy, but the evidence is mixed for domestic acquisitions. At the same

time, synergy—co-specialization characterizes U.S. acquisitions of foreign firms to a

considerably greater extent than U.S. domestic acquisitions or foreign acquisitions of U.S. firms.

So, we would caution that results from studies of domestic acquisitions are not necessarily

generalizable to cross-border transactions.

We also find evidence of acquirer managerialism for US domestic acquisitions and

foreign-US acquisitions. In contrast, the data indicate that acquisitions of foreign firms by U.S.

firms cannot be characterized by acquirer managerialism. A novel finding in our paper is the

identification of target managerialism in the domestic and both cross-border samples. Although

this pattern is evidenced in all three sub-samples, it appears to be most pronounced in the targets

of U.S. bidding activity. Between 25-30% of the targets that are purchased by U.S. firms

(whether domestic or cross-border) evidence negative returns to their shareholders. It is likely

that the greater incidence of stock offers relative to cash offers that characterizes the 1990s (as

documented by Andrade et al, 2001) underlies the incidence of target managerialism that we

demonstrate.

Overall, the domestic acquisitions by U.S. firms and foreign acquisitions of US firms

demonstrate the characteristics of synergy and acquirer firm managerialism, whereas acquisitions

by U.S. firms of foreign targets demonstrate the characteristics of synergy and bounded

rationality. These results suggest that the U.S. market for corporate control is more competitive

than foreign markets, so that acquisitions of U.S. targets are more likely to result in the ―winner‘s

curse‖ than acquisitions of foreign firms. Although our results vis-à-vis bounded rationality

suggest that there is an informational liability of foreignness that characterizes cross-border

acquisitions, the results for synergy suggest that there can also be a significant benefit of

31

foreignness. Our results suggest that it is important to take into account the different behavioral

assumptions underlying management decision making when examining acquisitions.

Another key aspect of our findings is the importance of the institutional context of target

firms in acquisitions. Much of the prior acquisition literature has focused on the corporate

governance aspect of the institutional context prevailing in the acquiring firm‘s country of origin.

Our results here indicate that other aspects of the institutional context of the target firm‘s country

of origin (such as the degree of competition in the market for corporate control and informational

transparency) are also important to consider in their impact on value creation in acquisitions, and

gains to the participants in such transactions.

We return to the original theoretical questions that motivated this research: What is the

explanatory power of efficiency-oriented theories of the firm, agency theory and behavioral

theory for domestic expansion? For international expansion? How much do institutional issues

matter? Are theories that explain international expansion merely simple extensions of theories of

the firm in the domestic context, or do the institutional characteristics of cross-border expansion

make a material difference in explaining scale and scope decisions and their value

consequences?

Our results indicate that all three explanations are materially relevant for explaining both

domestic and cross-border expansion. However, efficiency-oriented theories of the firm are

much less relevant in the time period that we consider (explaining only 36-50% of expansion

activity) relative to previous time periods that reported that synergy accounts for around 75% of

expansion activity). Simultaneously, agency theory is much more relevant in the time period that

we consider relative to previous time periods for expansion activities in the US (whether

domestic or cross-border), accounting for 40-45% of these expansion activities. These results

suggest that the ―winner‘s curse‖ could be a particular problem that plagues such expansion, and

leads to heightened concern for the effectiveness of governance mechanism both in the US and

overseas that limit the discretion of managers to engage in value-destroying expansion. Finally,

we find that efficiency-oriented theories of the firm are more relevant for explaining cross-border

expansion of US firm internationally than for US domestic expansion or foreign expansion into

the US. US firms expanding overseas appear to be more likely to capitalize on the frictions of

international markets to create economic value. Institutional effects do matter in the explanatory

power of theories of the firm.

32

This study could be extended in several ways. Further research is needed to explore the

sources of value creation in domestic and cross-border acquisitions and their differences, if any.

A more in-depth analysis of the differences in institutional characteristics across countries may

also help to shed light on the similarities and differences between domestic and international

acquisitions. Finally, this study abstracts from firm-level characteristics in exploring institutional

effects. A natural extension would incorporate such characteristics into the analysis.

Finally, we note that firms can expand their activities in the domestic or the international

context using different modes: via de novo expansion, by asset purchases, by alliance activities,

or by acquiring other corporations. Since our empirical setting only considers the lattermost of

these modes of expansion, we leave for future work to explore the differential relevance of

theories of the firm for expansion by other modes.

33

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39

Table 1

Empirical Predictions of the Synergy, Managerialism and Bounded Rationality Hypotheses

EMPIRICAL

IMPLICATIONS

SYNERGY HYPOTHESIS MANAGERIALISM

HYPOTHESIS

BOUNDED

RATIONALITY

HYPOTHESIS

Co-

Specialization

Competition Acquirer

Managers

Acquirer/T

arget

Managers

Panel A: Total Gains and

Average Gains to Acquirers/

Targets

Average Total Gains >0 >0 <0 <0 0

Average Gains to Acquirers >0 0 <0 <0 <0

Average Gains to Targets >0 >0 >0 <0 >0

Panel B: Discriminating

Between Synergy versus

Bounded rationality – Positive

Total Gains

Relationship Between Target

Gain and Acquirer Gain

>0

0

-

-

<0

Panel C: Discriminating

Between Agency versus

Bounded rationality –

Negative Total Gains

Relationship Between Target

Gain and Total Gain

-

-

<0

>0

0

40

Panel B: Testable Implications

H1: Synergy Hypothesis for Domestic and Cross-border Acquisitions

i) There will be positive total gains on average

ii) The proportion of acquisitions with positive total gains will be higher than that expected by chance

iii) There will be non-negative gains on average to acquirers

iv) There will be positive gains on average to targets.

H1a: Bounded Rationality Hypothesis for Domestic and Cross-border Acquisitions

i) There will be zero total gains on average

ii) The proportion of acquisitions with positive total gains will be equal to that expected by chance

iii) There will be negative gains on average to acquirers

iv) There will be positive gains on average to targets.

H1b: Managerialism hypothesis for Domestic and Cross-border Acquisitions

i) There will be negative total gains on average in acquisitions

ii) The proportion of acquisitions with negative total gains will be higher than that expected by chance.

iii) There will be negative gains on average to acquirers

iv) There will be positive gains on average to targets.

Positive total gains/positive acquirer gains sample:

i) Synergy – co-specialization: positive correlation between target gains and acquirer gains.

ii) Synergy – competition or bounded rationality: no correlation between target gains and acquirer

gains

iii) Synergy – competition: no correlation between target gains and acquirer gains.

iv) Bounded rationality: negative correlation between target gains and acquirer gains.

Negative total gains /positive target gains sample:

i). Acquirer managerialism: negative correlation between target gains and total gains.

ii) Bounded rationality: no correlation between target gains and total gains.

Negative total gains/negative target gains sample:

i) Acquirer and target managerialism: positive correlation between target gains and total gains

ii) Bounded rationality: no correlation between target gains and total gains.

H5a: Institutional characteristics of target firm‘s country

i) The correlation between target and acquirer gains/ target and total gains will be similar for

41

transactions involving targets from market economies (US domestic acquisitions and US acquisitions

of foreign targets in market economies).

ii) The correlation between target and acquirer gains/ target and total gains will be dissimilar for

transactions involving targets from market economies versus targets from non-market economies.

H5b: Institutional characteristics of acquiring firm‘s country

i) The correlation between target and acquirer gains/ target and total gains will be similar for

transactions involving acquirers from market economies (US domestic acquisitions and acquisitions

by foreign acquirers in market economies).

ii) The correlation between target and acquirer gains/ target and total gains will be dissimilar for

transactions involving acquirers from market economies versus acquirers from non-market

economies.

42

Table 2

Summary Statistics

MEAN MEDIAN MIN MAX

RATIO

POS:NEG

Panel A: Full Sample (n=1224)

TOTGAIN ($m.) 21.98 9.86 -13,683.81 9,747.07 57:43***

ACQGAIN ($m.) -122.10*** -7.28 -12,253.49 9,173.62 43:57***

TARGAIN ($m.) 144.35*** 26.70 -2,471.99 3,997.44 85:15***

TOTGAIN (%) 2%*** 2% -50% 168% 57:43***

ACAR (%) -1%*** -1% -56% 192% 43:57***

TCAR (%) 21%*** 18% -92% 150% 85:15***

Panel B: Domestic (US acquirer-US target) (N=946)

TOTGAIN ($m.) -18.10 6.47 -13,683.81 9,747.07 56:44***

ACQGAIN ($m.) -147.53*** -9.21 -12,253.49 9,173.62 41:59***

TARGAIN ($m.) 129.65*** 24.57 -2,471.99 3,997.44 84:16***

TOTGAIN (%) 2%*** 1% -50% 84% 56:44***

ACAR (%) -2%*** -2% -56% 98% 41:59***

TCAR (%) 21%*** 18% -92% 150% 84:16***

Panel C: Cross-border 1 (US acquirer-foreign target) (N=101)

TOTGAIN ($m.) 147.69** 41.35 -1,710.40 4,418.62 60:40**

ACQGAIN ($m.) 57.34 9.66 -1,860.04 4,093.65 55:45

TARGAIN ($m.) 91.31*** 20.74 -2,19.44 1,562.91 81:19***

TOTGAIN(%) 3%*** 3% -0.21 51% 60:40**

ACAR (%) 1% 1% -0.28 30% 55:45

TCAR (%) 17%*** 11% -30% 97% 81:19***

Panel D: Cross-border 2 (Foreign acquirer-US target) (n=177)

TOTGAIN ($m.) 164.45** 36.89 -3,699.62 7,245.09 60:40***

ACQGAIN ($m.) -88.58 -8.62 -4,577.36 5,234.49 47:53

TARGAIN ($m.) 253.13*** 66.37 -192.76 3,028.92 89:11***

TOTGAIN (%) 4%*** 2% -23% 168% 60:40***

ACAR (%) 1% -1% -32% 192% 47:53

TCAR (%) 27%*** 23% -43% 124% 89:11***

43

Table 3

Frequency Distribution of Transactions by Total Gains, Acquirer Gains and Target Gains

in US Domestic and Cross-Border Acquisitions

44

Table 4

Regression Estimates: Relationship between Target/ Acquirer Gain and

Target /Total Gains

a measured over the period from day -5 to day +5

b Dummy=0 if Acquirer Gain is positive, 1 if Acquirer Gain is negative

c Dummy=0 if Target Gain is positive, 1 if Target Gain is negative

*** significantly different from zero at the 0.01 level (two-tailed test)

** significantly different from zero at the 0.05 level (two-tailed test)

* significantly different from zero at the 0.10 level (two-tailed test)

α β1 β2 F R2

Panel A: Domestic (US acquirer-US target) (N=946)

Positive Total Gains Only (n=533)

Target Gain = α + β1(Acquirer Gain) 178.92 *** -0.01 0.18 0.00

Target Gain = α + β1(Total Gain) 83.04 *** 0.30 *** 217.44 *** 0.29

Target Gain = α + β1(Acquirer Gain) +

β2(Acquirer Gain*Dummyb) 108.13 *** 0.12 *** -1.54 *** 140.89 *** 0.35

Negative Total Gains Only (N=413)

Target Gain = α + β1(Acquirer Gain) 21.81 -0.09 *** 53.43 *** 0.12

Target Gain = α + β1(Total Gain) 58.32 *** -0.02 2.56 0.01

Target Gain = α + β1(Total Gain) +

β2(Total Gain*Dummyc) 68.86 *** -0.09 *** 1.36 *** 125.85 *** 0.38

Panel B: Cross-border 1 (US acquirer- foreign target) (n=101)

Positive Total Gains Only (n=61)

Target Gain = α + β1(Acquirer Gain) 109.33 *** 0.00 0.00 0.00

Target Gain = α + β1(Total Gain) 59.33 * 0.13 *** 8.45 *** 0.13

Target Gain = α + β1(Acquirer Gain) +

β2(Acquirer Gain*Dummyb) 48.80 *** 0.06 * -2.89 *** 44.92 *** 0.61

Negative Total Gains Only (n=40):

Target Gain = α + β1(Acquirer Gain) 20.20 -0.16 *** 9.32 *** 0.20

Target Gain = α + β1(Total Gain) 56.16 ** -0.04 0.38 0.01

Target Gain = α + β1(Total Gain) +

β2(Total Gain*Dummyc) 63.45 *** -0.08 1.74 *** 4.31 ** 0.19

Panel C: Cross-border 2 (Foreign acquirer-US target) (n=177)

Positive Total Gains Only:

Target Gain = α + β1(Acquirer Gain) 308.04 *** -0.02 0.13 0.00

Target Gain = α + β1(Total Gain) 122.13 ** 0.33 *** 47.16 *** 0.31

Target Gain = α + β1(Acquirer Gain) +

β2(Acquirer Gain*Dummyb) 110.89 *** 0.20 *** -2.18 *** 86.57 *** 0.62

Negative Total Gains Only:

Target Gain = α + β1(Acquirer Gain) -3.35 -0.30 *** 62.03 *** 0.48

Target Gain = α + β1(Total Gain) 98.24 * -0.19 *** 8.37 *** 0.11

Target Gain = α + β1(Total Gain) +

β2(Total Gain*Dummyc) 91.03 * -0.29 *** 5.98 *** 9.76 *** 0.23

45

Table 5

Acquisition Explanations and Value Creation/ Destruction in US Domestic and Cross-Border

Transactions

a 392.62*** 411.83*** 652.66*** 434.17***

251.47*** 336.50*** 455.96*** 291.48***

141.70*** 76.56*** 196.81*** 143.25***

0.10*** 0.10*** 0.12*** 0.11***

0.08*** 0.08*** 0.10*** 0.08***

0.29*** 0.25*** 0.30*** 0.29***

170.47*** (53.51) 349.18*** 160.83***

(73.12) *** (198.24) *** (161.80) ** (104.40) ***

243.58*** 145.98*** 509.09*** 265.16***

0.05*** (0.01) 0.07*** 0.04***

(0.02) *** (0.04) *** 0.01 (0.02) ***

0.27*** 0.15*** 0.29*** 0.25***

(448.11) *** (260.23) ** (425.75) *** (440.39) ***

(516.29) *** (230.64) ** (603.24) *** (521.66) ***

68.22*** (30.66) 178.62*** 81.43 ***

(0.07) *** (0.12) *** (0.05) *** (0.07) ***

(0.10) *** (0.13) *** (0.08) *** (0.10) ***

0.11*** (0.08) ** 0.23 *** 0.12 ***

a Mean values of dollar gains and CARs are reported in the cells.

*** significantly different from zero at the 0.01 level (two-tailed test)

** significantly different from zero at the 0.05 level (two-tailed test)

* significantly different from zero at the 0.10 level (two-tailed test)

46

Table 6

Institutional Effects: Market-Oriented Economies versus Non Market-Oriented Economies

α β1 F R2

Panel A: Domestic (US acquirer-US target)(n=946)

Target Gain = α + β1(Acquirer Gain) 122.31 *** -0.05 *** 17.29 *** 0.02

Target Gain = α + β1(Total Gain) 131.19 *** 0.08 *** 53.88 *** 0.05

Panel B: Cross-border 1a (US acquirer- foreign target where targets are from market- oriented

economies)(n=35)

Target Gain = α + β1(Acquirer Gain) 134.02 *** -0.43 *** 7.69 *** 0.19

Target Gain = α + β1(Total Gain) 118.94 *** 0.48 *** 12.22 *** 0.27

Panel C: Cross-border 1b (US acquirer- foreign target where targets are from non-market oriented

economies) (n=66)

Target Gain = α + β1(Acquirer Gain) 47.51 *** 0.04 ** 4.12 ** 0.06

Target Gain = α + β1(Total Gain) 41.48 *** 0.06 *** 11.78 *** 0.16

Panel D: Cross-border 2a (Foreign acquirer-US target) where acquirers are from market oriented

economies) (n=53)

Target Gain = α + β1(Acquirer Gain) 160.44 ** -0.34 *** 16.46 *** 0.24

Target Gain = α + β1(Total Gain) 248.01 *** 0.17 2.51 0.05

Panel E: Cross-border 2b (Foreign acquirer-US target where acquirers are from non-market oriented

economies) (n=124)

Target Gain = α + β1(Acquirer Gain) 255.37 *** -0.03 0.46 0.00

Target Gain = α + β1(Total Gain) 213.99 *** 0.18 *** 22.14 *** 0.15

*** significantly different from zero at the 0.01 level (two-tailed test)

** significantly different from zero at the 0.05 level (two-tailed test)

* significantly different from zero at the 0.10 level (two-tailed test

47

Figure 1

Summary of Results: Incidence of Acquisition Explanations and Value Creation/ Destruction in

US Domestic and Cross-Border Transactions

SYNERGY HYPOTHESIS

SYNERGY: CO-SPECIALIZATION

Frequency a

US-Foreign: 49% > US-US: 36%

Foreign-US: 40%

Average Total Value Creation b

Foreign-US: $653 m >US-US: $393 m, 10%

12% US-Foreign: $413 m, 10%

BOUNDED RATIONALITY HYPOTHESIS

Frequency US-Foreign: 40% > US-US: 20%

Foreign-US: 20%

Average Total Value Creation US-Foreign: ($198.24 m) >US-US: ($73.12 m)

Foreign-US: ($161.80 m)

MANAGERIALISM HYPOTHESIS

Frequency US-US: 44% > US-Foreign: 12%

Foreign-US: 40%

Average Total Value Creation US-US: ($448 m), (7%)

US-Foreign: ($260 m), (12%)

Foreign-US: ($426 m), (5%)

Value of Acquirer

+

Target

Value of

Acquirer

+

Target

Before Acquisition After Acquisition

Value of

Acquirer

+

Target

Value of Acquirer

+

Target

Before Acquisition After Acquisition

Value of

Acquirer

+

Target

Value of Acquirer

+

Target)

Before Acquisition After Acquisition

48

Synergy

Hypothesis

Managerialism

Hypothesis

Bounded

Rationality

Hypothesis

Managers motivated to

create economic value?

Yes No Yes

Managers‘ cognitive

limitations interfere with

creating economic value?

No No Yes

Market frictions Yes ? No

Effective governance

mechanisms

Yes No ?

Environmental complexity

uncertainty

? ? Yes

49