Information Asymmetry and Host Country Institutions in Cross-Border Acquisitions.

Date01 Diciembre 2020
AuthorReddy, Rama Krishna

1 Introduction

Firms entering foreign markets face substantial transaction-level hazards from the potential opportunistic behavior of a transacting partner (Stevens and Makarius 2015). These hazards are exacerbated in terminal transactions such as cross-border mergers and acquisitions (M&As) (Ragozzino and Reuer 2007).

Yet while cross-border M&A transactions are highly vulnerable to such hazards, they remain persistently popular in recent decades. In 2018, cross-border M&As reached the all-time high of 62% of all global FDI inflows (UNCTAD 2019), despite the fact that they regularly fail to create value for acquirers (King et al. 2004; Moeller and Schhngermann 2005). Accordingly, M&A research that expands our understanding of predictors related to M&A success (Rottig 2013; Stahl et al. 2005) is valuable for the M&A activity that is estimated at $1 trillion by US firms alone in 2018.

One indicator of potential issues between M&A partners is proxied by the duration of the M&A arbitration phase. The longer this process, the more indicative that either a greater number, or more difficult, transaction-level tasks are being managed through the process, given that swift negotiations are preferable and less costly for both partners. Thus, longer arbitration usually indicates that increased effort is needed to protect the acquiring firm from overvaluing an acquisition based on adverse selection (e.g., Mukherji et al. 2013; Ragozzino and Reuer 2007). Specifically, Akerlof's (1970) seminal depiction of a 'market for lemons', explained that this adverse selection arises from the information asymmetry that exists between buyers and sellers (Bergh et al. 2019). In cross border mergers, though, acquirers face unique host-country related information asymmetry, as there is variance in the comprehensiveness and accuracy of information for evaluating a target, due strongly to the variance in requirements and efficacy of institutions in the host country (Hitt et al. 2006).

Indeed, the potential impact of both formal and informal national institutions on transactions, specifically cross-border transactions, is well recognized (Holmes et al. 2013). Formal market supporting institutions function as key in establishing and maintaining mechanisms that support successful market economies, particularly through adopting and enforcing rules that improve market functioning and reduce inefficiency costs (Fleck 2000). In addition to the direct effects on information quality from this formal institutional system, informal cultural mechanisms can also strongly influence the efficacy of these institutions, as societal actors respond to the demands for greater information production and transparency. Of the several cultural attributes that may reveal insights about this response, uncertainty avoidance, especially as measured in the GLOBE study, is especially compelling, as it measures the extent to which individuals in a country prefer to rely on regulations, rules, and order to lower uncertainty.

Evidence already shows that host country characteristics are meaningful to cross-border investment outcomes (Bhardwaj et al. 2007). To date, though, the M&A literature has not extended such impacts to the arbitration phase. Moreover, with a notable exception (Baik et al. 2015) regarding earnings management behavior, theory is also underdeveloped on how features of the macro-level host context relate to a greater probability of producing transactional information asymmetry that can lengthen arbitration. Thus, we investigate: "How does the quality of the host country market-supporting institutions and level of uncertainty avoidance interact to affect the length of the public arbitration phase of an acquisition ?". Here we draw on a sample of 3376 cross-border acquisitions conducted within the years 2006-2016 from a single home country (United States) to 39 host countries.

We make contributions to three major veins of research. First, we draw attention to the wide-ranging models that describe the M&A process to highlight the unique importance of the arbitration phase, theorizing ties to the role of information asymmetry. In this effort we tested, and found, that a lower duration of the arbitration phase has a significant positive association with post-acquisition performance. Our findings suggest some boundary conditions on the inverted-U relationship found in Thompson and Kim (2020) which may reflect our important sample feature limited to international investments. It also incorporates more recent data (2006-2016), which is less impacted by the 2008 recession impacting their data period (2000-2010). Thus, we offer new empirical evidence examining this strong assumption in the literature.

Secondly, we theorize about conditions that are likely to shape the informational environment of host countries and hence potential for information asymmetry, and under which, cross-border M&A transactions take place. We did find that greater levels of market-supporting institutions (MSI) in a host country lowered the duration of the public arbitration process, which we attribute to a likelihood of greater informational transparency and reliability, and lower information asymmetry. We also posited that higher uncertainty avoidance (UA) cultures inherently inculcate more rigor and rule adherence in the practices of the firms in the economy, and our findings indicate it may at least partially substitute for a lack of strong market institutions in low MSI countries, as evidenced by lowering the duration of the public M&A process in those low MSI countries.

Our third insight expands on our unexpected result that a host country's uncertainty avoidance (UA) acts very differently on arbitration duration in countries with a high level of market-supporting institutions (MSI). As we built our hypotheses around the availability and reliability of information at the transaction level, we concentrated on the above finding that cultural UA preferences may improve transparency in low MSI environments. It turns out, though, that such cultural uncertainty avoidance has a much more dramatic effect on the duration of the arbitration phase in high MSI host countries, lengthening it considerably--indicating potentially that such host countries incorporate substantial process burdens on the acquirers as precautionary measures.

In sum, our findings inform managers about the role of the host country context on the process of pursuing an M&A deal, noting that country-level impacts that slow arbitration also imply the possibility of some decrement in future performance. Governments should consider how the adoption of market-supporting institutions enhance arbitration speed overall, but that such institutions are similarly subject to slowing processes if uncertainty avoidance becomes paramount. By examining the interaction between MSI and UA, we provide further evidence of the value of more configurational/interactional views in depicting the role of institutions (Jackson and Deeg 2008).

Below we develop our theory and hypotheses. In Sect. 3, we describe our sample data and our variable specifications. Section 4 provides our analyses and results, and we conclude with a discussion of our findings in Sect. 5.

2 Background and Hypotheses

M&As are the most popular form of corporate expansion, both domestically and across-borders. Management research has increasingly taken a behavioral turn in this arena, including the incorporation of institutional perspectives (Devers et al. 2020). Studies, though, have traditionally downplayed the key role of the pre-acquisition M&A process (Sacek 2016), in favor of post-acquisition integration (Birkin-shaw et al. 2000; Dikova et al. 2010). But, with the rise of global value chains, multinationals have been faced with increasing market pressure to build competencies in flexibly assembling and governing transnational supply chains to remain competitive (Gereffi et al. 2005).

There is certainly no 'standard M&A process', and thus multiple frameworks exist in the literature. Haspeslagh and Jemison (1991) identified two central phases: a pre-deal decision making phase, and post-deal integration process. Voss (2007) depicted acquisition processes across three phases, which included the preparation, the transaction, and the integration of the M&A. Other more elaborate frameworks include DePamphilis' (2009) extensive book length, ten-phase structured process (DePamphilis 2009), and frameworks that further break down pre-deal processes into foundation, pre-contacts and analysis, negotiations, and transaction (McSweeny and Happonen 2012).

Notwithstanding this variety, the existing frameworks show broad consensus that the acquisition process contains at least the two vitally important phases of 'predeal' process and 'post-deal' integration. They are interdependent, with the pre-deal acquisition process affecting both post-deal integration and overall acquisition success (Dikova et al. 2010; Haspeslagh and Jemison 1991; McSweeny and Happonen 2012).

Our study concerns the 'public arbitration phase' of the pre-deal process. As described by Dikova et al. (2010), the pre-deal process consists of the three events of private initiation, public announcement, and resolution. In the initial period, a private takeover process begins with negotiations between the seller and the buyer under confidentiality and non-solicit clauses (Dikova et al. 2010). Next, after a public announcement, the public take-over process starts as the seller and buyer engage in the process of arbitration and come to a resolution, which we define as the public-arbitration phase. This phase revolves around an exchange of additional information, due-diligence and revaluation, deal structuring and financial planning, integration planning, and the drafting and negotiation of the purchase agreement (Dikova et al. 2010) (Fig. 1).

2.1 The Role of Information Asymmetry

A central task in the pre-deal M&A...

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