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C14/17/011#54270970

Abstract:

Investment banks often play an important role in various corporate transactions, like IPOs and M&As. Research has tried to assess whether firms benefit from the investment banking business. This is especially an important question when they hire investment banks with a strong reputation, which tend to receive a higher compensation (see e.g. Fernando et al., 2013). While Fernando et al. (2013) show that paying a higher premium for an investment bank with a higher reputation is also beneficial for the issuing firm in IPOs and SEOs, research has not yet found conclusive evidence on the added value of investment banks in M&A transactions. This research project aims to explore the role and the added value of investment banks in European M&A during the period 1997-2012. Investment banks and other financial institutions play an important role as financial advisors in these M&A deals. They can offer a wide range of services, such as providing strategic advice on target selection, deal structuring, deal financing and negotiations. The literature on the role of financial advisors in mergers and acquisitions (M&A) has indeed pointed out that many companies hire supporting services for their acquisitions. To date, however, this literature focuses almost exclusively on US and UK M&A transactions as of the 1980s. Moreover, since these companies tend to hire financial advisors for almost all of their deals, this research usually only considers the choice between hiring a top-tier advisor and a non-top-tier advisor, rather than the choice between executing a deal in-house and hiring the services of an investment bank. The existing studies have also assessed the impact of financial advisors on M&A value creation (see e.g., Bowers and Miller, 1990; Golubov et al., 2012; Ismail, 2010; Kale et al., 2003; Schiereck et al., 2009). However, scholars have not been able to provide conclusive results as to the role of financial advisors in M&A activity. Two hypotheses are typically contrasted. The "deal completion hypothesis" posits that financial advisors have strong incentives to close deals, rather than to select and structure better deals for their clients (Bao & Edmans, 2011; McLaughlin, 1990; Rau, 2000). In contrast, the "superior deal hypothesis" posits that the M&A market itself imposes strong incentives to reputed investment bankers to deliver excellent deals (Bodnaruk et al., 2009; Golubov et al. 2012; Kale et al., 2003). Three main research questions will be explored in this research project, leading to three articles. First, we examine under what conditions European listed companies, both targets and acquirers, choose to implement the deal in house or rather choose to hire an investment bank to advise them; We hereby consider the rational explanations for hiring investment bankers that are offered by the traditional literature, such as alleviating information asymmetries about the target firm, reducing deal-related transaction costs, and signaling deal quality to outside investors (Servaes and Zenner, 1996). In addition, we look at the impact of the different investor protection regimes in Continental Europe and the United Kingdom. What's more, specific for Europe, we are able to examine whether large shareholders impact the decision to hire an investment banker. Acquiring companies owned by a large shareholder may have smaller incentives to look for external M&A advice when the firm's strategy is motivated by the shareholders' private benefits of control. Moreover, an investment bank with a strong reputation may be reluctant to assist on these deals. Indeed, if deals motivated by the shareholder's private benefit of control are value-destroying, they can harm the reputation of the assisting investment bank. Furthermore, a large institutional owner may already possess valuable knowledge about the M&A process, making it less necessary to hire a financial advisor. Apart from the question whether a firm hires an investment bank, we will also address the question which investment bank the firm hires. We will look at the choice between hiring a top-tier advisor or a boutique financial advisor, between hiring an industry-specialist in the target industry or not, and between retaining a previous advisor or not. This last choice is especially interesting, since Fernando et al. (2012) find no beneficial effects for relationships between an investment bank and a firm in the context of an M&A, suggesting that a firm has no incentive to retain its previous advisor. The second question is whether acquiring firms that hire (top) investment banks create more value through their takeovers, compared to acquiring firms that execute a deal in-house. We will use the standard event study methodology to calculate the M&A value effects and the methodology of Golubov et al. (2012) to control for potential endogeneity problems. We will pay attention to the role of the advisors during the different stages in the economic cycle. The reason is that if financial advisors care more about deal completion, which can generate high fee income, than about value creation for their clients, this behavior may particularly occur in periods of economic downturns, in which the fees of investment banks are under pressure. In a similar vein, the added value of investment banks can be different during different stages in an M&A wave. Indeed, previous research finds that it are especially the deals in the latter stage of an M&A wave that are value-destroying (Martynova & Renneboog, 2008; Duchin & Schmidt, 2013). Thus, investment banks may be able to add more value in this situation. In line with previous research, we will additionally test the impact of the reputational capital of the advisor. We plan to use two proxies for advisor reputation. First, we will use a top-tier dummy variable as in Golubov et al. (2012), which starts from a ranking of the advisors based on their absolute market values in the sample period. Second, we will use the measure introduced by Megginson and Weiss (1991), which is based on the relative market values of the advisors in the underwriting market, but we will apply it to the M&A market. Finally, the third paper examines whether acquirers who use the services of an investment bank structure their takeovers in a different way than acquirers who implement their acquisitions in-house. The "superior deal hypothesis" implies that investment banks will structure acquisitions in a way that maximizes their clients' value. Yet, Hayward (2003) proposes that investment banks have incentives to lead their clients to more a complex structuring of their (future) acquisitions. Regarding deal structuring, we primarily focus on the consideration paid to target shareholders (cash, stock, or a combination) and the financing of the deal (e.g., relying on internal cash, raising a new bank loan, placing bonds or stocks in public financial markets). To further examine this research question, we additionally consider the relation between investment banks and the likelihood of deal completion, the time to completion, and the premiums paid to target shareholders.