Resource - Article - Acquisitions of Public Versus Private Firms

Faculty & Research
Acquisitions of Private Versus Public Firms:

Private Information, Target Selection and
Acquirer Returns
by
Laurence Capron
and
Jung-Chin Shen
2005/74/ST
Working Paper Series

Private Information, Target Selection and Acquirer Returns
Laurence Capron
Strategy Department
INSEAD
Boulevard de Constance
77300 Fontainebleau, France
Tel: 33 1 60 72 44 68
Fax: 33 1 60 74 55 00
E-mail: laurence.capron@insead.edu
Jung-Chin Shen
School of Administrative Studies
Atkinson Faculty of Liberal and Professional Studies
York University
4700 Keele Street
Toronto, Ontario
Canada M3J 1P3
Tel: (1) 416-736-2100 Ext. 22494
Fax: 416-736-5963
E-mail: jcshen@yorku.ca
Version: November 14, 2005

ABSTRACT
On average, acquirer returns when buying public firms are negative. Is this also the case
when buying private firms? What drives the acquirer’s choice between public and private
targets? To address these issues, we measured the stock market returns of public acquirers of
private and public targets and obtained data on their motivations and competitive environment
through a survey. First, we find that acquirer returns are significantly higher when buying private
firms than when buying public firms, even after controlling for endogeneity biases using
Heckman’s procedure. In fact, we find that, on average, acquirer returns are positive when
buying private firms. Second, we find that acquirers are less likely to acquire private targets
when they are confronted with high information asymmetry because of their limited ability to
value the desired assets or when they are highly uncertain about the value of the targeted assets.
These results challenge some of the established findings of the M&A literature, which are based
on analyses of the acquisitions of public targets and increase our understanding of the differences
between acquisitions of public firms and private firms.
INTRODUCTION
The volume of acquisitions involving privately-held targets far surpasses that of publicly-traded
firms. Between 60 to 75 percent of the firms acquired in the U.S. between 2000 and 2004 were
privately-held (see Figure 1). Other studies find similar results across longer time periods and
countries (Moeller, Schlingemann and Stulz, 2004; Faccio, McConnel and Stolin, 2005). Yet,
despite some notable exceptions (Graebner and Eisenhardt, 2004; Graebner, 2004; Reuer and
Ragazzino, 2005), acquisitions of private firms remain largely unexplored. Most existing studies
of M&A performance have focused on acquisitions of public targets by public acquirers
(Chatterjee, 1986; Singh and Montgomery, 1987; Lubatkin, 1987; Seth, 1990).
****Insert Figure 1 about here ****
The lack of research on acquisitions of private targets raises the question of whether some
of the key established findings of research on M&As hold for acquisitions of private firms. In
particular, it has been established that, on average, public acquirers experience negative or
insignificant abnormal returns on the announcement of acquisition of public target (Andrade,
Mitchell, and Stafford, 2001). The lack of research on acquisitions of private targets raises the
following questions: Do the results found on acquirer returns when buying public targets extend
to the acquisitions of private targets? What drives the acquirer’s choice between public and
private targets?
The objective of this paper is to address these two unresolved issues. To achieve this
objective, we draw on research in strategy and finance to understand how acquisitions of private
and public targets may create different value for the acquirer and how acquirers choose between
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public and private targets. Our central argument is that acquirers of private firms earn superior
returns because they are able to exploit the higher information asymmetry and uncertainty
associated with buying private targets. In addition, acquirers can better appropriate the value of
private information on private targets because of reduced bidder competition and lower
dissemination of private information to the public associated with acquisitions of private targets.
We also expect that acquirers are more likely to buy private targets than public firms when they
have the ability to evaluate the target’s assets and when the uncertainty about the value of the
targeted assets is not too high.
Our study contributes to a small but growing body of research comparing acquisitions of
private and public companies. Recent studies in the finance literature argue that there is a
“private firm discount” (Koeplin, Sarin and Shapiro, 2000), which is mostly driven by an
illiquidity discount (Fuller, et al., 2002; Koeplin et al., 2000). Yet, evidence for the illiquidity
discount is ambiguous. Summarizing this literature, Faccio, McConnell, and Stolin (2005)
conclude that “the fundamental factors that give rise to the listing effect remain elusive” (p. 2).
Studies in strategy suggest that differences between acquisitions of public and private firms
might be caused by differences in sellers’ motivations and bargaining power (Graebner and
Eisenhardt, 2004), as well as by differences in the level of private information (Barney, 1986;
1988; Reuer and Ragazzino, 2005).
These recent studies suggest that there are systematic differences between the samples of
acquisitions of private and public targets. This has methodological implications when comparing
acquirer returns for acquisitions of public and private targets. Yet, none of the few existing
studies on acquirer returns when buying private targets has controlled for endogeneity biases in
target selection. In our study, we simultaneously examine (1) the acquirer’s returns for both
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private and public targets and (2) the acquirer’s selection of a private versus a public target, and
we thus take into account endogeneity bias when examining differences in acquirer returns
between private and public targets.
This paper is organized as follows. After reviewing the finance and strategy literature on
acquisitions of public and private firms, we first examine the factors that could lead to
differences in acquirer returns for both types of acquisitions and examine the factors that lead
acquirer to buy private or public firms. In the next section, we describe the event study and the
survey instrument and the three steps of the empirical analysis. First, we examine the effects of
target ownership on acquirer returns. Then, we examine the factors that influence the likelihood
of acquiring private firms rather than public firms. Finally, we examine the effect of target
ownership on acquirer performance after controlling for endogeneity biases (i.e., for the
differences in the samples of private and public firms). In the final section, we discuss the
implications of our results for managers and for future research.
BACKGROUND
The “Private Firm Discount”
Why would the market react favorably to acquisitions of private firms compared to those of
public firms? Finance scholars have named this phenomenom: “the private firm discount”.
Because the acquirer is able to buy private firms at a substantial discount relative to public firms,
the shareholders of the acquiring firm benefit from a more advantageous split of the value among
the merging firms. For example, Koeplin, Sarin and Shapiro (2000) find that private firms are
purchased at an average 18% (book multiples) or 20-30% (earning multiples) discount compared
to equivalent public firms. Similarly, in a study of 331 private acquisitions, Kooli, Kortas and
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L’Her (2003) find that the median private target discount is 34% (earning multiples) and 20%
(cash flow multiples).
The causes of the private firm discount have not been entirely determined. The prominent
explanation has been that private firms suffer from a lack of market liquidity (Fuller et al., 2002).
Liquidity refers to “the speed with which an asset can be converted into cash without the owner
incurring substantial transaction costs or price concessions” (Bajaj, Denis, Ferris and Sarin,
2001). In comparison to the stock of public firms, which can be easily sold on the stock market,
the stock of closely held private companies has only limited liquidity.
The illiquidity discount might explain why, in a stock-financed acquisition, private
acquirers would obtain a lower return than public acquirers, whose shares are more liquid (Ang
and Kohers, 2001). It cannot, however, explain why public acquirers would systematically earn
higher returns when buying a private firm than when buying a public firm, especially if the
acquisition is cash financed. In a stock-financed acquisition, private sellers might accept a lower
price than what a similar public firm in order to increase the liquidity of its shares. For example,
higher liquidity would allow the owners of a private firm to minimize transaction costs in tax
timing strategies and to facilitate a gradual exit. In the context of cash-financed acquisitions of
private firms however, it is unclear how the trading status of the target firm share would matter.
Why would private sellers be willing to accept a higher discount for its assets based on the
superior liquidity of the acquirer’s shares when they will be paid in cash? By the same reasoning,
why would public sellers be able to extract higher returns from the higher liquidity of its assets,
which will be shortly delisted after the acquisition anyway?
Finally, empirical studies (Faccio, McConnell and Stolin, 2005), even those focusing on
stock offers (Ang and Kohers, 2001), have not found empirical support for the illiquidity
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argument. For example, Ang and Kohers (2001) find that the liquidity advantages associated
with New York Stock Exchange bidders (compared to over-the-counter bidders) are not
substantial enough to induce private firm sellers to accept lower control premiums. Faccio,
McConnell and Stolin (2005) conclude that “the listing effect is not just a liquidity effect” (2005:
16). There are also methodological concerns with the studies that aim at measuring directly
acquisition discount of private firms. Private firms have no observable price to serve as an
objective measure of market value from which to calculate a potential private firm discount.
Furthermore, studies comparing the discount of private targets match them with a similar public
target that was also acquired around the same time on a set of few simple criteria, such as
industry and size. Yet, recent studies in strategy on private targets show that size and industry
affiliation are not the only characteristics that differentiate acquisitions of private targets from
those of public targets (Graebner and Eisenhardt, 2004; Shen and Reuer, 2005; Arikan, 2005).
ACQUIRER RETURNS WHEN BUYING PRIVATE VERSUS PUBLIC TARGETS
In this section, we draw on research in strategy, finance, social psychology, and information
economics to propose a more comprehensive set of factors explaining why the market would
respond more favorably to announcements of private target acquisitions than to announcements
of public target acquisitions. In particular, we examine the role of four factors: private
information, bidder competition, publicity on acquisition, and the bargaining power of the target.
Our theoretical model is depicted in Figure 2.
*** Insert Figure 2 ****
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Value creation from private information on private targets
One key difference between public and private targets is the quantity and quality of information
available. Information on public firms is more widely available to bidders, whereas managers of
private firms typically control the information that they want to communicate. The IPO process,
the regulatory disclosure requirements, the greater ties to investment banks, and the greater
coverage by analysts and press increase the visibility of public firms and decrease the uncertainty
about the value of public firms. In addition, public firms are already priced by the market and are
subject to market feedback through the role of professional arbitrageurs. By contrast, private
targets are less visible and transparent to the investment community than public targets, and
therefore more difficult to locate as exchange partners and to value (Deeds, DeCarolis, and
Coombs, 1999). Private targets, notably small targets, tend to face greater difficulties to signal
their value and business prospects to investors (McConnell and Pettit, 1984; Becchetti and
Trovato, 2002).
However, greater information disclosure on public targets is a double-edged sword. On
the one hand, more information is probably available to the average acquirer about a public firm.
As a result, bidders of private firms need to expend considerable resources in screening private
targets and in assessing the quality of their assets, whereas bidders avoid redundant search efforts
when acquiring public firms. On the other hand, greater information disclosure on public targets
means that any acquirer may not have intrinsic differences over another acquirer in terms of its
differential knowledge about the target, i.e. may not have any private information. Not having
superior information about the target is an issue for acquirer since private information constitutes
a main driver of acquirer returns. According to the strategic factor market theory (Barney, 1986),
the most fundamental type of asymmetry capable of generating competitive advantage are inter-
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firm differences in skills at collecting, filtering and interpreting information about the future
value of resources. If firms competing in strategic factor markets collect identical information,
they will have similar expectations about the value of resources, they would ultimately invest in
the same resources (Makadok and Barney, 2001). Bidder competition for same resources will
drive up prices for those resources until the net present value for the successful bidder is close to
zero (i.e., the value to be created is equal to the premium paid). As a result, acquirers can earn
abnormal returns only when the market for corporate control is imperfectly competitive, i.e.
when there is information heterogeneity between potential bidders or unique fit between the
merging firms. An acquirer with superior foresight can earn abnormal returns by buying
undervalued assets that no other bidder has considered buying (Barney, 1988).
In summary, private information is more likely in acquisitions of private targets than
those of public firms, on which many acquirers have access to the same widely available public
information. By contrast, the value of private targets, because of their lower visibility and higher
control over their own information, is less known to the public. Following this rationale, we
argue that, although acquirers incur higher search costs when buying a private firm, they can
extract more benefits from their private information on private targets.
Appropriation of the value of private information on private targets
Yet, for abnormal returns to accrue to a bidder in the presence of private and unique information,
Barney proposed that the private and unique information “cannot not be known by other firms,
both bidders and targets (1988: 74).” If other bidding firms appreciate this information, they are
likely to try to duplicate this value for themselves. Furthermore, targets should not be aware of
the existence of the private and unique valuable information, otherwise they could disseminate it
to competing bidders and capture the increased value from higher valuation of target assets. We
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argue that acquirers are more likely to appropriate the value of its private information on private
targets because of 1) lower bidder competition for private targets, and 2) lower publicity on
acquisitions of private targets. Reduced competition and lower publicity associated with
acquisitions of private targets reduce the target’s bargaining power, i.e. reduce its ability to
appropriate the value to be created through the merger for the benefit of the acquirer (Chatterjee,
1992).
Lower bidder competition for private targets.
Private targets are less likely to turn to rival bidding firms during the acquisition process as the
market for corporate control of private firms is less competitive. As we stressed earlier, the lack
of visibility, transparency and market price associated with private firms create frictions in the
market for corporate control of private firms, and is likely to decrease the pool of potential
bidders. Acquisitions of public and private firms also involve different negotiation processes,
which also affect each party’s bargaining power. The sales of public targets are typically auction-
like in nature. A public target firm in a relatively poor bargaining position vis-à-vis that of a
potential acquirer, can benefit from the auction process inherent in the stock market (Milgrom,
1987) as auction-like contests are more likely to attract entrants when more is known about the
target. By contrast, the sale process of private targets can vary substantially. At best, if the
private targets have a financial advisor, they can promote an auction-like atmosphere, with
participation by a large number of qualified bidders. But private targets are typically sold
through negotiation based on voluntary exchange (Zingales, 1995). Also note that the higher use
of advisors in the sale of public targets, notably that of lead investment banks, foster bidding
wars and raise acquisition premium (Kesner, Shapiro, and Sharma, 1994; Hayward and
Hambrick, 1997).
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Recent research in strategy (Graebner and Eisenhardt, 2004) also suggests that reduced
bidder competition for private targets does not only comes from the functioning of the market for
corporate control but also from the inner motivations of private sellers. Based on twelve
comparative case studies, Graebner and Eisenhardt (2004) find that sellers often consider dealing
with a preferred buyer more important than creating a competitive bidding process. Free from
pressures from the stock market 1 , private firm managers usually have greater autonomy in
decision making (Trostel and Nichols, 1982). Accordingly, the personal motivations of the
owner-managers of private firms are of particular importance in the sell-off decision such as
cultural fit or employee welfare (Graebner and Eisenhardt, 2004). By contrast, governance-based
mechanisms in public firms, such as shareholder litigation, exert pressures on directors and
managers to foster bidder competition in order to find the best purchasing price for their
shareholders (Thompson and Thomas, 2004).
In summary, we expect lower bidder competition for private targets. Lower bidder
competition decreases the control premium paid to the target and increases the acquirer’s ability
to appropriate the value of its private information, i.e. increases its abnormal returns (Jarell,
Brickley and Netter, 1988; Schwert, 1996).
Lower publicity on acquisitions of private targets.
A bid – or pre-bid rumors- on a public firm that reveals new forward-looking information on the
target gets dissipated to other potential bidders due to the publicity and visibility of bids on
public targets and is thus likely to be fully incorporated in the target stock price (Schwert, 1996).
1
Hostile takeovers only occur in acquisitions of public firms. Private firms can refuse unwanted takeover
bids. Schwert (2000) find that hostility significantly increases the probability of an auction and the target’s
acquisition premium. Also note that shareholders of public firms whose ownership is dispersed have an incentive not
to tender their shares if they believe that the post-acquisition value of their shares will be superior to the purchase
price proposed by the bidder. The target shareholder free-riding problem commonly forces acquirers of public
targets to pay for all the potential value created by the acquisition (Grossman and Hart, 1980).
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By contrast, private information on private targets is less likely to be dissipated because of the
lower publicity associated with acquisitions involving private firms. Furthermore, even if private
targets become aware of the existence of the bidder’s private and uniquely valuable information
during the negotiation process, they have a lower propensity to dissipate this information to
competing bidders and to capture the increased value from higher valuation of their assets
because of lower bidder competition on private targets.
Also note that the pre-merger publicity commonly surrounding acquisitions of public
targets fuel competitive bidding and increase acquirer propensity to escalate its commitment (Ku,
Malhotra and Murningham, 2005). In an open bidding process for a public target, the desire of
acquiring managers not to lose face or credibility with others becomes prominent and leads to an
escalation of commitment (Haunschild, Davis-Blake, and Fichman, 1994; Ross and Staw, 1986).
By contrast, in a private negotiation, bidders can break off negotiations without incurring high
prestige costs.
In summary, we expect private information to be a greater source of value creation in
acquisitions of private targets than in those of public targets. We also expect acquirers to be more
likely to appropriate the value of its private information on private targets due to the, lower
bidder competition and lower dissemination of private information to the public for acquisitions
of private targets. Accordingly, we propose:
Hypothesis 1. All else being equal, acquirers of private targets achieve superior
abnormal returns than acquirers of public targets.
ACQUIRER CHOICE BETWEEN PRIVATE AND PUBLIC TARGETS
Private information is a key factor explaining why acquisitions of private firms may create more
value for acquirers than acquisitions of public firms. Yet, exploiting private information requires
12
being able to accurately predict the value of targeted resources and to prevent this information
from being known by other bidders. Thus bidders try to keep a higher degree of information
asymmetry with competing bidders, so as to exploit the benefits of its private information, but try
to reduce the level of information asymmetry that they have vis-à-vis the target. A low degree of
information asymmetry between the bidding and the target firm enables the bidder to have more
accurate expectations about the value of the target resources (Akerlof, 1970). We therefore
expect that information asymmetry between the target and the acquirer is likely to drive the
acquirer’s decision to acquire a private firm rather than a public one. When acquirers face high
levels of information asymmetry because they do not understand the targeted resources or
because they do not know how to value them, they may refrain from buying private firms and
favor acquisitions of public targets, where information asymmetry is more limited.
Acquirer ability to identify and value private targets
We argue that acquirers are more likely to acquire private targets when they understand the value
of the targeted assets. Acquirers are more likely to understand the target’s business when the
target’s assets are related to the acquirer’s business, when they are geographically proximate, or
when the acquirer has accumulated acquisition experience in the target industry.
Related targeted assets
Compared to industry outsiders, industry insiders benefit from a lower degree of information
asymmetry with the target and a higher degree of information asymmetry with other bidders.
Industry insiders can rely on their knowledge base and their familiarity with the target industry to
assess the value of the resources and growth prospects of the target (Levitt and March, 1988;
Singh and Montgomery, 1987; Chatterjee, 1986). In contrast, an acquirer that buys a firm outside
its core business runs a greater risk of over-valuing the target’s resources. Bidders will therefore
13
face a higher likelihood of adverse selection in inter-industry transactions than in intra-industry
deals (Balakrishnan and Koza, 1993). Shen and Reuer (2005) find that acquirers were less likely
to acquire private targets when the deal was outside their core business. We therefore make the
following hypothesis:
Hypothesis 2a: Acquirers are more likely to acquire private targets than public targets when
the target is related to their core business.
Geographic proximity of targeted assets
Information asymmetry, search costs, and valuation difficulties are also likely to increase with
geographic distance. Firms have a lower ability to evaluate distant assets (Rosenkopf and
Almeida, 2003), particularly if they span multiple national settings. As geographic distance
increases, inter-firm linkages decrease, which also reduce the opportunities for gathering
information on targeted resources through social networks and collaboration. Along similar lines
of arguments, Reuer and Shen (2004) find that a sequential divestiture strategy through an IPO is
attractive relative to an outright sale when firms in the industry are geographically dispersed
since it allows to increase the seller visibility. We therefore make the following hypothesis:
Hypothesis 2b: Acquirers are more likely to acquire private targets than public targets when
the targeted assets are geographically proximate.
Acquirer acquisition experience in target industry
Acquirers lacking acquisition experience in the targeted industry run a higher risk of adverse
selection when dealing with private firms than with public firms. Acquisition experience provide
opportunities for the acquirer to improve its skills in screening potential targets with refined
criteria of selection, and to price more correctly new targets based on past experience.
Experience has been found to mitigate information asymmetry (Coff, 1999). Firms with lower
14
acquisition experience may prefer to turn to public targets as those firms are easier to locate and
have already a market price, which help potential buyers calibrate their bid.
Hypothesis 2c: Acquirers are more likely to acquire private targets than public targets when
their acquisition experience in the targeted industry is high.
Uncertainty of the value of targeted assets
We also argue that acquirers refrain from acquiring private targets whose assets’ value is higly
uncertain. If the seller cannot send to the buyer a credible signal that enables the buyer to
distinguish high quality private firms from low quality ones, it creates a risk of adverse selection,
which often leads to fewer transactions (Akerlof, 1970). We outline below two types of assets
whose value is highly uncertain: 1) intangible assets and 2) assets residing in young firms.
Intangible targeted assets
Adverse selection is more likely to occur in the sale of intangible resources. Intangible resources
are information-based resources that include technical know-how of employees, reputation of
products and company, data bases, intellectual property rights of patents, trademarks, licenses
(Itami, 1987; Hall, 1993). The knowledge held by the seller on the resources’ quality is more
difficult to communicate and to verify, which increases the likelihood of ex ante
misrepresentation.
Recent studies outline multiple strategies that an acquirer can use to cope with high
uncertainty about the value of the target’s assets, notably in the presence of intangible assets:
contingent earnouts, lower premium bid, lengthy negotiation, or stock payment (Coff, 1999;
Reuer and Ragazzino, 2005). Using the equity market as a way to screen targets is an alternative
strategy for the acquirer to cope with high uncertainty in the value of the targeted assets. The
equity market acts not only as an information delivery mechanism, conveying information about
15
the target’s assets, prospects and performance (Hellwig, 1980), but it also acts as a signaling
mechanism. Organizational researchers have shown that, under conditions of evaluative
uncertainty, certification contests and endorsements from reputable third parties help assess the
capabilities of social actors (Scott, 1994; Rao, 1994). Being listed in an uncertain environment
can serve as a signal that a firm is of high quality and likely to survive in the long run. Consistent
with this argument, Shen and Reuer (2005) find that in R&D intensive industries, bidders tend to
purchase public rather than private targets.
Hypothesis 3a: Acquirers are less likely to acquire private targets than public targets when
the targeted assets are highly intangible.
Young targeted assets
Firm age affects the level of uncertainty confronting potential bidders. There is a clear
association between firm age and the extent and quality of information available on the firm.
Firms produce more objective data about their operations the longer they have been in operation
(Henderson, 1997). New firms have little objective data to disclose to prospective investors
(Sanders and Boivie, 2004). This suggests that it will be difficult to assess the value of assets that
are located in younger firms. The valuation difficulties associated with the acquisition of young
companies tend to be lower for public targets, however. This is because information disclosure
regulations and observable stock prices help buyers calibrate their bids. Managing the IPO
process successfully can be viewed as a signaling mechanism that discriminates high from low
quality firms (Spence, 1974). The acquirer can also use secondary indicators such as the quality
of third-party endorsements during the IPO (Stuart, Ha, and Hybels, 1999; Gulati and Higgins,
2003) or the proportion of equity divested by venture capitalist at the time of the IPO (Sanders
and Boivie, 2004) to assess the quality of young newly public firms. Accordingly, we propose:
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Hypothesis 3b: Acquirers are less likely to acquire private targets than public targets when
the targeted assets reside in young firms.
This set of hypotheses shows the factors influencing the likelihood that acquirers buy a
private rather than a public target. They also suggest that the acquirer’s choice between private
and public targets is not random, and that there are therefore systematic differences between the
samples of acquisitions of private and public targets. This has methodological implications when
comparing acquirer returns for acquisitions of public and private targets. Yet, none of the few
existing studies on acquirer’s return when buying private targets has controlled for endogeneity
biases in target selection.
DATA AND METHODS
Our research methodology combines: (1) an event study of acquirer returns and (2) a post-
acquisition survey of acquiring firms. This approach follows the spirit of the most recent studies
in finance that combine event studies with ex post survey research to account for firms’ attributes
and actual behavior (Jarrell, 1998).
Among the 273 responses of our survey, we only include in our sample the 101 acquirers
that were stock-listed and for which an event study can be conducted. We then used the SDC
Platinum data base to determine the ownership status of the target firms. Among these 101
targets, 52 were public targets, 40 were private targets (the 9 remaining were not included in the
study as they were government subsidiaries). A detailed description of the survey design and
procedure can be found in Appendix 1.
Measures
Dependent variable: Acquirer’s abnormal returns
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We estimate acquirer abnormal returns using an event study methodology. The daily excess
return of a firm i for day t (ARit) is estimated by:
ARit = Rit − α i − β i Rmt , (1)
where Rit is the observed individual firm return of firm i for day t, and Rmt is the return of a
market index for the same period. In equation (1), αi and βi are estimated via ordinary least
squares (OLS) from the daily returns data of the estimation period preceding the event window.
The daily returns of all the firms in the sample were obtained for a period ranging from 180 days
prior to the acquisition announcement in the Wall Street Journal to 180 days after the acquisition
announcement. The estimation period includes day -180 through -50, and day +50 through +180.
To remove any bias due to changes in a firm’s characteristics around the acquisition
announcement, we apply the procedure outlined in Ruback (1982). The parameters before the
announcement date are estimated on data from the pre-event estimation period; those on or after
the event are estimated from the post-event estimation period. Market-model parameters from
the pre-event estimation period are used to calculate abnormal returns for days -20 to -1.
Similarly, we use parameters from the post-event estimation period to calculate abnormal returns
for days 0 to +1.
Average excess returns for each relative day are calculated by:
N
ARt = (1 N )∑ ARit , (2)
i =1
where N is the number of securities with excess returns during day t.
The cumulative abnormal return (CAR) for each security i, CARi, is formed by summing
individual excess returns over time as follows:
l
CARi , k ,l = ∑ ARit , (3)
t =k
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where CARikl is for the period from t = k days until t = l days.
The cumulative average abnormal return (CAAR) over the event time from k days until l
days is calculated as follows:
N
CAAR k ,l = (1 N )∑ CARi , k ,l . (4)
i =1
Independent variables of the acquirer return model
Using information provided by the SDC Platinum database, we created a binary variable,
“Private ownership”, that is equal to 1 if the target firm is privately held and 0 otherwise.
Independent variables of target selection model
We used a binary variable “related target” obtained from the survey, that takes the value of 1
when the acquirer made the acquisition in its core business and 0 otherwise. Another survey-
based measure, “Target geographic scope”, captures the spatial scope of the target’s operation
with the following three levels: domestic (0), regional (1), and global (2). We used the number of
previous acquisitions made by the acquirer prior to the focal transaction in the target’s industry
to construct the variable “Acquirer experience in target industry”. We used a binary variable
“target intangibles” that takes the value of 1 when the target comes from high-tech industries
and 0 otherwise.2 “Target age” was a self-reported measure on a five-point scale.
Control variables
Differences in the acquirer’s returns of acquisitions of private versus public firms can also be
attributable to differences in the characteristics of 1) the deal, 2) the target, and 3) the acquirer.
2
Measuring the degree of intangibility of the target’s assets is difficult to do for private firms for which we have
little firm-level data on R&D spending and for which a Tobin’s Q (market to book value) cannot be calculated.
Information on the nature of the target industry was drawn from our survey. To measure target intangible, we also
use three survey measures of ex-post transfer of target resources to acquirer. These are: redeployment of innovation,
redeployment of engineering, and redeployment of marketing resources from target to acquirer. Using these
measures instead of the binary variable did not change our results. We therefore used the simpler binary variable.
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Deal attributes. We used a binary variable, “Competing bidder” (as reported in SDC
Platinum) that equals 1 when there is at least one other bidder for the same target and 0
otherwise. We used a five-point scale measure to assess the relative proportion of the target’s
sales to the acquirer’s sales: “Target relative size”3. We used three control variables to account
for “Acquisition motives”. Two main types of motives stand out: 1) strategic realignment
through recombination, with (1a) search for scale and (1b) access to complementarity, and 2)
disciplinary acquisition through stand-alone improvement of the target. Each motivation was
measured on a separate five-point scale measure in the survey. Last, we created a variable,
“cash”, which accounts for the proportion of cash in the deal according to SDC Platinum data
(Chang, 1998).
Target attributes. We included a five-point scale variable “Target pre-acquisition
profitability”, which measures the profitability of the firm relative to its industry average. We
also used a five-point scale variable to capture the “Target industry growth”. Finally, to control
for the idiosyncrasies of the US market for corporate control (Schneper and Guillen, 2004), we
include a binary variable, “US target”, that takes the value of 1 if the target is US and 0
otherwise.
Acquirer attributes. We included a five-point scale variable “Acquirer geographic
scope”. We also use another five-point scale variable “Acquirer pre-acquisition profitability” to
control for the fact that poorly performing acquirers may be enticed to make acquisitions to hide
their poor results. Finally, we included a binary variable, “US acquirer”, to control for the
country of origin of the acquirer.
3
Private targets tend to be smaller than public targets (Moeller et al., 2004). Size confers greater opportunities for
outside options. Almeida, Dokko, and Rosenkopf (2003) find that external learning, notably through formal
mechanisms such as alliances, increases with firm size. Similarly, research on IPO finds that the likelihood of an
IPO increases with the firm’s size (Pagano et al., 1998).
20
Table 1 reports descriptive statistics of the variables we used in this study for private and
public targets. Table 2 reports a matrix of correlations of our variables. Our survey measures are
reported in Appendix 2.
**** Insert Tables 1 and 2 *****
Model specifications
Modeling the acquirer’s choice between public and private firms is important not only for
deepening our understanding of the differences between acquisitions of private and public firms,
but also for obtaining unbiased estimates of the effect of target ownership on acquirer returns
(i.e., estimates that control for endogeneity biases). As stated by Villalonga (2004: 6), “the
simple average difference in outcomes between treatment and control groups is only an unbiased
estimate of the treatment effect when units are randomly assigned to the treatment”. We model
the acquirer’s propensity to acquire a private target as a function of the degree of information
asymmetry that the acquirer faces. More precisely, we used a probit model to estimate the
likelihood of private firm acquisition. The dependent variable is a binary variable that equals 1
when the target firm is private and 0 when the target is public. The independent variables are:
“related target”, “target geographic scope”, “acquirer acquisition experience in target industry”,
“target intangibles”, and “target age”.
To correct for endogeneity biases, we use a Heckman (1979) two-step estimation
procedure. The first step is to estimate the choice model (i.e., the acquirer’s choice of acquiring a
private rather than a public firm). At the second stage of the Heckman (1979) procedure, we
estimate a model of acquirer abnormal returns including the Lambda endogeneity bias control
variable (the inverse of the Mills ratio) obtained from the selection model. The coefficient for
Lambda in the return model therefore captures the effect on performance of all unmeasured
21
differences between acquisitions of private targets and public targets. Incorporating Lambda
enables us to test for the presence of endogeneity biases and to remove them so as to obtain
unbiased estimates for the effects of target ownership on acquirer returns.
The final model to test the effect of ownership on acquirer returns is as follows:
Acquirer returns = β0 + β1(Private target) + β2(Competing bidder) + β3(Target relative size) +
β4(Target profitability) + β5(Target industry growth) + β6(U.S. target) +
β7(Acquirer geographic scope) + β8(Acquirer profitability) + β9(US acquirer)
+ β10(Scale motive) + β11(Complementarity motive) + β12(Disciplinary
motive) + β13(Cash) + β14(Related target) + β15(Target geographic scope)
β16(Acquirer acquisition experience) + β17(Target intangible assets)
+β18(Target Age) + β19 (Lambda) + ε. (5)
RESULTS
Acquirer cumulative average abnormal returns in public vs. private targets
Figure 3 shows the daily CAAR of acquirers of public and private targets for the event window
[-20;10]. It shows that acquirer’s abnormal returns are consistently higher when buying private
targets than when buying public ones. Similarly, Table 3 shows the acquirer CAAR for three
event windows, respectively [-20;10], [-20;5], and [-30;10], as well as a the results of t-tests
comparing the returns for the acquirer of buying public vs. private firms.
**** Insert Figure 3 and Table 3 about here *****
As can be seen in Table 3, the CAAR is higher when buying private firms than when
buying public forms in all three event windows (respectively, by 4.70 percentage points, 3.43
22
percentage points, and 4.45 percentage points) and the differences are all statistically significant
at the 1% level.
The superiority of acquirer returns on private acquisitions is remarkable for two reasons.
One is that the relative median value of the bids for private targets is lower than the bids for
public targets, on average ($158m for private targets versus $826m for public targets, t= -2.56;
p-level<.01). Other things being equal, the smaller bids should have a lower impact on the equity
value of the acquiring firms. The other reason is that the strong positive returns on the
announcement of bids for private targets suggest that the market did not fully anticipate the
private target bids. The lack of market anticipation of acquisitions of private firms is consistent
with the hypothesis of higher private information for private targets. By contrast, information on
bids of public targets seems to be disseminated before the announcement, as can be seen in the
downward shift in acquirer returns a few days before the acquisition announcement (see Figure
3). This pre-bid decrease in the stock price of acquirer of public targets might be the mirror effect
of the pre-bid runup of the price of public targets documented by Schwert (1996).
Table 4 reports the series of OLS regressions of acquirer abnormal returns. Model (1)
examines the effects of target ownership on acquirer returns and Model (2) tests the robustness
of the results of Model 1 after the control variables have been incorporated. After controlling for
a set of variables accounting for deal, target, and acquirer attributes, the effect of private target
ownership on acquirer returns remains positive and significant. Our first hypothesis is supported.
Acquirers of private targets do better for their shareholders than acquirers of public targets at the
announcement of the acquisition.
Note that among the control variables, bidder competition reduces acquirer returns (see
Table 4) and bidder competition is stronger for public than for private targets (see Table 1). In
23
the following section, we examine whether bidder competition mediates the relationship between
target ownership and acquirer returns. Table 1 also indicates that the size of the target relative to
the size of bidder is significantly smaller for private targets than for public targets. Yet, target
relative size does not have a direct impact on acquirer returns. Last, target pre-acquisition
profitability is positively associated with acquirer returns. A highly profitable target is likely to
have valuable resources to be leveraged within the context of the acquisition.
*** Insert Table 4 about here ****
Examining the mediating role of bidder competition
We expect acquirers to be more able to extract value in private than in public targets in part
because of lower competition in the market for corporate control of private firms. To formally
test the mediation effect, we test whether the four conditions suggested by Barron and Kenny
(1986) are met.
First, we find that target ownership (the independent variable) has a positive and
statistically significant effect on acquirer returns (the dependent variable) when bidder
competition (the mediator) is not included in the model (Model 3 of Table 4). Second, we find
that bidder competition has a negative and statistically significant effect on acquirer returns when
target ownership is not included in the model (Model 4 of Table 4). Third, we find that bidder
competition is higher for public targets (8% of the cases) than for private targets (0%) and that
the difference is statistically significant (see Table 1). Last, we find that the coefficient for target
ownership when bidder competition is not included in the model (Model 3) is higher than when
bidder competition is included (Model 2). The target ownership on acquirer return estimates
declines in effect size (from β1 = 4.66, p < .01 to β1 = 3.91, p < .10), but continues to be
significant when the effect of bidder competition is also considered. Taken together, these results
24
show that bidder competition partially mediates the effect of target ownership on acquirer
returns.
Acquirer’s choice between private and public targets
We now turn to the analysis of the factors that drive the acquirer’s propensity to buy a private
target rather than a public target. We find strong support for the five hypotheses proposed (see
results from the Probit model in Table 4).
First, we find strong support for H2a: Acquirers are more likely buy a private target than
a public target when the target is in their core business. Diversification increases information
asymmetry and increases the likelihood that acquirers will value the additional signals of the
value of the assets available when buying public targets. Table 1 shows that only 8% of private
targets were used for diversification purposes, while 24% of public targets were outside the
acquirer’s core business. This result also suggests that private sellers have a smaller pool of
potential buyers since they are less likely to be bought by an acquirer outside their industry. We
also find support for H2b: Acquirers are more likely to buy private targets when the targeted
assets are geographically concentrated in one geographic area rather than dispersed across
several countries. We also find support for H2c: Acquirers are more likely to acquire private
targets than public targets when they have accumulated acquisition experience in the targeted
industry. Altogether, H2a, H2b and H2c suggest that firms consider buying private firms when
their resources, business and geographic position, and their acquisition experience in target
industry provide them with sufficient absorptive capacity to search and evaluate assets from
private firms.
We also find support for H3a and H3b, which argues that firms refrain from making
acquisitions of private firms when there is high uncertainty about the value of the desired
25
resources. Specifically, we find that acquirers are less likely to buy a private target when it is in a
high-tech industry, supporting H3a. Table 1 shows that the proportion of private targets in a
high-tech industry is 8%, while this proportion is of 21% for public targets. This result suggests
that acquisitions of public targets are more commonly used for buying intangible resources. Note
that an alternative explanation of these results could be that, given that intangibles are ill-suited
to debt in external financing (Hall, 2002; Arikan, 2002), firms with a high degree of intangibles
assets are more likely to be publicly traded. Finally, consistent with H3b, we find a negative and
significant relationship between target age and the likelihood of making a private acquisition.
Firms prefer to turn to public targets when the targeted assets reside in young firms. The results
suggest that equity markets might act as a screening mechanism when the value of the assets is
highly debatable.
Controlling for endogeneity biases
Our results show that acquirers tend to select private targets under specific conditions related to
the degree of information asymmetry and to the uncertainty about the value of targeted assets.
The choice between a private and a public target is therefore endogenous and not random, and
we need to control for that when comparing the returns from the acquisitions of private and
public firms. In addition, information asymmetry and evaluation uncertainty do not account for
all the differences between acquisitions of private and public firms. We also want to know the
effect of the unobserved differences between acquisitions of private and public firms on acquirer
returns.
To control for endogeneity biases and to estimate the effects of unobserved differences
between private and public targets, we followed Heckman’s (1979) procedure. We used the
residuals of the choice equation (our probit model) to construct Heckman’s Lambda. Testing
26
whether the coefficient of Lambda in the acquirer returns regression is statistically significant
enables us to measure whether there is endogeneity bias (or selection bias) between public and
private targets. This coefficient also captures the effect of all unmeasured characteristics which
are related to the private/public target acquisition decision on acquirer returns (Model 5). Finally,
because we now control for the effect of these unmeasured characteristics related to the decision
of choosing a private versus a public target, the coefficients of the other predictors in the
equation (and particularly of the binary variable measuring whether the target is private or
public) are unbiased.
Our results (see Model 5 of Table 4) show that the effect of target ownership on acquirer
returns persists and are actually stronger when Heckman’s Lambda is included in the regression.
We also find that Lambda’s coefficient is positive and significant, indicating that the differences
between private and public targets that were not captured in the selection model create value for
acquirers.
In the final model (Model 6 of Table 4), we examined whether the factors that influence
acquirers’ choice between private and public targets also influence acquirer performance.
Including those variables does not change the main results of the effects of target ownership on
acquirer returns. Interestingly, some of the factors that refrain acquirers from buying private
targets (unrelated target, young target, intangible target assets, or low acquisition experience)
also reduce acquirer returns after controlling for target ownership. This further suggest that
acquisitions involving these characteristics are highly risky.
Altogether, our results show that, after controlling for the observed and unobserved
differences between acquisitions of private and public firms, acquirer returns are significantly
higher when buying private firms than when buying public firms. Acquirers do better for their
27
shareholders when buying a private target than when buying a public target. Our results also
suggest that acquirers obtain lower returns with public targets because they are more likely to use
public targets to buy assets whose value is uncertain and are thus penalized by the market. In this
type of acquisition, information asymmetry means that whichever party with private information
will have greater bargaining power.
DISCUSSION AND CONCLUSION
Contribution
Almost all studies in finance and strategy have focused on measuring the returns to acquirers
when buying a public target. In this study, we examine the effect of target ownership on acquirer
returns, after controlling for unobserved differences between both types of targets and after
controlling for endogeneity biases. First, we find that acquirers of private targets significantly
outperform acquirers of public targets around the announcement period. Acquirer returns of
private firms are positive whereas acquirer returns of public targets are negative. Our results are
consistent with recent studies in finance that found that acquirers of private targets outperform
acquirers of public targets (Faccio, McConnel and Stolin, 2005).
Second, we find that acquirers are less likely to acquire private targets when they are
confronted with high information asymmetry because of their limited ability to value the desired
assets or when they are highly uncertain about the value of the targeted assets. Specifically, we
find that bidders are more likely to acquire private targets when: a) the targeted assets are in the
acquirer’s core business; b) the targeted assets are geographically proximate; or c) the acquirer
has accumulated acquisition experience in the target industry. Acquirers refrain from buying
private targets whose asset value is highly uncertain, i.e. for targeted assets that are a) intangible
or b) residing in young firms. Those drivers of selection between private and public targets
28
suggest that the choice of buying a private target is endogeneous and has to be taken into account
when evaluating acquirer return differences for private versus public targets.
Third, we find that Lambda’s coefficient is positive and significant, indicating that the
differences between private and public targets that were not captured in the selection model
create value for acquirers. We could speculate about potential additional sources of value
creation that could be exploited in the context of private targets. These could include potential
improvement in target governance systems, adoption of market-based performance objectives,
standardization of human resources practices, instauration of a more competitive internal labor
market, removal of growth hurdles, and a lower cost of capital.
Our study contributes to the M&A literature by exploring an important segment of the
market for corporate control that has been under-explored. Previous M&A studies suffer from
serious sample selection biases because they do not include private targets, which are more
frequent than acquisitions of public targets. Our study therefore suggests that prior empirical
results regarding acquirer returns for public targets may not generalize to acquisitions of private
targets. Our results represent good news for acquirers’ shareholders: There are segments in the
market for corporate control where acquirer can earn abnormal returns because of competitive
imperfections that acquirers can exploit. Finally, our results emphasize the two main mechanisms
by which acquirer exploit these competitive imperfections when acquiring private firms: 1) the
role of private information and inter-firm information heterogeneity and 2) the role of bidder
competition and merger publicity in shaping the value appropriation between acquirer and target.
At a more theoretical level, our paper articulates the link between private information and
returns of acquirers of private vs. public firms. This contributes to the strategy factor market
theory (Barney, 1986), which shows how inter-firm information heterogeneity (and inter-firm
29
heterogeneous expectations about the future value of target resources) influence the returns of
the acquiring firm (Barney, 1986; 1988; Makadok and Barney, 2001). More precisely, Barney
(1988) specifies three conditions under which acquirers are able to earn abnormal returns: (1)
when private and unique cash flows exist between a bidder and target, (2) when inimitable and
unique cash flows exist between a bidder and target, and (3) luck. While empirical evidence
exists for inimitable and unique cash flows between a bidder and target (Capron and Pistre,
2002), the value of private and unique information has received little attention. In this paper, we
present empirical evidence that are consistent with the role of private information on acquirer
performance: Acquirers of private targets obtain higher returns than acquirers of public targets,
for which more widely public information is available to potential rival bidders. Furthermore, we
also find that information asymmetry between target and acquirer (which is a function of the
acquirer’s ability to evaluate external knowledge and of the uncertainty about the value of
targeted assets) plays a role in the selection of buying a private rather than a public target.
Prescriptive implications
Our study has prescriptive implications for managers. Clearly, acquirers pay a performance toll
when they buy a public target. In terms of value creation, greater information disclosure on
public targets is really a double-edged sword. When the target is public, any acquirer may not
have intrinsic differences over another acquirer in terms of its differential knowledge about the
target. Furthermore, acquirers may indulge themselves into simplified heuristics and form
misperceived risks when acquiring public firm because they have the illusion of familiarity due
to the mere informational exposure to public firms. In terms of value appropriation, market for
corporate control of public firms is also more competitive than market for corporate control of
private firms. Bidder competition and bargaining power of public targets are key element of
30
value appropriation for target shareholders. Acquirers of public targets should also watch the
“auction-like” atmosphere of public deals as well as pressures for escalation of commitment in a
public context.
Our study also bears implications for sellers of private firms. Our results are consistent
with a “private firm discount”, or at least acquirers manage to appropriate a significant portion of
the value to be created through the acquisition. Sellers of private firms should strive to find
mechanisms to enhance their visibility and convey the value of their assets. Several alternative
mechanisms can be used such as patenting activity, formation of alliances, IPO. Sellers of private
firms, which might have less negotiation skills or at least lower acquisition experience than their
public acquirers, may also be careful when they negotiate “psychological benefits” for
themselves or their employees at the expense of the purchasing price. Acquirers are likely after
the acquisition to implement restructuring measures they need irrespective of the “psychological
benefits” negotiating during the deal (Graebner, 2005).
Limitations and future avenues for research
These empirical results, however, do have a few important limitations. We have combined an
event study and survey data to examine the target ownership effect. While survey data offer
detailed information on acquisition characteristics, the limited sample size and the subjective
measurements may weaken the generalizability of the findings. Replication of our findings by
using large sample data and objective measurements could examine the external validity of our
results. Also, the focus of this study has been on acquirer returns at the announcement period,
which may diverge from long-term performance. Comparison of long-term performance of
acquisitions of public and private firms could shed light on the nature of the remarkable acquirer
returns on announcement of acquisitions of private targets. It would be interesting to examine
31
whether the market overreacts to the announcement of the acquisition of a private target or
change its expectations over time.
This study has several implications for future research. Further work in this field might
explore more thoroughly the full array of sources of value creation and value appropriation that
might affect returns to acquirers of public and private firms. Issues such as bidder information
gathering and evaluation capabilities, negotiation expertise, due diligence process, and
governance structures across public and private targets could help us deepen our understanding
of the sources of competitive imperfections in the market for corporate control. Future research
could also examine the variance of acquirer returns within the sample of private targets and
explore the role of contingent factors such as target governance and management features
(Villalonga and Amit, 2005) on acquisition performance. Future research could also investigate
post-acquisition management across public and private targets to understand how target
ownership affects integration efforts and outcomes. Private targets may raise new integration
challenges for a public acquirer, compared to a public target, due to the shifts in culture and
governance systems, the presence of a closely-knit culture, the replacement of family members
and different rules of internal labor markets associated with private targets.
Another area for future research would be to use different performance measures to capture
directly the extent of discount of private targets since abnormal returns do not exist for private
targets. The rare studies that have attempted to compare acquisition multiple of private firms
versus public firms have used a simple size-and-industry matching function to form the
comparable set of acquisitions of public targets. Yet, we find that broader qualitative differences
differentiate acquisitions of private targets from those of public targets. In addition, to capture
differences between private and public targets in a more comprehensive way, we need to go a
32
step further and endogenize the decision to go public from the target’s perspective. Although
several theoretical IPO models are available (e.g., Chemmanur and Fulghieri, 1999), empirically
examining the decision to go public is difficult due to data unavailability on private firms as well
as the limited explanatory power of the existing models (Pagano, et al., 1998). The convergence
of IPOs and M&A literature could be a fruitful avenue for future research.
33
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37
Figure 1
Number of takeovers of US public and private targets by US acquirers (2000-2004)
3,500 Public targets
3,202 Private targets

3,000 2,817
Yearly acquisitions (US targets and US acquirers)
2,728
2,500
2,216 2,234
2,034
2,000
1,507
1,500
1,137 1,131
1,000 1,057
500
-
2000 2001 2002 2003 2004
Sample selection criteria:
(1) Acquisitions took place in the US.
(2) Both targets and acquirers are US companies.
(3) Only independent targets (public and private) are included. Subsidiaries, joint ventures, and government-owned
firms are excluded.
(4) Acquisitions in both manufacturing and service industries are included.
38
Figure 2
Theoretical model
Acquirer ability to identify

and assess private targets
• Related targeted assets +
• Geographically close assets
• Acquirer acquisition
experience in target industry
Private Target
Ownership
+ Acquirer Abnormal
Returns
(Private vs. Public Target)
Uncertainty about the value

of targeted assets
• Intangible assets -
• Young assets
39
Figure 3
Acquirer Abnormal Returns in Private vs. Public Targets
Acquirer CAAR
4%
Public targets 3%
Private targets
2%
1%
Days
0%
10
0
8
-8
-6
-4
-2
0
0
-2
-1
-1
-1
-1
-1
-1%
-2%
-3%
40
Table 1
Profiles of Private vs. Public Targets
Private Targets Public Targets Difference

(1) (2) (1) – (2)
Presence of competing Bidder (binary variable) 0% 8% -8%***
Target Relative Size (1-5) 1.67 2.12 -.45*
Target Pre-Merger Profitability (1-5) 3.42 3.20 .22
Scale Motive (1-5) 2.34 2.58 -.24
Complementarity Motive (1-5) 2.80 2.97 -.17
Disciplinary Motive (1-5) 1.86 2.00 -.14
All-Cash-Deals Dummy 58% 38% 20%
Target Industry Growth (1-5) 3.44 3.48 -.04
US Target (binary variable) 13% 23% -11%
Geographic Scope of Acquirer (1-3) 2.56 2.62 -.05
Acquirer Pre-Merger Profitability (1-5) 3.62 3.71 -.09
US Acquirer (binary variable) 18% 23% -.06
Related Target Industry (binary variable) 92% 76% 16%**
Target Geographic Scope (1-3) 1.59 1.90 -.31**
Acquirer M&A Experience in Target Industry 6.61 4.45 2.16*
(# previous acquisitions)
Target intangibles (binary variable: high tech) 8% 21% -14%**
Target Age (1-3) 4.23 4.63 -.40**
***: Statistically significant at p <.01 ; **: p <.05**; *: p <.10. (two-tailed)
41
Table 2
Descriptive Statistics
1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18.

1. Private Target Ownership Dummy 1
2. Competing Bidder Dummy -.18* 1
3. Target Relative Size (1-5) -.17* -.03 1
4. Target Pre-Acquisition Profitability (1-5) .10 .15* -.03 1
5. Target Industry Growth (1-5) -.02 -.05 -.18* -.01 1
6. U.S. Target Dummy -.14 -.12 -.01 -.12 .21* 1
7. Geographic Scope of Acquirer (1-3) -.04 .12 -.16* .04 .19* .05 1
8. Acquirer Pre-acquisition Profitability (1-5) -.05 .10 -.12 -.03 .10 -.10 -.10 1
9. U.S. Acquirer Dummy -.07 .01 .02 -.07 .16* .07 .11 .06 1
10. Scale Motive (1-5) -.11 .03 .46*** -.10 -.17* .03 -.24** -.24** .12 1
11. Complementary Motive (1-5) -.07 .13 .09 -.12 -.07 -.02 -.18* .04 .14 .29*** 1
12. Disciplinary Motive (1-5) -.06 -.06 -.05 -.23** -.04 .14 -.10 -.11 .13 .06 .29** 1
13. All-Cash-Deals Dummy .22** -.07 -.03 .02 .13 -.03 -.08 .10 .00 -.12 -.19* -.11 1
14. High-Tech Target Industry Dummy -.19* -.11 -.02 -.16* .15* .76*** .00 -.13 .04 .12 .02 .11 -.04 1
15. Unrelated Target Industry Dummy -.21** .03 .02 .10 .17* .02 -.05 -.04 .13 -.10 .26** .32** -.14 -.03 1
16. Acquirer M&A Experience in Target Industry .15 .11 -.15* .24** -.05 -.14 .20** .03 -.12 -.15* -.17* -.16* .08 -.12 -.15* 1
17. Target Age (1-5) -.21** .13 .24** -.11 -.08 -.14 -.01 .14 -.15* .11 .03 -.12 -.04 -.21** -.14 .10 1
18. Target Geographic Scope (1-3) -.21** .06 .21** -.14 .04 .06 .15* -.17* .20** .21 .15* .09 -.16* .11 -.06 .08 .07 1
Mean .43 .05 1.86 3.22 3.43 .19 2.62 3.66 .21 2.44 2.87 1.97 44.66 .16 .15 5.38 4.51 1.75
Standard deviation .50 .22 1.28 1.16 .93 .39 .65 .90 .41 1.06 1.10 1.05 45.44 .37 .36 6.99 .94 .76
***: Statistically significant at p <.01 (two-tailed); **: p <.05**; *: p <.10.
42
Table 3
Acquirer Abnormal Returns in Acquisitions of Private vs. Public Targets
Private Targets Public Targets CAAR Difference

(1) (2) (1) - (2)
Acquirer CAAR [-20;10] 3.79% -0.91% 4.70% ***
Acquirer CAAR [-20;5] 2.19% -1.24% 3.43% ***
Acquirer CAAR [-30;10] 3.69% -0.76% 4.45% ***
43
Table 4
Effect of Target Ownership on Acquirer Abnormal Returns (OLS Regressions)
Dependent variable: Acquirer CAAR [-20;10] Controlling for endogeneity biases
(1) (2) (3) (4) Probit (5) (6)
(1 if target is
private, 0
otherwise)
Private Target Ownership (binary variable) 4.58*** 3.91* 4.66*** 10.17** 17.55***
Competing Bidder (binary variable) -8.85* -10.65** -10.62** -10.95***
Target Relative Size (1-5) 0.44 0.47 0.35 0.33 0.14
Scale Motive (1-5) 0.39 0.35 0.54 0.48 0.81
Complementarity Motive (1-5) 1.01 0.77 1.10 0.90 1.78*
Disciplinary Motive (1-5) 1.39 1.19 1.33 1.17 1.10
All-Cash-Deals (binary variable) 0.02 0.01 0.02 0.01 0.03
Target Pre-Merger Profitability (1-5) 2.65*** 2.34*** 2.78*** 2.66*** 2.35***
Target Industry Growth (1-5) -1.32 -1.30 -1.39 -1.59 -2.11*
US Target (binary variable) -0.56 -1.30 -1.78 -1.80 15.14***
Geographic Scope of Acquirer (1-3) 2.64* 2.27* 2.70* 2.50* 2.25*
Acquirer Pre-Merger Profitability (1-5) -0.11 -0.33 -0.05 0.11 0.34
US Acquirer (binary variable) -0.90 -.055 -1.54 -1.10 -3.01
Related Target Industry (binary variable) 1.81** 6.43***

Target Geographic Scope (1-3) -0.74** 0.50
Acquirer M&A Experience (# previous
acquisitions) 0.05* 0.22*
Target Intangibles (binary variable) -1.60* -20.10***
Target Age (1-5) -0.93*** -2.04**
Lambda (Heckman) 4.94* 11.76***
Log Likelihood -43.06

Pseudo-R2 0.30
R2 0.07 0.27 0.23 0.24 0.30 0.48
44
APPENDIX 1: SURVEY PROCEDURE
Sampling Frame
The initial sample consisted of 2,020 acquisitions from 1988-1992 between manufacturing companies within the
same industry, defined at the four-digit level of the US Standard Industrial Classification (SIC). We chose the
period 1988-1992 to exclude older acquisitions for which managerial turnover made it difficult to gather detailed
information, and recent acquisitions where post-acquisition consolidation may not yet have taken place. Sources of
information include the International Merger Yearbook (1990, 1991, 1992), Mergers and Acquisitions Sourcebook
(1990, 1991, 1992), Mergers and Acquisitions International (1990, 1991, 1992), and Fusions & Acquisitions (1989,
1990, 1991, 1992).
Procedure
The data collection process comprised four phases. First, we developed measurement scales by reviewing relevant
literature and by conducting 25 on-site interviews with CEOs from large firms, academics, and consultants. We
pretested these scales with a group of academics, consultants and managers. These pretests led to the revision of
several items with a view to improving their clarity and adding new items identified during the interviews. The
third stage consisted of on-site interviews with CEOs or executives in charge of their acquisition programs in ten
large firms, resulting in the final version of the questionnaire.
In the final stage, we mailed the survey to the acquiring companies included in the sampling frame described above.
We addressed the surveys to the chief executives of the business units which undertook the acquisition. In the cover
letter, we requested that the survey be completed either by the CEO or by a senior executive with overall
responsibility for the acquisition case studied. According to Dillman (1978), we mailed a follow-up letter and a
replacement questionnaire.
Achieved Sample
From the initial sample, questionnaires were mailed to the 1,778 acquirers for whom we obtained addresses. A total
of 273 completed questionnaires were returned, representing a response rate of 15%. This response rate is
comparable with that for most recent large-scale surveys involving executives (Gatignon, Robertson and Fein,
1997). Such a response rate is reasonable, given the setting [more than a dozen countries in two continents, diverse
firms, and high-level respondent positions (CEO, president, executive chair, vice president of finance and managing
director)] and the sensitivity of the information. Of the responses, twenty were eliminated since they did not
represent horizontal acquisitions.
A comprehensive analysis of the measure reliability and validity can be found in a previous paper (Capron, 1999).
Among these 273 responses, we only include the acquirers that were stock-listed and for which we could perform
an event study. Our final sample is made up of 101 acquisitions. Among these 101 targets, 52 were public targets,
40 were private targets, and 9 were government subsidiaries.
45
APPENDIX 2: SURVEY ITEMS
1- At the time of the acquisition, did you intend with this merger to diversify into a new line of business? 1. NO
2. YES
2- Please use the scale below to assess the importance of the following motives in acquiring the target business (from 1 to 5, 1
being not important at all, 5 being very important).
NOT IMPORTANT VERY
AT ALL IMPORTANT
Scale motive
1. To achieve economies of scale in manufacturing...................................................... 1 2 3 4 5
2. To achieve economies of scale in R&D, sales promotion,
distribution or administration .................................................................................... 1 2 3 4 5
Complementary motive
3. To acquire complementary product line(s) or brand name(s).................................... 1 2 3 4 5
4. To acquire assets (tangible and/or intangible) or capabilities
to be used in your existing business .......................................................................... 1 2 3 4 5
Disciplinary motive
5. To transfer assets to assist the acquired business ...................................................... 1 2 3 4 5
6. To turn around a failing firm..................................................................................... 1 2 3 4 5
3- Relative size of target to acquirer (relative annual sales) in the line of business concerned:
1. < 25%; 2. 25-49%; 3. 50-74%; 4. 75-100%; 5. > 100%
4- Geographical scope of the acquired firm’s operations

1. Domestic/national
2. International (but limited to one geographic zone; i.e., Europe, US, or Asia)
3. International/global
5- Target age :1. < 2 years; 2. 2-5 years; 3. 6-10 years; 4. 11-15 years; 5. >15 years
6- Profitability (profit/capital employed) of the acquired business relative to industry

average before the acquisition:
1. Much less profitable 2. Less profitable 3. Equivalent
4. More profitable 5. Much more profitable
7- Demand trends in your industry just before the acquisition?
1. Sharply increasing
2. Slightly increasing
3. Stable
4. Slightly declining
5. Sharply declining
8- Acquirer acquisition experience: Number of firms acquired in the target industry in the past 5 years.
9- Geographic scope of the acquirer’s operations

1. Domestic/national
2. International (but limited to one geographic zone; i.e., Europe, US, or Asia)
3. International/global
10- To what extent have you used resources from the acquired business to assist your existing
business?
NOT AT TO SOME TO A VERY
ALL EXTENT LARGE EXTENT
1. Use of acquired business’s product innovation capabilities..................................................... 1 2 3 4 5

2. Use of acquired business’s know-how in manufacturing processes......................................... 1 2 3 4 5
3. Use of acquired business’s marketing expertise....................................................................... 1 2 3 4 5
46

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of M&A performance have focused on acquisitions of public targets by public acquirers

****Insert Figure 1 about here ****

insignificant abnormal returns on the announcement of acquisition of public target (Andrade,

targeted assets is not too high.

1988; Reuer and Ragazzino, 2005).

between private and public targets.

implications of our results for managers and for future research.

The “Private Firm Discount”

(cash flow multiples).

The illiquidity discount might explain why, in a stock-financed acquisition, private

which will be shortly delisted after the acquisition anyway?

ACQUIRER RETURNS WHEN BUYING PRIVATE VERSUS PUBLIC TARGETS

respond more favorably to announcements of private target acquisitions than to announcements

Our theoretical model is depicted in Figure 2.

*** Insert Figure 2 ****

However, greater information disclosure on public targets is a double-edged sword. On

In summary, private information is more likely in acquisitions of private targets than

extract more benefits from their private information on private targets.

Appropriation of the value of private information on private targets

Lower bidder competition for private targets.

shareholders (Thompson and Thomas, 2004).

Brickley and Netter, 1988; Schwert, 1996).

Lower publicity on acquisitions of private targets.

because of lower bidder competition on private targets.

In summary, we expect private information to be a greater source of value creation in

of private targets. Accordingly, we propose:

ACQUIRER CHOICE BETWEEN PRIVATE AND PUBLIC TARGETS

favor acquisitions of public targets, where information asymmetry is more limited.

Acquirer ability to identify and value private targets

Related targeted assets

Geographic proximity of targeted assets

Acquirer acquisition experience in target industry

Uncertainty of the value of targeted assets

Intangible targeted assets

are information-based resources that include technical know-how of employees, reputation of

difficult to communicate and to verify, which increases the likelihood of ex ante

mechanism. Organizational researchers have shown that, under conditions of evaluative

purchase public rather than private targets.

Young targeted assets

biases in target selection.

DATA AND METHODS

and actual behavior (Jarrell, 1998).

procedure can be found in Appendix 1.

Dependent variable: Acquirer’s abnormal returns

return of a firm i for day t (ARit) is estimated by:

ARit = Rit − α i − β i Rmt , (1)

for days 0 to +1.

where N is the number of securities with excess returns during day t.

individual excess returns over time as follows:

days is calculated as follows:

Independent variables of the acquirer return model

Independent variables of target selection model

and 0 otherwise.2 “Target age” was a self-reported measure on a five-point scale.

Target attributes. We included a five-point scale variable “Target pre-acquisition

Acquirer attributes. We included a five-point scale variable “Acquirer geographic

country of origin of the acquirer.

**** Insert Tables 1 and 2 *****

“target intangibles”, and “target age”.

To correct for endogeneity biases, we use a Heckman (1979) two-step estimation

Insert Figure 1 about here

* Insert Figure 2 **

Insert Tables 1 and 2 *

Insert Figure 3 and Table 3 about here *

* Insert Table 4 about here **

*: Statistically significant at p <.01 (two-tailed); : p <.05**; *: p <.10.

Related Target Industry (binary variable) 1.81 6.43*