Behavioral merger and acquisition pricing: Application to Verizon mergers with AOL and Yahoo

Abstract

Mergers and acquisitions (M&A) are important to companies as it allows them to acquire capabilities that they cannot create internally and to grow quickly. M&A transaction pricing relates to the pricing of these M&A deals and this article analyzes if behavioral finance factors like risk aversion, optimism, and loss aversion have an impact on this pricing. Prospect Theory and Cumulative Prospect Theory are applied to an agent-based model to solve this problem. Results of this article show that M&A transaction price does respond to a change in risk aversion and optimism traits of the acquirer and target companies respectively, as well as, loss aversion and certainty (probability of gains and losses). When, the acquirer is risk taking and target company is optimistic, the M&A transaction price increases. However, with increasing certainty of gains and reducing loss aversion (increasing loss aversion co-efficient; as gains are perceived to have the same weight as losses), the M&A transaction price seems to reduce. These results are compared with the recent mergers of Verizon and AOL as well as Verizon and Yahoo, to understand if these results would occur in practice. Analyzing these mergers, it seems that the outcomes from this model does provide insight on the pricing of these M&A transactions. This article also analyzes how these behaviors would impact the pricing when three different acquirers are trying to take over a target company. Results show that loss aversion has a significant effect on this pricing with risk aversion and optimism also having some minor impact. But, the existence of multiple acquirers does positively increase the M&A transaction price. | INTRODUCTIONMergers and acquisition (M&A) are a significant part of the strategy of leading companies globally. It is often hard to build industry leading capabilities within a company. So, leading companies like Google, Facebook, Apple, Verizon, and others have acquired companies to obtain these capabilities. As a result, there are numerous M&A transactions that occur during every business cycle globally. An important part of an M&A transaction for an acquirer is to make sure they do not pay too much to acquire the target company. While, the target company shareholders want to get as much as possible for the sale of the company. Therefore, M&A transaction pricing is an important aspect of undertaking such a transaction. At present, M&A transaction pricing is done using financial modeling techniques like discount cash flow analysis, industry multiples, and similar methods. However, these techniques do not consider behavioral implications that may impact the transaction pricing. Behavioral finance literature shows that these factors are important; for example, Kahneman and Tversky (1979) (Kahneman & Tversky, 1992). As a result, the next section of this article will provide a literature review of the M&A area specifically focusing on the pricing aspect. The subsequent sections will look at the methodology, results, and the final section will provi...

A 27‐year review of mergers and acquisitions research in 27 leading management journals

“…Strategic management scholars have explored numerous topics within M&As, adopting a wide range of theoretical frameworks and methodological approaches that, as a result, have led to the emergence of a significant body of literature from various disciplinary perspectives. Numerous studies have investigated a broad range of aspects, including finance (Arikan, & Stulz, 2016; Erel, Jang, & Weisbach, ; Tuch & O'Sullivan, ), strategy (Humphery‐Jenner, Sautner, & Suchard, ; Nair, Demirbag, Mellahi, & Pillai, ; Park & Gould, ; Xing, Liu, Tarba, & Cooper, ; Yildiz & Fey, ), partner selection (Cuypers, Cuypers, & Martin, ; Gomes, Weber, Brown, & Tarba, ; Very, Lubatkin, Calori, & Veiga, ), management teams and leadership (Rao‐Nicholson, Khan, & Stokes, ; Vasilaki, Tarba, Ahammad, & Glaister, ; Xing & Liu, ), communication (Angwin, Mellahi, Gomes, & Peter, ), human resource management (HRM) (Aguilera & Dencker, ; Gomes, Angwin, Peter, & Mellahi, ; Khan, Rao‐Nicholson, Akhtar, & He, ; Sarala, Junni, Cooper, & Tarba, ; Sarala, Vaara, & Junni, ), speed of implementation (Angwin, ; Gomes, ), merger integration (Ahammad, Tarba, Frynas, & Scola, ; Almor, Tarba, & Benjamini ; Angwin and Meadows, ; Björkman, Stahl, & Vaara, ; Gomes, ; Stahl et al, ; Weber & Tarba, 2011), acquisition experience (Cuypers et al, ; Gomes, Donnelly, Morris, & Collis, ), culture (Ahammad, Tarba, Liu, & Glaister, ; Bauer & Matlzer, ; Björkman et al, ; Gomes et al, ; Morosini, Shane, & Singh, ; Reynolds & Teerikangas, ; Stahl et al, ), organizational justice (Ellis, Reus, & Lamont, ; Gomes, Mellahi, Sahadev, & Harvey, ) and pricing (Agarwal & Kwan, ; Agarwal, Kwan, & Paul, ). However, despite such substantial research endeavors, the field is accumulated knowledge and literature remains dispersed (Angwin & Vaara, ; Gomes, Angwin, Weber, & Tarba, ); hence the need to organize and structure the existing body of knowledge—the object of this study.…”