INVESTMENT BANK EXPERTISE IN CROSS‐BORDER MERGERS AND ACQUISITIONS

• Author: Matteo P. Arena,Michaël Dewally
• DOI: http://doi.org/10.1111/jfir.12118
• Published date: 01 March 2017
• Date: 01 March 2017

INVESTMENT BANK EXPERTISE IN CROSS-BORDER

MERGERS AND ACQUISITIONS

Matteo P. Arena

Marquette University

Michaël Dewally

Towson University

Abstract

We study the influence of country expertise of investment banks in facilitating cross-

border merger deals by analyzing a large international sample of merger and acquisition

(M&A) deals. We provide evidence that the geographical proximity, cultural affinity,

and local experience of investment banks advising bidding firms on cross-border M&A

deals significantly increase the probability of completion of the deal, significantly

decrease the time required to complete the deal, and significantly increase the operating

performance of the acquiring firm after the deal. Our results are robust to firm, deal,

country-specific factors, and endogeneity concerns.

JEL Classification: F23, G24, G34, Z1

I. Introduction

The fast-evolving literature on mergers and acquisitions (M&As) has recently begun

exploring the pivotal role of investment banks in facilitating M&A transactions.

Although older studies, such as Servaes and Zenner (1996), do not find any significant

effect of investment banks on the success of M&As, more recent studies present evidence

that suggests that investment banks play an important part in M&A deals and contribute

to their performance (e.g., Bao and Edmans 2011; Golubov, Petmezas, and Travlos 2012;

Sibilkov and McConnell 2014). However, despite the fact that almost half of M&As are

cross-border deals (Erel, Liao, and Weisbach 2012), all the studies that examine

the influence of investment banks on M&As focus on domestic acquisitions where the

bidding firm and the acquisition target are headquartered in the same country.

We examine a large international sample of cross-border mergers and show that the

expertise of the acquirer-side investment bank in the country of the acquisition target has

a significant effect on the outcome of the deal. Specifically, for the first time in the

literature we investigate the effect of the advising bank’s target country expertise on the

probability of completing cross-border M&A deals, the time required to successfully

We wish to thank Thomas Moeller, the associate editor, John Cotton, Valeriy Sibilkov, two anonymous

referees, and seminar participants at Marquette University, Towson University, and the 2016 Financial

Management Association annual meeting. Arena received support from the Marquette University Miles Fund

Summer Research Grant.

The Journal of Financial Research Vol. XL, No. 1 Pages 81–112 Spring 2017

81

© 2017 The Southern Finance Association and the Southwestern Finance Association

RAWLS COLLEGE OF BUSINESS, TEXAS TECH UNIVERSITY

PUBLISHED FOR THE SOUTHERN AND SOUTHWESTERN

FINANCE ASSOCIATIONS BY WILEY-BLACKWELL PUBLISHING

complete a deal, the stock market reaction to the deal announcement, and the postmerger

performance of the acquiring firm.

Cross-country M&As are particularly challenging because of the obstacles

caused by the geographical distance and cultural differences between the countries of the

two merging firms (Weber, Shenkar, and Raveh 1996; Ahern, Daminelli, and Fracassi

2015). Consequently, acquirer firms might strategically select their advisors to ensure a

successful outcome for the deal. The prior literature on the role of investment banks in the

market for corporate control limited its focus on domestic deals to ask whether larger or

more reputable investment banks provide a superior intermediation experience in line

with the higher fees they collect. However, at the international level the direct experience

and knowledge about the target country by the hired investment bank is likely to be more

valuable to the acquirer than is generic deal experience.

In this article, for the first time we move past this general domestic measure of

bank prestige to investigate what specific bank expertise components are important in a

more complex network of international cross-border deals where deal completion and

success requires navigating long distances and diverse cultures. We also provide an

important contribution to the fast-expanding literature of the importance of geography

and cultural values in financial transactions. Although several studies examine the

importance of geographical distances and cultural differences in loan contracting,

financing costs, payout policy, and other financial policies and transactions (e.g.,

Giannetti and Yafeh 2012; Arena and Dewally 2012; John, Knyazeva, and Knyazeva

2011; Ahern, Daminelli, and Fracassi 2015), we are the first to show the importance

of these dimensions in relation to the advising role of investment banks in M&A

transactions.

Investment bank expertise in the country of the acquisition target of a cross-

border merger is particularly important for two reasons. First, language and cultural

differences increase the contracting costs of a cross-border merger (Ahern, Daminelli,

and Fracassi 2015). These barriers during contractual negotiations can be partially

overcome if the investment bank is headquartered in a country that is geographically or

culturally close to the country of the acquisition target or if the bank has accumulated

experience through past deals in the target country. To wit, in its 1999 “Unlocking

Shareholder Value: The Keys to Success”report, KPMG finds that deals between U.S.

and continental European firms are 11% less likely to be successful than deals

between U.S. and U.K. firms despite extensive deal experience. The study cites greater

cultural differences and challenges as responsible for the difference.

Second, cross-border mergers often take advantage of misvaluations due to

temporary currency depreciations (Baker, Foley, and Wurgler 2009). These arbitrage

opportunities might be better identified by an investment bank with expertise in that

country rather than by the nonfinancial bidding firm or an investment bank with large

global experience but no target country expertise.

The sample comprises all cross-border M&As initiated by publicly traded firms

targeting publicly traded or private firms between 1994 and 2012 for which information

about the bidder-advising investment bank is available. Our sample consists of 7,630

M&A deals for target firms headquartered in 127 countries from 4,072 unique acquiring

firms headquartered in 70 countries advised by 1,093 unique investment banks

82 The Journal of Financial Research

headquartered in 53 countries. We conduct the multivariate analysis by estimating

several fixed effect regressions with measures of the success of the deal as dependent

variables. The main independent variables of the study are proxies for country expertise

of the investment bank that advises the acquiring firm. The three proxies are (1) the

distance between the capital of the investment bank headquarters’country and the capital

of the target headquarters’country (IB Geographical Distance), (2) the cultural distance

between the investment bank and target countries (IB Cultural Distance), and (3) the

previous experience accumulated by the investment bank in the target country measured

as the number of deals completed by the investment bank in that country in the previous

five years (IB Deal Experience).

Our results show that investment banks play an essential role in facilitating

cross-border M&A deals. Investment banks that are geographically proximate and

possess cultural expertise in the target firm’s country can significantly reduce the

obstacles to the success of a cross-border acquisition. Specifically, we find that

investment banks headquartered in countries that are geographically closer and culturally

more similar to the country where the target firm resides significantly increase the

probability of completion of the merger while decreasing the time required to complete

the deal. Expertise in the target country can also accumulate through experience. Indeed,

we find that banks that have worked as advisors on a larger number of deals in a specific

country are better equipped to enhance the probability of deal success for a new M&A in

that country, independent from the characteristics of the acquiring and target firms and its

global experience.

1

In addition to facilitating the deal completion, the expertise in the target country

allows investment banks to identify better targets with larger synergy. Firms that

complete M&A deals facilitated by banks with significant expertise in the target country

experience a significantly greater improvement in operating performance in the three

years after the merger completion.

Our analysis of cumulative adjusted returns (CARs) at the time of the merger

announcement show that the cultural affinity of the investment bank with the target

country has a positive and significant effect on the stock market reaction to the

announcement. We also find that the expertise of the acquiring firms in the target country

has a significant effect on the market returns at announcement.

Our test of the relation between acquiring firms’characteristics and investment

banks’country expertise show that the investment bank country expertise variables are

related to some of the bidder characteristics that are also determinants of the outcome of

the M&A deal. We control for possible endogenous matching between the acquiring

firms and investment banks in two ways. First, we include in all our main multivariate

regressions investment bank fixed effects. Investment bank fixed effects control for the

possibility that banks might advise acquirers to target firms in countries in which

the banks have expertise. Our results are robust to this inclusion. Second, we adopt a

1

Geographical proximity might also provide investment banks with better and more efficient access to soft or

tacit information. The influence of geography on financial transactions and economic decisions is well established

in the literature (e.g., Brickley, Linck, and Smith 2003; Loughran and Schultz 2005; Uysal, Kedia, and

Panchapagesan 2008; Dass and Massa 2011; Arena and Dewally 2012).

Investment Bank Expertise 83