Perceptions of Agency Motives in

Acquisitions: The Moderating

Effects of the External Environment

Kang, EugeneTexas A&M University

Introduction

Define agency problem.

What are the three main assumptions of agency problems?

Opportunistic agents.

Conflicting goals.

Information asymmetry.

Purpose of Paper

Examine investors’ perception of agency motives during acquisition announcements.

How are investors’ perceptions measured?

Investors’ reaction (buy/sell) to acquisition announcements (i.e., what is the perceived value of the acquisition).

Investors’ Reaction

What factors will drive investors’ perceptions of value creation from proposed acquisitions?

Investors’ reaction = f (x1, x2, x3, x4 etc..)

Give some examples of x’s in the above function?

How does the quality of corporate governance mechanisms influence investors’ reaction?

Managerial Motives for Acquisitions

Agency theory:

firms with less effective monitors have higher agency costs from managerial opportunistic behavior, hence

investors more likely to perceive agency motives for acquisitions, hence

less positive investors’ reaction to acquisition announcements, when compared to firms with more effective monitors.

Monitors of Top Executives

Two main monitors of top executives: Board of directors. Institutional investors.

Expected relationship: Independent boards => Positive investors’

reaction. High concentration of institutional ownership =>

Positive investors’ reaction.

What did researchers find?

Reasons for Contradictory Results

Why did researchers find contradictory results? Maybe agency problems may be less of a

concern under certain conditions.

Refer to the three basic assumptions of agency problems.

Absent agency problems, will there be a relationship between investors’ reaction and (a) independent boards, (b) institutional ownership concentration?

Impact of Environment Conditions

Environmental Munificence.

Refers to the extent that an environment can support sustained growth.

Low munificence => greater goal conflicts between investors and top executives (recall the GD article) => agency problems more likely.

Positive relationship between investors’ reaction and effective monitors should be found under low munificence.

Impact of Environment Conditions

Environmental Complexity.

Refers to the number and variety of constituents in the environment which a firm interacts with.

High complexity => greater information asymmetry between investors and top executives => agency problems more likely.

Positive relationship between investors’ reaction and effective monitors should be found under high complexity.

Impact of Environment Conditions

Environmental Dynamism.

Refers to the extent to which volatile changes occur in the environment.

High dynamism => greater information asymmetry between investors and top executives => agency problems more likely.

Positive relationship between investors’ reaction and effective monitors should be found under high dynamism.

Summary

Positive relationship between investors’ reaction and effective monitors should be found under: Low munificence.

High complexity.

High dynamism.

No (or insignificant) relationship between investors’ reaction and effective monitors should be found under: High munificence, Low complexity, Low

dynamism.

Findings

-2.500

-2.000

-1.500

-1.000

-0.500

0.000

0.500

1.000

1.500

2.000

Low High

Independent Directors' Vigilance

Cumulative Abnormal Returns

High Munificence

Low Munificence

Findings

-3.000

-2.000

-1.000

0.000

1.000

2.000

3.000

Low High

Independent Directors' Vigilance

Cumulative Abnormal Returns

High Complexity

Low Complexity

Conclusion Resource-scarce, complex, and dynamic

environments appear to exacerbate perceived agency problems and hence increase the importance of monitoring mechanisms when assessing the value of an acquisition.

Investors may perceive increased monitoring as being counter-productive when a firm's external environment is resource-abundant, stable, or not complex.

Symbolic information about governance arrangements affects investors’ evaluations of managerial motives for acquisitions.