Family Firms and the Stock Market Performance of Acquisitions and Divestitures

Raffi Amit is the Marie and Joseph Melone Professor at The Wharton School of the University of Pennsylvania; Emilie Feldman is Associate Professor of Management at The Wharton School of the University of Pennsylvania; and Belén Villalonga is Professor at New York University Stern School of Business. This post is based on their recent paper.

Family firms are a widely prevalent form of ownership, accounting for anywhere from a third to a half of public and private companies in the United States and around the world. Investors often ascribe higher valuations to family firms than to non-family firms, especially when founders serve as CEOs, in part due to expectations that owner-manager agency conflicts will be mitigated by the involvement of founding families with strong incentives to monitor. These favorable expectations about family firms extend to those companies’ corporate strategies, in that family firm acquisitions and divestitures have been shown to generate higher shareholder returns than non-family firm acquisitions and divestitures. These findings impart a unilateral perspective to investors’ evaluations of acquisitions and divestitures, implying that shareholders observe whether the focal firm that undertakes a given acquisition or divestiture is a family or a non-family firm, and adjust their expectations accordingly as to how much value that transaction will create for the focal firm.

With this being said, acquisitions and divestitures are (with the exception of spinoffs) bilateral transactions, in that they involve both a focal firm and a counterparty: when Company A buys a business from Company B, Company B is selling that business to Company A, and vice versa. This suggests that investors may also be able to observe whether the counterparty to a given acquisition or divestiture is a family or a non-family firm, and that this could affect their expectations of the focal firm’s returns from that transaction. Put differently, investors’ expectations of how much value a given acquisition or divestiture will create for the focal firm may be shaped not only by whether the focal firm is a family or a non-family firm, but also by whether its counterparty is a family or a non-family firm. We investigate this possibility in the present study.

To do this, we begin by identifying the four possible pairings of family and non-family firms in any given acquisition or divestiture: (1) non-family firm acquirer and divester, (2) non- family firm acquirer and family firm divester, (3) family firm acquirer and non-family firm divester, and (4) family firm acquirer and divester. Then, drawing on agency theory and the literature on family firms, we develop hypotheses suggesting that, of the four possible pairings, acquiring firm shareholders will expect to enjoy the highest returns when family firm acquirers buy businesses from non-family firm divesters, and divesting firm shareholders will expect to enjoy the highest returns when family firm divesters sell businesses to non-family firm acquirers. We test and find support for these hypotheses using a sample of transactions undertaken by U.S.- based companies between 1994 and 2010.

There are two main results in this study. The first is that the shareholder returns to acquiring firms are highest when family firm acquirers buy businesses from non-family firm divesters, especially when family CEO acquirers buy businesses from non-family CEO divesters. The second is that the shareholder returns to divesting firms are highest when family firm divesters sell businesses to non-family firm acquirers, especially when family CEO divesters sell businesses to non-family CEO acquirers. These findings do not appear to be driven by heterogeneity in the acquisitions and divestitures that family versus non-family firms/CEOs undertake, since our results are nearly identical using unmatched and matched samples of family and non-family deals. Our results also do not appear to be attributable to family firms/CEOs engaging in transactions with systematically different characteristics than non-family firms/CEOs, since there are no differences in the value-weighted returns of transactions involving the four pairings of family and non-family firms/CEOs.

Our paper makes three key contributions to research and practice. First, our work suggests that it is important for scholars and practitioners to take into consideration the characteristics of all of the entities that are involved in acquisitions and divestitures—the focal firms that acquire or divest businesses, the counterparties with which the focal firms transact, and the businesses that are acquired or divested—when evaluating the performance of those transactions. Numerous papers have analyzed how the characteristics of acquiring and divesting (focal) firms affect acquisition and divestiture performance. Recently, a few studies have also shown that certain characteristics of businesses that are bought in acquisitions or sold in divestitures also affect the performance of the companies that acquire or divest them. Our paper extends this existing body of research by showing that at least one characteristic of the counterparties that are involved in acquisitions and divestitures (whether they are family or non-family firms) also affects performance, above and beyond the characteristics of the focal firms and the businesses that change hands in the transactions.

Second, our paper carries important implications for understanding how investor perceptions shape firm and transaction performance. By showing that focal firms’ shareholder returns from acquisitions and divestitures are fundamentally affected by whether their counterparties to those transactions are family or non-family firms, our work suggests that investor perceptions and expectations (and hence, shareholder returns), may be affected by the characteristics of their counterparties in those transactions. This ramification is a significant one in that numerous studies provide evidence that managers deliberately take steps to manage how key external constituents like securities analysts and the media perceive their firms, since these efforts shape investor perceptions in turn. Our paper therefore suggests that managers should be cognizant of and perhaps take steps to manage how investors perceive the counterparties with which their companies transact, as this can affect the returns of their transactions.

Third, our study also makes an important contribution directly to research on family firms. This body of research has amply demonstrated that family firms are distinct from non-family firms along many dimensions, including their financial characteristics, objectives, incentives, decision- making processes, and most importantly, their corporate strategies. As a result, family firms enjoy performance advantages simply from being family firms, both at the corporate-level and also at the transaction-level. Our study advances this literature by considering what happens when both, one of, or neither of the firms that are involved in a given corporate strategy transaction are family firms. In so doing, we document that the expected performance advantages of being a family firm dissipate when that company’s counterparty in an acquisition or a divestiture is also a family firm. In other words, being a family firm only carries financial advantages in acquisitions and divestitures when the other company is not also a family firm. Thus, our study imposes an important boundary condition on existing findings that family firms are more valuable or perform better than non-family firms: “family-ness” only creates value when it is a unique resource to which the other firms that are involved in a given transaction do not have access.

The complete paper is available here.

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