Strategic Management Journal
Strat. Mgmt. J., 28: 891–911 (2007)
Published online 24 April 2007 in Wiley InterScience (www.interscience.wiley.com) DOI: 10.1002/smj.612
Received 2 July 2003; Final revision received 19 September 2006
ACQUISITIONS OF PRIVATE VS. PUBLIC FIRMS:
PRIVATE INFORMATION, TARGET SELECTION, AND
ACQUIRER RETURNS
LAURENCE CAPRON1 * and JUNG-CHIN SHEN2
1
Strategy Department, INSEAD, Fontainebleau, France
School of Administrative Studies, Atkinson Faculty of Liberal and Professional
Studies, York University, Toronto, Ontario, Canada
2
The acquisition of privately held firms is a prevalent phenomenon that has received little attention
in mergers and acquisitions research. In this study, we examine three questions: (1) What drives
the acquirer’s choice between public and private targets? (2) Do acquisitions of private targets
elicit a more positive stock market reaction than acquisitions of public targets, which, on average,
destroy value for acquirers’ shareholders? (3) Do acquirers gain when their selection of a
public or private target fits the theory? In this paper, we argue that the lack of information
on private targets limits the breadth of the acquirer’s search and increases its risk of not
evaluating properly the assets of private targets. At the same time, less information on private
targets creates more value-creating opportunities for exploiting private information, whereas the
market of corporate control for public targets already serves as an information-processing and
asset valuation mechanism for all potential bidders. Using an event study and survey data, we
find that: (1) acquirers favor private targets in familiar industries and turn to public targets to
enter new business domains or industries with a high level of intangible assets; (2) acquirers of
private targets perform better than acquirers of public targets on merger announcement, after
controlling for endogeneity bias; (3) acquirers of private firms perform better than if they had
acquired a public firm, and acquirers of public firms perform better than if they had acquired a
private firm. These results support the expectation that acquirer returns from their target choice
(private/public) are not universal but depend on the acquirer’s type of search and on the merging
firms’ attributes. Copyright  2007 John Wiley & Sons, Ltd.
INTRODUCTION
The volume of acquisitions involving privately
held targets far surpasses that of publicly traded
firms. Based on the SDC database, we find that
between 60 and 75 percent of the firms acquired
in the United States between 2000 and 2004
were privately held. Other studies find similar
results across longer time periods and countries
Keywords: acquisitions; private firms; target selection;
acquirer return; private information
*Correspondence to: Laurence Capron, Strategy Department,
INSEAD, Boulevard de Constance, 77300 Fontainebleau,
France. E-mail: [email protected]
Copyright  2007 John Wiley & Sons, Ltd.
(Moeller, Schlingemann, and Stulz, 2004; Faccio, McConnell, and Stolin, 2006). Yet, despite
some notable exceptions (Graebner and Eisenhardt, 2004; Graebner, 2004; Reuer and Ragozzino,
2007), acquisitions of private firms remain largely
unexplored. Most existing studies of mergers and
acquisitions (M&A) performance have focused on
acquisitions of public targets by public acquirers
(Chatterjee, 1986; Singh and Montgomery, 1987;
Lubatkin, 1987; Seth, 1990).
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
this paper, we examine three questions: (1) What
892
L. Capron and J.-C. Shen
drives the acquirer’s choice between public and
private targets? (2) Do acquisitions of private targets elicit a more positive stock market reaction than acquisitions of public targets, which, on
average, destroy value for acquirers’ shareholders
(Andrade, Mitchell, and Stafford, 2001)? (3) Do
acquirers gain when their selection of a public or
private target fits the theory?
Previous research has either treated the first
research question (strategy studies) or the second research question (finance studies) separately.
Existing studies in strategy have focused on the
acquirer’s choice of target (Shen and Reuer, 2005)
without dealing with performance implications.
Existing finance studies have dealt with the performance question without considering the endogeneity of the acquirer’s choice of target (Chang, 1998;
Fuller, Netter, and Stegemoller, 2002). Selecting a private vs. a public target is not random. Empirical models that do not account for
this selection process are potentially misspecified (Shaver, 1998). Because we treat the questions of the acquirer’s target choice and acquirer
performance in the same study, we can address
the third research question that examines the
economic consequences of the acquirer’s target
choice.
To address these three questions, we draw on
strategy, finance, and information economics literature to outline differences between acquisitions
of private and public targets. We argue that differences in information availability on private vs.
public firms influence both the acquirer’s choice
of target as well as its performance. Lack of
information on private firms limits the breadth
of the acquirer’s search and increases its risk
of not evaluating properly the assets of private
targets (Reuer and Ragozzino, 2007). Acquirers may thus prefer to buy private targets for
local search and resort to public targets for more
distant search or when the value of assets is
highly uncertain (Shen and Reuer, 2005). Meanwhile, the lack of information available on private firms provides more opportunities for acquirers to exploit private information situations and
thus gain abnormal returns from buying private
targets (Makadok and Barney, 2001). The market of corporate control for public firms serves
as an information processing and asset valuation mechanism for all potential bidders. Besides,
acquirers of private targets can better appropriate the value of their private information thanks
Copyright  2007 John Wiley & Sons, Ltd.
to the weaker bargaining power of private targets.
At a more theoretical level, examining both the
acquirer’s choice and its abnormal returns helps
us integrate the contribution of information economics with that of strategic factor market theory (Barney, 1986). Information economics sees
information asymmetry as a friction in factor markets that creates constraints in the target selection
process (Akerlof, 1970), whereas strategic factor
market theory views information asymmetry as an
opportunity for firms with superior informationprocessing capabilities to create value (Makadok
and Barney, 2001). The notion that information
asymmetry is a double-edged sword becomes clear
only when one considers both the acquirer’s choice
and its performance implications. Furthermore, by
developing arguments that focus on the role of
information in the acquisition process, we complement studies in finance that have focused on
liquidity of shares (Fuller et al., 2002) and control concentration (Chang, 1998) to account for
returns to acquirers of private and public targets.
Based on an event study and survey data, we
find that acquirers are more likely to buy private targets that are located in an industry where
the acquirer has its core business or has accumulated acquisition experience, and where the
target’s assets are neither geographically spread
nor highly intangible. Acquirers are more likely
to buy public firms when they enter new business domains and when the value of assets is
highly uncertain (target with intangible assets).
After controlling for endogeneity bias, we find
that acquisitions of private targets elicit a much
more positive stock market reaction than those
of their public counterparts. We also present evidence that acquirers who purchased a private
firm perform better than if they had acquired
a public target, and acquirers who purchased
a public firm perform better than if they had
acquired a private target. This supports the expectation that acquirer returns from target choice (private/public) are not universal but depend on the
acquirer’s type of search and the merging firms’
attributes.
This paper is organized as follows. We examine
the role of information in the acquirer’s choice
between private and public targets and in acquirer
abnormal returns. We next describe our methods
and measures. We then present the results. In the
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
Acquisitions of Private vs. Public Firms
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 phenomenon ‘the private firm discount.’ Because the
acquirer can buy private firms at a substantial discount relative to public firms, it benefits 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 percent (book multiples) or
20–30 percent (earning multiples) discount compared to equivalent public firms. Kooli, Kortas, and
L’Her (2003) find the median private target discount is 20 percent (cash flow multiples) and 34
percent (earning multiples). Yet, these studies have
methodological and theoretical limitations.
First, there are 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 private firm discount. These studies therefore match
them with a sample of public targets that were
acquired around the same time and with similar
size and in the same industry. Yet, recent studies in strategy on private targets show that size
and industry affiliations are not sufficient to differentiate acquisitions of private targets from those
of public targets (Graebner and Eisenhardt, 2004;
Shen and Reuer, 2005).
Second, these studies fail to explain the causes
of the private firm discount. The prominent explanation has been that private firms suffer from a
lack of market liquidity1 (Fuller et al., 2002). The
existence of an active market for shares of public
firms provides a public seller with a readily available alternative to cash out its shares rather than
to sell them to a potential acquirer (at the market
price plus a premium). In contrast, lower liquidity
of shares of private targets limits its means to sell
off, and thus commands a private seller a relatively
1
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 et al., 2001).
Copyright  2007 John Wiley & Sons, Ltd.
893
disadvantageous position to appropriate the value
in transaction. Yet, no empirical studies have found
support for the liquidity discount (Faccio et al.,
2006), which makes these authors conclude that
the superior performance of acquirers of private
firms is not just a liquidity effect.
In this paper we argue that value appropriation
(which could stem from share liquidity but also
from other sources of bargaining power between
target and acquirer) represents one aspect of differences between private and public firm acquisitions.
Another key aspect that has been neglected is the
role that information plays in the selection and
value-creating process.
ACQUIRER RETURNS WHEN BUYING
PRIVATE VS. PUBLIC TARGETS
Differences in information availability on
private vs. public targets
One key difference between private and public firm
acquisitions is the quantity and quality of information available on private vs. public targets. Information on public firms is more widely available to
bidders, whereas managers of private firms typically have better control over the information they
want to communicate (Reuer and Ragozzino, 2007;
Arikan, 2005). The IPO process, the regulatory disclosure requirements, the greater ties to investment
banks, and the greater coverage by analysts and
the press increase the visibility of public firms and
decrease the uncertainty about their value. In addition, public firms are already priced by the market
and are subject to market feedback through the role
of professional arbitrageurs. In summary, the market for corporate control for public firms serves
as an information-processing and asset valuation
mechanism, which is available to all bidders and
complementary to the acquirer’s own informationprocessing and asset valuation capabilities. In contrast, acquirers are typically less aware of the existence of private targets because those targets are
less visible and transparent to the investment community than public targets, and are therefore more
difficult to locate as exchange partners and to value
(Deeds, De Carolis, and Coombs, 1999). Private
targets, notably small ones, tend to face greater
difficulties to signal their value to investors (Becchetti and Trovato, 2002). Accordingly, acquirers
incur higher search costs when buying a private
firm, and private sellers have to make efforts to
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
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L. Capron and J.-C. Shen
increase their marketability in the market for corporate control.
We argue that these informational differences
between private and public targets influence (1) the
acquirer’s choice between public and private targets as well as (2) the acquirer’s performance
when buying a private vs. a public target.
Effect of information availability on selection
of private vs. public targets
Information discrepancy between private and public targets is likely to affect the acquirer’s breadth
of search as well as its confidence in evaluating
the target’s assets when considering private targets. Acquirers are more likely to be aware of
private targets that are close to their businesses
or markets and less aware of private targets that
are in more peripheral domains. Acquirers may
also prefer to acquire private targets when they are
confident in their ability to correctly evaluate the
target’s assets—although we recognize that once
an acquirer has approached a target (be it public or
private) the acquirer can pursue the same level of
due diligence, and can still benefit from using the
investors’ collective assessment arising from the
stock market on public targets when buying assets
whose value is highly uncertain.
We detail below some hypotheses that outline
conditions that influence the acquirer’s ability to
identify and evaluate private targets. Some of these
hypotheses have been examined in Shen and Reuer
(2005), but on a different sample and for different research purposes. While the main objective
of Shen and Reuer’s work is to examine the likelihood of acquiring a private vs. a public firm, the
examination of drivers of selection of private vs.
public firms is the first step of our performance
model. Our objective is to show that the choice
of a private target is driven by information-related
drivers, and such endogeneity needs to be taken
into account in order to estimate the relationship
between target ownership and acquirer returns in
an unbiased manner.
Diversifying acquisitions
Compared to outsiders, industry insiders can more
easily identify private targets because of higher
business proximity. Industry insiders can also rely
on their knowledge base and their familiarity with
the target industry to assess the value of the assets
Copyright  2007 John Wiley & Sons, Ltd.
and growth prospects of the target (Chatterjee,
1986; Singh and Montgomery, 1987). In contrast,
an acquirer that buys a firm outside its core business runs a greater risk of overvaluing the target’s
assets. Bidders will therefore face a higher likelihood of adverse selection in inter-industry transactions than in intra-industry deals (Balakrishna
and Koza, 1993). Shen and Reuer (2005) find that
acquirers are less likely to acquire private targets
when the deal is outside their core business.
Hypothesis 1a: Acquirers are less likely to
acquire private targets than public targets when
they make an acquisition outside their core business.
Acquirer acquisition experience in targeted
industry
Acquirers lacking acquisition experience in the targeted industry are likely to have a narrower search
and run a higher risk of adverse selection when
dealing with private firms than with public firms.
Acquisition experience provides opportunities for
the acquirer to improve its skills in screening
potential targets with refined selection criteria, and
to price more accurately new targets based on prior
experience. In contrast, firms with lower acquisition experience may prefer public targets as these
firms are easier to locate and already have a market price, which helps potential buyers calibrate
their bid.
Hypothesis 1b: Acquirers are more likely to
acquire private targets than public targets when
their acquisition experience in the targeted
industry is high.
Target geographic scope
Information asymmetry, search costs, and valuation difficulties are also likely to increase if
targets have geographically dispersed activities.
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 reduces the opportunities for gathering information on targeted resources through
social networks and collaboration. Along a similar
line, Reuer and Shen (2004) find that a sequential
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
Acquisitions of Private vs. Public Firms
divestiture strategy through an IPO is attractive relative to an outright sale when firms in the industry
are geographically dispersed, since it allows the
increase of seller visibility. We therefore make the
following hypothesis:
Hypothesis 1c: Acquirers are less likely to
acquire private targets than public targets when
the target’s geographic scope is multinational.
Meanwhile, a broad geographic scope of the target business enhances its visibility, which may
increase potential bidders’ awareness when screening targets. Alternatively, we propose:
Hypothesis 1c- alt: Acquirers are more likely to
acquire private targets than public targets when
the target’s geographic scope is multinational.
Target intangible assets
We argue that acquirers refrain from acquiring private targets whose assets’ value is highly uncertain, such as for intangible assets. Intangible assets
are information-based assets that include employees’ know-how, company reputation, intellectual
property rights, trademarks, etc. (Itami, 1987). The
knowledge held by the seller on the assets’ quality is more difficult to communicate and to verify,
which increases the likelihood of ex ante misrepresentation. If the seller cannot send the buyer a
credible signal that enables the buyer to distinguish
high- from low-quality firms, it creates a risk of
adverse selection (Akerlof, 1970). Acquirers can
cope with this problem by contingent earnouts, a
lower premium bid, lengthy negotiations, or stock
payment (Coff, 1999; Reuer and Ragozzino, 2007).
They can also turn to the equity market as a means
of screening targets. 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 1d: Acquirers are less likely to
acquire private targets than public targets when
the targeted assets are highly intangible.
Copyright  2007 John Wiley & Sons, Ltd.
895
Target age
The level of evaluative uncertainty is also associated with the target’s age. On the one hand,
there is a clear association between firm age and
the extent and quality of information available on
the firm. Longstanding firms produce more objective data about their operations (Henderson, 1999),
whereas new firms have little objective data to disclose to prospective investors (Sanders and Boivie,
2004). This suggests that it is difficult to assess the
value of young targets. 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
(Stuart, Hoang, and Hybels, 1999) or the proportion of equity divested by venture capitalists during
the IPO (Sanders and Boivie, 2004) to assess the
quality of young, newly public firms. We propose:
Hypothesis 1e: Acquirers are less likely to
acquire private targets than public targets when
the target is young.
On the other hand, it could be argued that older
firms are more likely to be listed than younger
firms. As they become more mature, firms have
more opportunities to go public than younger firms
because of investors’ confidence in longstanding
firms, the firm’s higher ability to file for an IPO,
and the increasing need to make acquisitions. Thus,
in the population of old targets, acquirers are more
likely to buy a public firm due to a ‘population
effect’ and vice versa (i.e., young targets tend to
be private). Alternatively, we could propose:
Hypothesis 1e-alt: Acquirers are more likely to
acquire private targets than public targets when
the target is young.
Effect of information availability on returns of
acquirers of private vs. public targets
We have argued that access to more information on
public targets broadens the acquirer’s search and
reduces the risk of misevaluating the public target’s assets. Yet, greater information disclosure on
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L. Capron and J.-C. Shen
public targets also means that any acquirer may not
have intrinsic differences over another acquirer in
terms of its differential knowledge about the target, i.e., not have private information. According
to strategic factor market theory (Barney, 1986),
the most fundamental type of asymmetry capable
of generating competitive advantage is inter-firm
differences in skills at collecting, filtering, and
interpreting information about the future value of
resources. If firms competing in factor markets
collect identical information, they will have similar expectations about the value of the resources,
and will ultimately invest in the same ones. Bidder competition for the same resources will drive
up prices for those resources until the net present
value for the successful bidder is close to zero. 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 (Barney, 1988).
In addition, acquirers can appropriate a greater
percentage of the value from acquisitions of private firms because private sellers, on average,
have a weaker bargaining power than their public
counterparts due to (1) lower bidder competition,
(2) firm price discount, and (3) lower publicity in
the acquisition process.
private sellers often consider dealing with a preferred buyer more important than creating a competitive bidding process. Cultural fit or employee
welfare are often more important in the selloff decision of private sellers than the price per
se (Graebner and Eisenhardt, 2004). In contrast,
governance-based mechanisms in public firms,
such as shareholder litigation, exert pressure on
directors and managers to foster bidder competition in order to find the best purchasing price
for their shareholders (Thompson and Thomas,
2004).
Private firm price discount
Information asymmetry associated with private targets puts buyers at a risk of overpaying. The classic
response to the threat of adverse selection is to
reduce the offer price (Akerlof, 1970). When a
buyer targets a private firm, even if it has private
information on that specific target that no one else
has, it may discount its offer to reflect the possibility that the target will turn out to be a lemon.
In addition, the value of the target’s shares may
be discounted to reflect their illiquidity. Last, the
private firm does not have a threshold price established by the stock market.
Lower bidder competition for private targets
Lower publicity on the acquisition process of
private targets
Bidders face less competition in the market for private firms. The lack of visibility, transparency, and
market price associated with private firms creates
frictions in the buying of private firms. Acquisitions of public and private firms also involve
different negotiation processes, which affect each
party’s bargaining power. The selling of public
targets is typically auction-like in nature. Auctionlike contests are more likely to attract entrants
when more is known about the target (Milgrom,
1987). In contrast, private targets are typically sold
through negotiations based on voluntary exchange
(Koeplin et al., 2000). Although a private target
can contact as many bidders as it wants and promote an auction-like atmosphere, it often lacks
financial resources and social connections with
reputable investment bankers to do so. Moreover, private sellers often have different motivations than public sellers when selling their company. Graebner and Eisenhardt (2004) find that
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). In contrast,
private information on private targets is less likely
to be dissipated because of the lower publicity on
the acquisition of private firms. Furthermore, even
if private targets become aware of the existence of
the bidder’s private information during the negotiation process, they have no available means of
appropriating the value of it (unless they solicit
rival bids).
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 created from deals with private
targets because of lower bidder competition, higher
Copyright  2007 John Wiley & Sons, Ltd.
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
Acquisitions of Private vs. Public Firms
price discount and lower publicity associated with
private targets. We propose:
Hypothesis 2: All else being equal, the mean
of acquirer returns for private targets is higher
than the mean of acquirer returns for public
targets.
Contingency of the relationship between target
ownership and acquirer returns
Do acquirers gain when their selection of a public
or private firm fits the theory, or is all the performance driven by whether they acquire a public or
a private firm? If an acquirer, on average, earns
a higher return when buying a private target than
when buying a public target, the question naturally arises as to why not all acquirers buy private
targets. In accordance with the above-presented
arguments, we argue that acquirers make more
profitable acquisitions when their public/private
target choice is consistent with what theory would
predict, i.e., when they choose a target based on
the type of search they need to conduct, on their
information-processing and evaluation skills, as
well as the target’s attributes.
Although acquiring a public firm, on average,
generates a lower return for the acquirer than
acquiring a private one, the choice of a public target may be optimal under certain circumstances. Acquirers who turn to a public target
under conditions that are favorable to the purchase of a public firm (such as low familiarity with the target’s market, high uncertainty of
the target assets’ value) enjoy performance superior to that had they bought a private target. For
instance, firms that chose to enter a new business domain by acquiring a public firm may have
done worse had they acquired a private target
to achieve the same objective. In addition to the
uncertainty associated with entering a new business domain, the acquirer would have faced high
information asymmetry associated with private targets. Adding up these two levels of uncertainty is
likely to be detrimental to the acquirer’s performance. By the same logic, acquirers who turn to
a private target under conditions that are favorable to the purchase of a private firm (such as
high familiarity with the target’s market, low
uncertainty of target assets’ value) enjoy performance superior to that had they bought a public
Copyright  2007 John Wiley & Sons, Ltd.
897
target. When the public information on a public target is at least as good as the information
produced by the acquirer’s information-processing
and evaluation capabilities, the acquirer pays a
price premium for information and evaluation
services provided by the stock market that are
redundant to the services provided by its own capabilities, and fail to capture value from acquiring
identical assets owned by a private target at a lower
price.
Hypothesis 3: Selecting a public over a private target in theoretically appropriate conditions increases acquirers’ returns; i.e., acquirers
who buy a public (private) target under conditions that are favorable to the purchase of a
public (private) target perform better than if they
had bought a private (public) target.
DATA AND METHODS
Our methodology combines (1) an event study of
acquirer returns and (2) a post-acquisition survey
of acquiring firms. This approach corresponds to
recent studies in finance that combine event studies with surveys to account for firms’ attributes and
actual behavior (Jarrell, 1998).
Among the 273 responses of our survey, we
include in our sample only the 101 acquirers that
were stock-listed and for which an event study
could be conducted. We considered acquisitions
where the acquirer was acquiring more than 50
percent of the target. We then used the SDC Platinum to determine the targets’ ownership status.
Among the 101 targets, 52 were public and 40
were private (the nine remaining targets were not
included as they were government subsidiaries). A
detailed description of the survey design can be
found in Appendix 1.
We used a survey to collect specific data on
private targets that would not have been possible to collect through public databases, notably
for private targets that reside outside the United
States. In some European countries (like Germany), to gather financial information on private
firms can be an extremely difficult task, while
in others (like Italy), timeliness of information is
a recurring issue. Despite the survey’s information richness, the relatively small sample size is
a limiting factor of the study. To better understand how our sample’s features may affect the
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
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L. Capron and J.-C. Shen
Table 1. Comparison of our sample with other samples
Our study
Acquirer countries
Chang (1998)
Journal of Finance
Fuller et al. (2002)
Journal of Finance
U.S. bidders
U.S. bidders
Acquirer industries
Multinational sample
(bidders from U.S.,
U.K., and France
representing 77% of
bidders)
Manufacturing industries
All industries except
financial services
Data source
Survey + SDC
# of observations
Deal value ($ million)
92
• Public targets: 826
• Private targets: 158
• Public targets: 53% of
public targets have a
relative size ≥25% to
their acquirer
• Private targets: 33% of
private targets have a
relative size ≥25% to
their acquirer
(Measure of size: firm
sales)
>50% stake
17% (survey measure)
1988–92
Mergerstat Review +
CRSP
281
• Public targets: 262
• Private targets: 156
• Public targets: 0.39
All industries except
utility and financial
services
SDC
Relative size of target to
acquirer
Type of acquisition
Diversifying acquisitions
Time period
Methodology
Control for endogeneity
bias
OLS
Yes
ways in which our findings might be generalized, we have traced differences between our sample and the samples used in two reference studies on similar issues that have been published in
the Journal of Finance: Chang (1998) and Fuller
et al. (2002). These differences are presented in
Table 1.
Our sample shares similarities with the studies
by Chang (1998) and Fuller et al. (2002). Like
these two studies, the average deal value for private targets of our sample ($158 million) is significantly smaller than the deal value for public
targets ($826 million). Similarly, the relative size
of target to acquirer is significantly smaller for private targets than for public targets. We all focus
on similar types of transactions where the acquirer
purchases more than 50 percent of the target. There
is also significant overlapping in the time period
across the three studies. Chang’s study covers our
Copyright  2007 John Wiley & Sons, Ltd.
• Private targets: 0.27
(Measure of size: firm
market value)
>50% stake
n.a.
• Public targets:
1981–88
• Private targets:
1981–92
OLS
No
2,516
• Public targets: 1,200
• Private targets: 69
• Public targets: 41% of
public targets have a
relative size ≥20% to
their acquirer
• Private targets: 13% of
private targets have a
relative size ≥20% to
their acquirer
(Measure of size: firm
market value)
>50% stake
40% (SIC)
1990–2000
OLS
No
period for private targets but also covers earlier
deals (early 1980s), while Fuller et al. covers part
of our time period but also covers later deals (up
to 2000). To control for time effects, we also rerun
our model by adding each year as a control variable, and the results did not change.
Our sample is also quite distinct (international
diversity, predominance of horizontal and related
acquisitions, manufacturing industries). The higher
international diversity of our sample can affect our
results in several ways. First, there is less information available on public firms outside the United
States than in the United States. Historically, U.S.
dealmakers had access to more sophisticated capital markets, and therefore accessed superior information on public firms. Less information discrepancy between public and private targets may
reduce the acquirer return differences between the
two types of targets. Second, due to the limited size
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
Acquisitions of Private vs. Public Firms
of many European countries, a large percentage of
deals are cross-border. This creates additional challenges, both in the due diligence and in the integration processes. In the United States, the sheer size
of the domestic market provides more opportunities for domestic deals; 79 percent of acquisitions
in our sample are cross-border, while other studies
are dominated by domestic mergers. Higher evaluation difficulties can also reduce acquirer abnormal
returns. We add two control variables—‘U.S. target’ and ‘U.S. acquirer’—which aim at capturing
the effects of U.S. acquisition specificities. Our
sample is also dominated by horizontal and related
acquisitions, while other samples have a higher
proportion of inter-industry transactions (40% in
the study by Fuller et al., 2002). Higher proximity with a target business reduces difficulties
of evaluating the target and increases potential
for recombination of resources and economies of
scale. This aspect of our sample may favor acquirer
returns. We also control for inter-industry transaction in our model. Last, our sample focuses on
manufacturing industries that are also included in
the other two studies. Yet, the other studies also
include acquisitions in service industries (excluding financial services) that can be intensive in
hard-to-evaluate human assets. This feature of our
sample may reduce the risk of overpayment for
assets that can walk away and may favor acquirer
returns. Yet, in our sample, we also control for
targets with high intangibles vs. those with low
intangibles.
Altogether, our sample shares similarities with
larger samples used in finance studies, and exhibits
distinct features that we have tried to control for
in our statistical analyses. In spite of its relatively
limited size, the international diversity of our sample complements previous studies by providing
results that apply beyond the U.S. context.
899
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 is
privately held and 0 if the target is listed.
Independent variables of the target selection
model
We used a binary variable, ‘Diversifying acquisition,’ obtained from the survey, that takes the
value of 1 when the acquirer made the acquisition in its core business and 0 otherwise. We
used the number of previous acquisitions made
by the acquirer within the 5 years prior to the
focal transaction in the target’s industry to construct the variable ‘Acquirer M&A experience in
target industry.’ Another survey-based measure,
‘Target international scope,’ captures the international scope of the target’s activities: domestic (1),
regional (2), and global (3). We used a binary variable, ‘Target intangibles,’ that takes the value of
1 when the target comes from high-tech industries and 0 otherwise. Measuring the degree of
intangibility of the target’s assets is difficult to do
for private firms for which we have little firmlevel data on R&D spending and for which a
Tobin’s Q (market-to-book value) cannot be calculated. To measure target intangibles, we also used
three survey measures of ex post transfer of target
resources to acquirer: redeployment of innovation,
redeployment of engineering, and redeployment of
marketing resources (for more details on those
post-acquisition measures, see Capron, Dussauge
and Mitchell, 1998). Using these measures rather
than the binary variable did not change our results.
We therefore reported the simpler binary variable.
‘Target age’ was a self-reported measure on a 5point scale.
Measures
Dependent variable: Acquirer’s abnormal returns
Independent variables of the fit model
We estimate acquirer abnormal returns using an
event study methodology. The cumulative average abnormal return (CAAR) has been calculated following the standard approach described
by McWilliams and Siegel (1997: 628–629). The
date of announcement of the acquisition was collected through the use of several data sources:
SDC, Reuters, and LexisNexis.
To address the issue of the economic significance
of the acquirer’s choice, we created a variable,
‘Fit,’ which captures the fit between an acquirer’s
actual choice between a public or private firm and
what the discrete choice model predicted that it
should do. Given that the dependent variable of the
discrete choice model is equal to 1 if the target is
private and 0 if it is public, the fit variable is equal
Copyright  2007 John Wiley & Sons, Ltd.
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
900
L. Capron and J.-C. Shen
to p (the probability of choosing a private target
predicted by the model) if the target is private and
1 − p if the target is public.
Control variables
Differences in the acquirer’s returns of acquisitions
of private vs. public firms can also be attributable
to differences in the characteristics of (1) the deal,
(2) the target, and (3) the acquirer.
Deal attributes
Competing bidder. Higher competition decreases
the acquirer’s abnormal returns (Schwert, 1996).
Although competition tends to be higher for public
targets, we disentangle the ownership effect from
competition per se. We used a binary variable,
‘Competing bidder’ (as reported in SDC), that
equals 1 when there is at least one other bidder
for the same target and 0 otherwise.2
Target relative size to acquirer. Because public targets tend to be larger (and more visible) than private targets, these two effects are
often confounding (Moeller et al., 2004). Size
confers greater opportunities for outside options.
Research on IPO finds that the likelihood of an IPO
increases with the firm’s size (Pagano, Panetta,
and Zingales, 1998). Greater relative size provides
greater bargaining power to the target (Kooli et al.,
2003). Also, greater relative size provides greater
potential for recombination and scale economies.
Acquiring a large target is likely to be a more
important economic event for the acquirer than
acquiring a small target (Agrawal, Jaffe, and Mandelker, 1992). We used a 5-point scale measure to
assess the relative proportion of the target’s sales
to the acquirer’s sales: ‘Target relative size.’
All-cash deal. Research on returns to bidders
often focuses on whether cash, stock, or a combination of methods is used to pay for a deal,
with target firms preferring cash (Fuller et al.,
2002). We created a variable, ‘all-cash deal,’
which accounts for the proportion of cash in the
deal according to SDC Platinum.
Target attributes
Target pre-merger profitability. A highly profitable target is likely to have valuable resources to
be leveraged in an acquisition. Meanwhile, strong
profitability commands bargaining power to the
target. We measured ‘target pre-merger profitability’ relative to its industry average, using a 5-point
scale, ranging from ‘much less profitable’ to ‘much
more profitable.’
Target industry growth. Strong demand in the target industry can increase target bargaining power:
targets with growth prospects are more sought after
by bidders and may induce some acquirers, especially those seeking to buy growth, to overpay.
Kooli et al. (2003) find that the discount for private firms is lower for targets with high growth
potential. Private firms may also have more opportunities to go for an IPO. Empirical studies have
found that the likelihood of an IPO increases with
the industry’s market-to-book ratio (Pagano et al.,
1998). We used a 5-point scale variable to capture
‘Target industry growth.’
U.S. target. We also tested whether our results
are driven by the U.S. market for corporate control
idiosyncrasies. The U.S. market is more active than
others (Schneper and Guillen, 2004). We used a
binary variable, ‘U.S. target,’ that takes the value
of 1 if the target is U.S. and 0 otherwise.
Acquirer attributes
2
We are aware of the limits of our measure, which has been
frequently used in finance studies. With this proxy competition
is rare, but is more frequent for large acquirers than for small
acquirers (Moeller et al., 2004). Boone and Mulherin (2002)
show that an acquisition by one public bidder can follow a private auction in which many firms participate. Another problem
with our proxy for competition is that in a competitive market a firm might choose to be very aggressive and offer a very
high premium to deter competition. Hence, we might conclude
that there is no competition when, in fact, potential competition
strongly impacts the premium. To alleviate some of these problems, we used an alternative measure for competition that we
drew from our survey and did not find different results.
Copyright  2007 John Wiley & Sons, Ltd.
Acquirer international scope. The geographic
diversity of the acquirer’s activities can help screen
and integrate firms from different environments.
Firms spanning several geographic settings tend to
develop organizational structures (multidivisional
forms) capable of managing complex informationprocessing and decision-making requirements. In
contrast, a more focused domestic firm may lack
the necessary organizational routines that the multinational form grants (Anand, Capron, and Mitchell,
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
Acquisitions of Private vs. Public Firms
2005). We used a 3-point variable to measure
the ‘acquirer’s international scope’: (1) domestic,
(2) regional, and (3) global.
Acquirer pre-merger profitability. Poorly performing acquirers may be enticed to make acquisitions to hide their poor results or to find new
ways of growing. They may also have limited
skills at enhancing the target’s value. We measured ‘acquirer pre-merger profitability’ relative to
its industry average, using a 5-point scale, ranging
from ‘much less profitable’ to ‘much more profitable.’
U.S. acquirer. For the reasons we mentioned earlier, we tested whether our results were attributable
to the specificities of the U.S. market for corporate
control.
Table 2 reports a matrix of correlations of our
variables. Our survey measures are reported in
Appendix 2.
Model specifications
901
The coefficient for Lambda in the return model
therefore captured the effect on performance of
all unmeasured differences between acquisitions
of private targets and public targets. Incorporating
Lambda enabled us to test the presence of endogeneity biases and to remove them so as to obtain
unbiased estimates for the effects of target ownership on acquirer returns.
Final model
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
(All-cash deal) +β5 (Target pre-merger profitability) +β6 (Target industry growth) +β7 (U.S. target)
+β8 (Acquirer international scope) +β9 (Acquirer
pre-merger profitability) +β10 (U.S. acquirer) +β11
(Lambda) +β12 (Diversifying acquisition) +β13
(Acquirer M&A experience in target industry)
+β14 (Target international scope) +β15 (Target intangibles) +β16 (Target Age) +ε.
Lambda variable: Correction for endogeneity bias
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. We modeled
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 is
private and 0 when the target is public. The independent variables are: ‘diversifying acquisition,’
‘acquirer M&A experience in target industry,’ ‘target international scope,’ ‘target intangibles,’ and
‘target age.’
To correct for endogeneity biases, we used a
Heckman (1979) two-step estimation procedure
(Shaver, 1998). The first step was to estimate the
choice model (i.e., the acquirer’s choice between a
private and a public target). At the second stage of
the Heckman procedure we estimated a model of
acquirer abnormal returns, including the Lambda
endogeneity bias control variable (the inverse of
the Mills ratio) obtained from the selection model.
Copyright  2007 John Wiley & Sons, Ltd.
RESULTS
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. The results of
our probit model are presented in Table 3.
We find strong support for Hypothesis 1a:
acquirers are less likely to buy a private
target when they enter a new business domain.
Only 8 percent of private targets were used for
diversification purposes, while 24 percent of public
targets were outside the acquirer’s core business.
This result suggests that acquirers are less likely
to identify a private firm outside their core
business or face greater evaluative uncertainty
when evaluating a private target in an unfamiliar
area. Likewise, private sellers have a narrower
market for selling their company since they are
less likely to be bought by an acquirer outside
their industry. Similarly, we find that acquirers are
more likely to acquire private targets when they
have accumulated acquisition experience in the
targeted industry, supporting Hypothesis 1b. We
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
Copyright  2007 John Wiley & Sons, Ltd.
Statistically significant at
∗∗∗
0.43
0.50
−0.21∗∗
−0.21∗∗
0.15
∗∗
3.22
1.16
3.43
0.93
0.19
0.39
−0.14
0.06
−0.14
0.24∗∗ −0.05
−0.08
0.04
0.02
0.24∗∗ −0.11
0.21∗∗ −0.14
1.86
1.28
−0.10
1
0.05
6.
0.16∗ 0.07
0.13 −0.03
0.15∗ 0.76∗∗∗
0.10
0.21∗
0.19∗
1
5.
0.17∗
0.10
−0.12
0.04
p < 0.05; ∗ p < 0.10
0.05
0.22
0.13
0.06
0.11 −0.15∗
0.02
−0.07
0.01
0.02
0.22∗∗ −0.07 −0.03
−0.19∗ −0.11 −0.02
0.03
−0.07
0.02
−0.16∗
0.10 −0.12
−0.05
−0.21∗∗
−0.03
−0.12 −0.01
0.12 −0.16∗
−0.14
−0.04
−0.01
−0.05 −0.18∗
1
4.
−0.02
3.
1
−0.03
1
0.15∗ −0.03
2.
−0.18∗
−0.17∗
0.10
1
1.
p < 0.01 (two-tailed);
1. Private target ownership
dummy
2. Competing bidder dummy
3. Target relative size (1–5)
4. Target pre-acquisition
profitability (1–5)
5. Target industry growth
(1–5)
6. U.S. target dummy
7. Acquirer international
scope (1–3)
8. Acquirer pre-merger
profitability (1–5)
9. U.S. acquirer dummy
13. All-cash-deals dummy
14. High-tech target industry
dummy
15. Diversifying acquisition
dummy
16. Acquirer M&A experience
in target industry
17. Target age (1–5)
18. Target international scope
(1–3)
Mean
S.D.
Table 2. Descriptive statistics
2.62
0.65
−0.01
0.15∗
0.13
1
0.00
0.04
9.
0.08
−0.14
1
−0.04
13.
−0.12
−0.03
1
14.
3.66
0.90
0.21
0.41
44.66
45.44
0.16
0.37
16.
0.15
0.36
17.
18.
5.38 4.51 1.75
6.99 0.94 0.76
0.10 1
0.08 0.07 1
−0.15∗ 1
1
15.
0.14 −0.15∗ −0.04 −0.21∗∗ −0.14
−0.17∗ 0.20∗∗ −0.16∗ 0.11
−0.06
0.03 −0.12
−0.04
−0.05
0.20∗∗
0.06
0.10
−0.13
1
8.
0.11
−0.08
0.00
−0.10
1
7.
902
L. Capron and J.-C. Shen
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
Acquisitions of Private vs. Public Firms
Table 3.
903
Effect of target ownership on acquirer abnormal returns
Probit (1 if target is private)
(1)
22.01∗∗
(11.09)
−5.83∗
(5.16)
0.83
(0.89)
0.01
(0.02)
1.96∗∗
(0.96)
−0.91
(1.13)
29.09∗∗
(12.38)
0.24
(1.72)
−1.77
(1.47)
0.91
(3.28)
−12.92
(7.69)
Private target ownership (binary variable)
Competing bidder (binary variable)
Target relative size (1–5)
All-cash-deal (binary variable)
Target pre-merger profitability (1–5)
Target industry growth (1–5)
U.S. target (binary variable)
Acquirer international scope (1–3)
Acquirer pre-merger profitability (1–5)
U.S. acquirer (binary variable)
Correction for endogeneity of target choice (λ)
Fit (‘aligned’ choice of private target)
−1.81∗∗
(0.91)
0.05∼
(0.04)
−0.74∗∗
(0.37)
−1.60∗
(0.92)
−0.93∗∗∗
(0.33)
5.24
(1.76)
92
−43.06
0.30
Diversifying acquisition (binary variable)
Acquirer M&A experience in target industry
Target international scope (1–3)
Target intangibles (binary variable)
Target age (1–5)
Constant
n
Log-likelihood
R2
Statistically significant at
∗∗∗
p < 0.01 (two-tailed);
∗∗
0.36
5.64∗∗
(2.38)
−6.75∗
(5.07)
0.64
(0.86)
0.02
(0.02)
2.20∗∗
(0.95)
−1.86
(1.10)
20.54∗∗
(7.83)
0.89
(1.57)
0.43
(1.13)
−0.73
(3.01)
13.87∗
(7.22)
−2.46
(2.64)
0.07
(0.16)
2.64∗
(1.45)
−25.19∗∗∗
(8.43)
−0.26
(1.13)
−19.51
(10.67)
92
0.38
p < 0.05; ∗ p < 0.10; ∼p < 0.10 (one-tailed). Standard errors in parentheses.
also find support for Hypothesis 1c: acquirers are
more likely to buy private targets when the targeted
assets are geographically concentrated in one area
rather than dispersed across several countries.
We find support for Hypothesis 1d, which posits
that firms refrain from buying private firms when
there is high uncertainty about the value of the
assets. We find that acquirers are less likely to
buy a private target in a high-tech industry. The
proportion of private targets in a high-tech industry is 8 percent, while this proportion is 21 percent for public targets. This result implies that the
equity market acts as a screening mechanism when
Copyright  2007 John Wiley & Sons, Ltd.
0.82
(2.83)
0.02
(0.16)
3.94∗∗
(1.72)
−30.61∗∗
(11.59)
1.06
(1.46)
−21.41
(11.89)
92
(2)
the value of the target is highly debatable. An
alternative explanation of the result could be that,
given that intangibles are ill-suited to debt financing (Hall, 2002; Arikan, 2002), highly intangible
firms are more likely to be publicly traded.3
Last, we find support for Hypothesis 1e-alt,
which predicts that acquirers are more likely to
acquire private targets that are younger than public
3
In both types of explanations (acquirer selection intent or
target self-selection) the implications for our research are similar:
public targets are qualitatively different from private targets, and
such heterogeneity must be taken into account to single out the
effect of target ownership on acquirer performance.
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
904
L. Capron and J.-C. Shen
targets. Although young private targets are associated with high information asymmetry, older firms
are more likely to be listed than younger firms.
Acquirers are more likely to buy older public firms
due to a ‘population effect.’
Altogether, these results suggest that firms
consider buying private firms when their resources,
business, geographic position, and their prior
acquisition experience provide them with sufficient
capacity to search and evaluate assets from private
firms. The choice between a private and a public
target is therefore not random, and we need to
control for the endogeneity of the target choice
when comparing the returns to acquirers of private
and public firms.
Acquirers’ returns in acquisitions of private
vs. public targets
Figure 1 shows the daily CAAR of acquirers
of public and private targets for the event window [−20;10]. It shows that announcements of
acquisitions of private targets elicit a more positive response from the stock market than those
of public targets. To test the robustness of our
results, we used two other time windows: [−20;5],
[−20;1]. These two time windows, notably the latter [−20;1], are shorter to better isolate the effects
of the acquisition event from potential other confounding effects (McWilliams and Siegel, 1997).
We find that the acquirer returns for private targets are significantly higher than those for public
targets by 4.70, 3.43, and 2.78 across the three
time windows, [−20;10], [−20;5], and [−20;1],
respectively. These differences are all statistically
significant at the 1 percent level.
The superiority of acquirer returns on private
acquisitions is remarkable for two reasons. First,
the relative average value of the bids for private
targets is lower than the bids for public targets
(U.S. $158 million for private targets vs. U.S.
$826 million for public targets, t = −2.56; p <
0.01). Other things being equal, the smaller bids
should have a lower impact on the equity value
of the acquiring firms. Second, 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. In contrast, information on bids
for public targets seems to be disseminated before
the announcement: Figure 1 shows the downward
shift in acquirer returns a few days before the
announcement. This pre-bid decrease in the stock
price of acquirer of public targets might be the
Acquirer CAAR
4%
Public targets
3%
Private targets
2%
1%
Days
10
8
6
4
2
0
-2
-4
-6
-8
0
-1
2
-1
4
-1
-1
6
8
-1
-2
0
0%
-1%
-2%
-3%
Figure 1. Acquirer abnormal returns in acquisitions of private vs. public targets
Copyright  2007 John Wiley & Sons, Ltd.
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
Acquisitions of Private vs. Public Firms
mirror effect of the pre-bid run-up of the price
of public targets documented by Schwert (1996).
We also recognize that alternative interpretations
are consistent with our results. For instance, the
downward shift in acquirer returns prior to the
announcement of a public firm acquisition may
just be a result of insider trading (unobservable,
of course, in private firms).
Our results (see Model 1 of Table 3) show that
the relationship between private target ownership
and acquirer returns is significant and positive after
controlling for endogeneity bias, which supports
Hypothesis 2. We used the residuals of the probit
model to construct Heckman’s Lambda in order
to control for endogeneity bias and unobserved
differences between private and public targets.
Therefore, the coefficients of the other predictors
in our equation are unbiased.
In summary, our second hypothesis is supported
after controlling for endogeneity bias. Acquirers of
private targets do better for their shareholders than
acquirers of public targets at the announcement of
the acquisition.
Contingency of the relationship between target
ownership and acquirer returns
Do acquirers gain when their selection of a public or private firm fits the theory, or is all the
performance driven by whether they acquire a public or a private firm? We constructed the variable, ‘fit,’ to test whether the acquirer’s choice
of target corresponds to our theory that target
selection improves acquirer abnormal returns. The
results show that the fit variable is significantly and
positively related to acquirer returns (see Model
2 of Table 3). Acquirers who turn to private targets when undertaking local search (high fit) enjoy
superior performance, whereas acquirers who turn
Table 4.
905
to private targets when undertaking more distant
or risky search (low fit) pay a performance toll.
These results suggest that acquirers make more
profitable acquisitions when their public/private
target choice is consistent with what theory would
predict, based on their information processing and
evaluation skills, as well as the attributes of the
target.
To provide further evidence on the economic
significance of fit, we follow the procedure laid out
by Shaver (1998). We first estimate the acquirer
return model (1) separately for public and private
acquisitions. Using the parameters estimated on
the subsample of public firms, we compute the
predicted acquirer returns for both public and private targets. This enables us to estimate what the
performance of acquirers of public firms would
have been, had they acquired private targets. Conversely, we use the parameters of the model estimated on the subsample of private firms to predict
acquirer returns for both private and public firms.
Table 4 shows the mean acquirer returns in these
four conditions.
The results from Table 4, combined with the
results from Table 3, support Hypothesis 3. The
mean predicted return of acquirers of public firms
is −0.72 percent. Had these acquirers chosen a
private firm instead, their performance would have
dropped to −12.08 percent (t = −8.2, p < 0.001).
Similarly, the mean predicted return of acquirers
of private firms is 4.17 percent. Had they chosen a
public firm instead, their performance would have
dropped to −5.10 percent (t = −7.7, p < 0.001).
This analysis shows that our result that acquirer
returns are generally superior when buying private
firms than when buying public firms does not necessarily imply that firms that consider buying a
public firm should opt for a private target instead.
Economic implications of the acquirer’s public/private target choice on acquirer returns
Real situation
‘What if’ analysis
Returns for acquirers of public targets when
buying public targets
0.72%
Returns for acquirers of private targets when
buying private targets
4.17%
Statistically significant at
∗∗∗
Mean difference
Returns for acquirers of public targets had they
bought a private target instead of a public
target
−12.08%
Returns for acquirers of private targets had
they bought a public target instead of a
private target
−5.10%
11.36∗∗∗
9.27∗∗∗
p < 0.01 (t-tests)
Copyright  2007 John Wiley & Sons, Ltd.
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
906
L. Capron and J.-C. Shen
In fact, it suggests that firms, on average, are
making informed choices by selecting the type of
target that best corresponds to the type of search
that the acquirer is conducting, the acquirer’s information skills, and the other merging firms’ characteristics.
DISCUSSION AND CONCLUSION
Our study outlines three main results: (1) acquirers
choose their target (private vs. public) based on
information-based deal attributes and the merging
firms’ attributes. Acquirers favor private targets in
familiar industries and turn to public targets to
enter new business domains or industries with a
high level of intangible assets; (2) acquirers of private targets perform better than acquirers of public
targets on merger announcement, after controlling
for endogeneity bias; (3) acquirers of private firms
perform better than if they had acquired a public
firm, and acquirers of public firms perform better than if they had acquired a private firm. These
results contribute to the M&A literature in several ways, and point to areas where future research
could be conducted.
Contribution
Our study contributes to the M&A literature by
exploring an important segment of the market
for corporate control that has been underexplored.
Our empirical findings complement prior studies
on the determinants of private vs. public targets
(Shen and Reuer, 2005) and on acquirer returns
of private vs. public targets (Chang, 1998; Fuller
et al., 2002). Research on the determinants of the
acquirer’s choice was useful for our research to
build our selection model but it does not examine
whether the acquirer’s target choice helps acquirer
returns. Also, research on acquirer performance
interestingly shows that the stock market usually
tends to react more favorably to acquisitions of
private firms but it does not explore the contingency factors of this largely unexplained phenomenon. Notably, not considering the acquirer’s
target choice is problematic because the relation
between the acquirer’s target choice and performance cannot be accurately assessed without
an appreciation of the factors that lead to the
acquirer’s choice of target.
Copyright  2007 John Wiley & Sons, Ltd.
In this paper, we present empirical evidence
that is consistent with the role of private information on acquirer performance: private information not only affects the acquirer’s choice of
targets but also influences its abnormal returns.
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.
Our results emphasize the role of private information and inter-firm information heterogeneity on
the acquirer’s target selection and its returns.
At a more theoretical level, our paper articulates
the link between private information and returns of
acquirers of private vs. public firms, which helps
clarify the relation between information economics
and strategy factor market theory in M&A literature. Information economics views information
asymmetry as a friction in factor markets that constrains the acquirer’s selection of targets (Akerlof,
1970). Bidders and sellers have to spend considerable resources to address the problems arising
from information asymmetry in the market for corporate control: sellers use various ways to signal
their quality and prospects to potential buyers, such
as sequential divestiture through IPOs (Reuer and
Shen, 2004) or endorsement through ties with prestigious third parties (Stuart et al., 1999). Bidders
also use several remedies to mitigate information
asymmetry, such as contingent earnouts (Reuer
and Ragozzino, 2007), lower premium bid, lengthy
negotiations (Coff, 1999), or screening through the
equity market (Shen and Reuer, 2005). In contrast, the strategic factor market theory considers
information asymmetry as an opportunity for value
creation by exploiting private information, and outlines information collection strategies that aim at
maximizing inter-firm heterogeneity in information acquisition (Barney, 1986; Makadok and Barney, 2001). Our study helps clarify the seemingly
contradictory arguments by revealing two facets
of information asymmetry in the market for corporate control: a bidder prefers low information
asymmetry vis-à-vis target in order to reduce transaction costs and minimize decision errors,4 but
high information asymmetry vis-à-vis competing
4
More precisely, bidders prefer one-way information asymmetry: they know more about the target in order to minimize
transaction costs and decision errors, but they prefer the target to know little about their M&A intent and valuation. The
target should not be aware of the existence of the private information; otherwise it could disseminate it to competing bidders
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
Acquisitions of Private vs. Public Firms
907
bidders in order to benefit from its private information.
In addition, the results from the fit model highlight the role of acquiring managers’ decision
making that has been downplayed in the finance
studies on acquisitions of private firms. If returns
to acquirers of private targets are unconditionally superior to those to acquirers of public targets, acquirers’ choice of public targets needs to
be explained. The fit model allows us to examine the economic significance of acquiring managers’ choice of target and suggests that managers make informed choices. On average, acquiring managers’ choice of target is optimal under
the constraints they face, such as their capabilities to search and evaluate a target and the
nature of resources embedded in the target. Previous studies on different strategic choices, such
as foreign entry mode (Shaver, 1998) or outsourcing choice (Masten, 1993), reach similar conclusions. These studies support the interpretation that
firms make strategic choices based on the expected
performance of their targets. Therefore, ‘there is
value in highlighting what conditions lead to strategy choice and how this relates to performance’
(Shaver, 1998: 584).
acquirer may not have intrinsic differences over
another acquirer in terms of its differential knowledge about the target. In terms of value appropriation, the market for corporate control of public
firms is more competitive than that of private firms.
Bidder competition and bargaining power of public targets are key elements of value appropriation
for target shareholders. Acquirers of public targets
should also watch the ‘auction-like’ atmosphere of
public deals.
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 proportion of the value in
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, and IPO. Sellers
of private firms, which might have weaker negotiation skills or at least lower acquisition experience
than their public acquirers, should also be careful when they negotiate ‘psychological benefits’
for themselves or their employees at the expense
of the purchasing price (Graebner and Eisenhardt,
2004).
Prescriptive implications
Limitations
Our study has prescriptive implications for managers. From a normative perspective, investigating simultaneously an acquirer’s choice and its
performance implications is critical in evaluating
the value of a theory as a basis for managerial
prescriptions. As Masten (1993) emphasizes, if
managers are mistaken or ill informed, studies on
the determinants of acquisitions of private targets
will say little about the choice’s actual influence
on acquirer performance. Our evidence suggests
that acquirers should take into account information asymmetry when choosing a target. Contrary
to what the prior studies in finance would imply,
acquisitions of private targets may not universally
improve acquirer performance. Ignoring the factor
of information asymmetry when choosing a target
simply deteriorates acquirer returns.
In terms of value creation, greater information
disclosure on public targets is really a doubleedged sword. When the target is public, any
These empirical results, however, have a few
important limitations. First, 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. Second, our arguments are more applicable to developed economies, where efficient capital markets
are assumed. Our paper assumes that firms operate in a developed equity market, where capital is
saved and channeled to the most profitable investment projects through aggregating heterogeneous
information and spreading unsystematic risks, i.e.,
risks that do not affect an entire financial market but are rather specific to its participants. Such
equity market efficiency provides the foundation
for informational advantages between acquirers of
public and private targets. Our arguments will need
substantial revision when applied in developing
and capture the increased value from higher valuation of target
assets (Barney, 1988).
Copyright  2007 John Wiley & Sons, Ltd.
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
908
L. Capron and J.-C. Shen
economies, where capital markets are inefficient,
and where institutional voids proliferate.
Third, and related, 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 whether
the market overreacts to the announcement of the
acquisition of a private target or changes its expectations over time.
Future avenues for research
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.
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, management features (Villalonga and Amit, 2006), and negotiation expertise on acquirer returns. 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 due to
the shifts in culture and governance systems, the
presence of a close-knit culture, 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 private firm discount. The
rare studies on the issue have constructed comparable samples of private and public targets based
on size and industry. Yet, we find that broader
qualitative differences differentiate private targets
from public targets. Moreover, to capture differences between private and public targets in a more
comprehensive way, one has to 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
Copyright  2007 John Wiley & Sons, Ltd.
existing models (Pagano et al., 1998). The convergence of IPOs and M&A literature could be a
fruitful avenue for future research.
ACKNOWLEDGEMENTS
We are grateful to Gautam Ahuja, Allan Afuah,
Asli Arikan, Ilgaz Arikan, Pierre Chandon, Melissa
Graebner, Andrew Henderson, Kevin Kaiser,
Mauro Guillėn, Dan Levinthal, Constas Lioukas,
Jeff Reuer, Lori Rosenkopf, Andrew Van Nordenflycht, Rosemarie Ziedonis, James Westphal, and
participants at INSEAD, University of Michigan,
Wharton, University of Texas—Austin and York
University, who provided stimulating comments
and constructive suggestions on earlier versions of
this manuscript. We also thank the two anonymous
SMJ reviewers and Associate Editor Rick Bettis
for their valuable help during the review process.
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APPENDIX 1: SURVEY PROCEDURE
Sampling frame
The initial sample consisted of 2,020 acquisitions
from 1988 to 1992 between manufacturing companies within the same industry, defined at the 4-digit
level of the U.S. Standard Industrial Classification
(SIC). We chose the period 1988–92 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 and 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 pre-tested these scales with
a group of academics, consultants, and managers.
These pre-tests 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 10 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
Copyright  2007 John Wiley & Sons, Ltd.
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 followup 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 percent. This response rate is
comparable with that for most recent large-scale
surveys involving executives. 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, 20 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 nine were government subsidiaries.
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. Relative size of target to acquirer (relative
annual sales) in the line of business concerned:
1.
2.
3.
4.
5.
<25%;
25–49%;
50–74%;
75–100%;
>100%
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj
Acquisitions of Private vs. Public Firms
3. Geographic scope of the acquired firm’s operations
1. Domestic/national
2. International (but limited to one geographic
zone; i.e., Europe, U.S., or Asia)
3. International/global
4. Target age:
1.
2.
3.
4.
5.
<2 years;
2–5 years;
6–10 years;
11–15 years;
>15 years
5. Profitability (profit/capital employed) of the
acquired business relative to industry average
before the acquisition:
1.
2.
3.
4.
5.
Much less profitable
Less profitable
Equivalent
More profitable
Much more profitable
6. Demand trends in your industry just before the
acquisition?
2.
3.
4.
5.
911
Slightly increasing
Stable
Slightly declining
Sharply declining
7. Acquirer acquisition experience: number of
firms acquired in the target industry in the past
5 years.
8. Geographic scope of the acquirer’s operations
1. Domestic/national
2. International (but limited to one geographic
zone; i.e., Europe, U.S., or Asia)
3. International/global
9. To what extent have you used resources from
the acquired business to assist your existing
business?
NOT AT
ALL
TO SOME
EXTENT
TO A VERY 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
1. Sharply increasing
Copyright  2007 John Wiley & Sons, Ltd.
Strat. Mgmt. J., 28: 891–911 (2007)
DOI: 10.1002/smj