Common Ownership and Competition in Mergers and Acquisitions

Common ownership – the phenomenon of firms sharing stockholders with industry competitors – is becoming ubiquitous, with 82 percent of S&P 500 firms having common ownership at the end of 2015 compared with just 17 percent in 1990.

At least in theory, a cross-owner has incentives to reduce competition among its portfolio companies because doing so may boost their earnings (likely at the cost of consumers or other companies). For example, common ownership within the finance industry has been found to reduce interest rates that savers receive on their deposits, while common ownership between airline companies tends to raise air ticket prices. In contrast, other studies have found that common ownership does not reduce industry competition.

Our paper, “Common Ownership and Competition in Mergers and Acquisitions,” empirically examines whether common ownership between industry peers lowers competition in the race to acquire other firms. We consider only common ownership greater than 5 percent because smaller stakes typically give a cross-owner more limited influence on its portfolio companies’ acquisition decisions. We show, for the first time in the literature, that common ownership between potential acquirers lowers the level of competition in their race to acquire a target firm and that the reduced competition benefits the acquirer’s shareholders by increasing their wealth.

Establishing causal effects of common ownership on the competition in mergers and acquisitions is challenging. An investor might choose to invest in multiple firms in the same industry because the industry is less competitive; that is, the direction of causality might run from competition to common ownership rather than the other way around. It is also possible that certain unobserved firm or industry characteristics drive both the cross-owner’s decision to invest in multiple firms in the same industry and those firms’ acquisition decisions.

We establish causal effects by examining mergers between financial institutions. Such a merger creates common ownership between two firms if each firm was owned by one of the two financial institutions but not by both financial institutions prior to the merger. Since the merger between the two financial institutions is unlikely to be driven by ex post acquisition decisions of the two firms, the common ownership between the two firms can be regarded as exogenous to their acquisition decisions.

In a comprehensive sample of announced acquisition bids from 1980-2017, we observe that the existence of a cross-owner between the acquirer and potential contesting acquirers in the same industry lowers the likelihood that the target will receive a competing acquisition bid by 45 percent. In particular, that likelihood jumps from 1.3 percent when the acquirer and potential competitors share a common stockholder to 2.5 percent when they do not.

The existence of a common owner continues to reduce the likelihood of a competing bid by about 45 percent in regressions that use mergers between financial institutions as an instrumental variable for common ownership. In addition, we create a clean sample of acquisition bids that is free of the endogeneity concern. Specifically, we exclude the cases where common ownership between the acquirer and potential contesters is not the result of mergers between financial institutions. The remaining common ownerships between the acquirer and potential competitors are arguably free of the endogeneity concern. In this clean sample, we continue to observe that (exogenously created) common ownership reduces the likelihood of competing bids by about 45 percent.

We supplement the results with a second identification strategy using the level of common ownership five years before the acquisition bid as an instrumental variable for the level of common ownership at the time of the acquisition bid. Lagged common ownership is unlikely to be formed in anticipation of acquisition contests five years later. This makes lagged common ownership a potentially powerful instrumental variable for the level of common ownership at the time of the acquisition contest. We then estimate two-stage instrumental variable regressions using lagged common ownership as an instrument and continue to observe that each common owner reduces the likelihood of competing bids by about 45 percent.

The consistency of the economic magnitude of the effect offers us confidence that the effect we document is real.

In addition, we find that common ownership between the acquirer and potential competitors raises the likelihood that the acquisition will be consummated. This corroborates our finding that common ownership reduces competition in the takeover market.

Common ownership also affects the wealth of acquirer and target shareholders. We find that common ownership between the acquirer and potential competitors is associated with greater acquisition synergy gains. One possible reason is that reduced competition makes the acquirer more patient and thus able to identify target firms that lead to greater synergy gains. It is also possible that lowered product-market competition enables the acquirer to create greater synergies from the target’s assets, everything else being equal. Furthermore, we find that common ownership between the acquirer and potential competitors allows the acquirer shareholders to receive a larger share of the synergy gains, consistent with the finding that common ownership reduces the likelihood of competing bids and thus enhances the acquirer’s bargaining power when negotiating the terms of the acquisition. The results suggest that reduced competition in acquisition bidding benefits the acquirer’s shareholders.

The takeaway from our study is that common ownership between potential acquirers lowers the competition in mergers and acquisitions, and that the lowered competition benefits the acquirer’s shareholders by increasing their wealth.

This post comes to us from professors Mohammad (Vahid) Irani at the University of South Carolina’s Darla Moore School of Business, Wenhao Yang at Chinese University of Hong Kong, Shenzhen, and Feng Zhang at the University of Utah. It is based on their recent paper, “Common Ownership and Competition in Mergers and Acquisitions,” available here.

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