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Risk Reduction Through Acquisitions: The Roles of Firm-Specific Investments and Agency Hazards

Advances in Mergers and Acquisitions

ISBN: 978-0-76231-337-2, eISBN: 978-1-84950-434-8

ISSN: 1479-361X

Publication date: 18 August 2006

Abstract

This paper provides a stakeholder-based rationale for firm risk reduction through diversification. While firm-specific investments from stakeholders are often important sources of firm competitive advantage and economic rents, there is a reduced incentive for stakeholders to make these investments due to the risk associated with firm-specific investments. Since the risk associated with firm-specific investments is often related to the total firm risk level, we argue that stakeholders’ difficulties in diversifying the risks associated with their firm-specific investments create incentives for risk management by firms. We test this argument in a diversification setting. Based on a sample of firms’ first acquisition moves, we find that firms are more likely to engage in risk reduction through diversification when high levels of firm-specific assets are important to the firm's operations. Several proxies for stakeholders’ specific investments are found to be significant in explaining cross-sectional variation in the extent of ex ante risk reduction in acquisitions.

Citation

Wang, H. and Reuer, J.J. (2006), "Risk Reduction Through Acquisitions: The Roles of Firm-Specific Investments and Agency Hazards", Cooper, C.L. and Finkelstein, S. (Ed.) Advances in Mergers and Acquisitions (Advances in Mergers & Acquisitions, Vol. 5), Emerald Group Publishing Limited, Bingley, pp. 25-49. https://doi.org/10.1016/S1479-361X(06)05002-2

Publisher

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Emerald Group Publishing Limited

Copyright © 2006, Emerald Group Publishing Limited