Acquisitions and shareholders' returns in restaurant firms: The effects of free cash flow, growth opportunities, and franchising

•This study aims to uncover the persistently confounding question of why shareholders perceive some acquisitions to be value-increasing and other acquisitions to be value-decreasing investments.•This study estimates the effects of the availability of free cash flows, growth opportunities, and franchising on abnormal returns that are associated with acquisition announcements.•Franchising firms with high free cash flows experienced negative abnormal returns from acquisitions and restaurant firms with higher free cash flows gained significantly lower returns compared to restaurant firms with low free cash flows.•This study attempts to contribute to the extant corporate finance and franchising literature by analyzing the implications of free cash flows, growth opportunities, and franchising in acquisitions within the context of the restaurant industry. Restaurant firms extensively expand through acquisitions. While acquisitions can be an efficient business strategy, the extant literature presented evidence showing that acquisitions can be value–increasing or –decreasing investments. However, why acquisitions increase or decrease firm value is not clear. Corporate finance and franchising theories collectively suggest that the value of acquisitions may depend on firms’ free cash flow capacities, growth opportunities, and organizational forms. The purpose of this study is to examine the concurrent effects of free cash flows, growth opportunities, and franchising on restaurant firms’ returns from acquisitions. The results showed that firms with high-free cash flows gain lower returns compared to firms with low-free cash flows, suggesting that acquisitions reduce underinvestment problems but also increase overinvestment problems. Franchising firms also gain lower returns compared to non-franchising firms; however, the availability of free cash flows exacerbates overinvestment problems in franchising firms. Theoretical and practical implications are discussed.