Value creation and the probability of success in merger and acquisition transactions

This paper presents and tests a hypothesis that expands existing explanations of value creation in merger and acquisition (M&A) transactions. The main premise is that value creation is determined by not only the target’s pre-acquisition value, as indicated by numerous studies in extant literature, but also by the acquirer’s competency (among other factors) demonstrated by their pre-merger financial ratios. The paper shows that M&A transactions create value in the longer-run and the gain is commensurate with the acquirer’s historical performance and the target’s pre-acquisition value. Further, the paper employs statistical procedures and model-building techniques in order to develop and validate parsimonious Altman-style predictive models. The models reasonably identify successful M&A deals and are statistically significant and consistent with a few existing theories. Specifically, the evidence on liquidity supports internal capital markets hypothesis but does not support the theories of agency problems, while the evidence on financial leverage supports the view that lower debt enhances corporate control.