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Document tell market for corporate control and contractual buyout (cobo).
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Market for Corporate Control and
Contractual Buyout (CoBO): A New
“Collective
Ownership-and-Administrative” Strategy
Kotapati Srinivasa Reddy
Indian Institute of Technology (IIT) Roorkee
2015
Online athttp://mpra.ub.uni-muenchen.de/63937/
MPRA Paper No. 63937, posted 28. April 2015 06:31 UTC
1
Market for Corporate Control and Contractual Buyout (CoBO): A New
“Collective Ownership-and-Administrative” Strategy
Kotapati Srinivasa Reddy
Indian Institute of Technology (IIT) Roorkee,
Department of Management Studies, Roorkee – 247667, Uttarakhand (Republic of India).
E-mail: [email protected]
2015
Paper in Progress
© Kotapati Srinivasa Reddy, 2015
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Market for Corporate Control and Contractual Buyout (CoBO): A New
“Collective Ownership-and-Administrative” Strategy
ABSTRACT
Contractual buyout (CoBO) is a new “collective ownership and joint administrative
strategy”, which gives an opportunity to buy a target firm in the given period when the given
contract ends between acquirer, target firm, and financier. It is a takeover defensive method
and tends to avail tax advantage via entering CoBO deal. In particular, it would be efficient
inorganic magnetic for international venture capitalists and private equity firms while
entering foreign markets. More specifically, CoBO is likely a concept of Dating-before-
Merging and it would be the better model for cross-border mergers and acquisitions
integration strategy. The explored CoBO propositions may be useful in various implications
such as information symmetry and administrative changes, employment and employee role,
operating performance and financial arrangement, tax savings, choice of market entry
strategy, integration strategy, and government and policy makers. We recommend the
developed country investors choose CoBO as investment vehicle to avail the competent
business opportunities in both emerging and budding economies.
JEL Classification: G34; G38; M48
Keywords: Contractual buyout; Collective ownership; Inorganic strategy; Leveraged
buyout; Market for corporate control; Mergers and acquisitions; Strategic alliances,
Takeovers.
3
Why are takeovers necessary to shrink declining industries? The easy answers such as
managers do not want to lose their jobs’ are not satisfactory. A CEO with a golden parachute
might end up richer by closing redundant plants than by keeping them open.
– Lambrecht and Myers (2007: 810)
INTRODUCTION
The splendor of Contractual Buyout (hereafter, CoBO) is a new “collective-
ownership-administrative” strategy, which is designed to protect, and clinic sick units as well
as gain the corporate control in the form of a takeover (if desired), and then achieve post-
merger integration difficulties. We develop this model under the principles of leveraged
buyouts (hereafter, LBO), and collective ownership and control. However, our model is
similar to the market for corporate control activities, such as, mergers and acquisitions
(hereafter, M&A), takeovers, buyouts, and so forth (e.g., Jensen and Ruback, 1983).
1
In the
circumstances of low economic growth, buyouts would be effective tool while undertaking
necessary policy reforms to focus on core business operations (Wright, Kitamura, and
Hoskisson, 2003).
We frame the study by drawing on studies, such as, choice among mergers,
acquisitions, alliances, collaborations, greenfield investments, joint ventures, and divestitures
(e.g., Anand and Delios, 2002; Ariño and Ring, 2010; Elango and Pattnaik, 2011; Fjeldstad,
Snow, Miles, and Lettl, 2012; Hennart and Reddy, 1997; Meyer, Estrin, Bhaumik, and Peng,
2009; Moschieri, 2011; Reddy, 2015b, 2015c; Slangen, 2011; Villalonga and Mcgahan, 2005;
Wright, Kroll, Lado, and Ness, 2002). We also review the studies on restructuring,
diversification, and performance (e.g., Bruton, Ahlstrom, and Wan, 2003; Chakrabarti, Singh,
and Mahmood, 2007; Makhija, 2004; Matusik and Fitza, 2012; Miller, 2006; Oh and
1
The authors review the extent studies on market for corporate control, and document that takeovers generate
positive margins, which bidding firm shareholders do not lose where as target firm shareholders are benefited.
Also, see Haleblian, Devers, McNamara, Carpenter, and Davison (2009) for the extensive review on extant
merger literature.
4
Contractor, 2012), and opportunities in corporate entrepreneurship (e.g., Madhok and
Keyhani, 2012; Ragozzino and Reuer, 2010; Simsek and Heavey, 2011). We further select
the studies on emerging multinationals, and their strategies reported by academic researchers
in the recent years (e.g., Brannen and Voisey, 2012; de la Torre and Chacar, 2012;
Govindarajan and Ramamurti, 2011; Peng, 2012; Ramamurti, 2012; Reddy, 2015a, 2015d;
Westney, 2011). The above studies are being helped in research setting, theory building, and
framework designing of this paper.
The 1980’s initial buyout waves in the U.S.A. and UK have engulfed emerging
economies to create a common platform for inorganic growth, especially M&As and buyout
fields. Contextually, LBO is a debt-collateral-acquisition transaction between an acquirer,
and target firm. The prime motive behind LBO deal is to transfer stakeholders’ wealth and
tax gains; others include incentive realignment, and utilization of private information. During
1985-2005 in the UK, there were 12,267 buyouts of which 1,431(12%) noticed protection
from creditors (CMBOR, 2006 in [Cumming, Siegel, and Wright, 2007]).
2
In the USA
between 2004 and 2007, US $535billion worth of LBOs completed, which was more than 10
times of the US $50billion over the previous 8 years during 1996-2003 (Shivdasani and
Wang, 2011). Whereas during 2007 financial crisis, both volume, and value of cross-border
deals has plummeted in the western and developing nations, and then continued until 2009-10
(see UNCTAD, 2009, 2010). Economically and politically, largest LBOs are likely to have
more impact on the economy (Opler, 1992). Earlier research describes various buyout
models, and notices that momentous growth in operating competence and profitability during
post-buyout period. However, either the engulfed LBO models, and guidelines does not suit
the need, and requirement of industrial houses in emerging, and third world nations or they
have become overloaded.
2
The buyout market has all the time been striking by modernism in financial products, and financing
arrangements. Hence, this trend seems to be different from vertical strip financing (Cumming et al., 2007).
5
CoBO is a twofold-secured debt obligation, joint administration, and opportunity to
buy target unit in the given period between acquirer, target firm, and financier in the market
for corporate control. In particular, CoBO would be efficient inorganic magnetic for
international venture capitalists, and private equity firms as a part of foreign market entry
strategy. Specifically, it regulates unhealthy competition through monitoring monopoly
activities. More specifically, it is a kind of contractual relationship (Dating-before-Merging),
choice of market entry and expansion, and possibility to obtain tax advantage. Largely, it
secures, and sustains more number of sick units to promise sustainable life for the citizens of
country. More importantly, CoBO shall be the best-fit model for cross-border M&A
integration strategy. We explore policy implications, and develop CoBO propositions with
reference to rigorous earlier contributions in the M&A and buyouts field. CoBO propositions
are useful in various implications, such as information symmetry and administrative changes,
employment and employee role, operating performance and financial arrangement, tax
savings, choice of market entry strategy, integration strategy and government and policy
makers. Besides, firms can use CoBO as a takeover defensive strategy. To ensure state
ownership on government enterprises, and protect sick companies in this global competition
era, we introduce a model that would sustain the economic life of sick industries, and
condense the monopoly power. Further, CoBO framework has illustrated through the virtual
case, and recommending the government to enact new regulation in light of competition and
trade. In case of non-enactment, we suggest the state for setting-up a committee to ensure
better economic health, and uphold the ownership and control on government undertakings.
This article thus responds to the call issued by Lambrecht and Myers (2007), shows
directions to develop an original model for benefiting the declining industries in emerging
economies group. We aim to fill the void by answering an abstract query that does it possible
to facilitate contract-clinic to sick industries in the M&A and disinvestment perspective.
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However, the theory of takeovers and disinvestment suggested by Lambrecht and Myers
(2007) mainly suits the advanced economies rather third world nations. Therefore, CoBO – a
policy framework has developed on the foundations laid via the existence of partial mergers
in Japan (e.g., Akhigbe, Madura, and Spencer, 2004), LBO transactions in the Russian
Federation (Kasparova, 2007), motivations for leveraged buyouts (Opler and Titman, 1991),
role of buyouts in restructuring Central and Eastern Europe (Wright, Filatotchev, and Buck,
1993), consequences of LBOs (Bull, 1989; Fox and Marcus, 1992; Krause, 1989), buyout
decisions in the UK (Weir, Lating, and Wright, 2005), and board structure and value creation
in buyouts (Barun and Latham, 2007, 2009). Exclusive studies include hostage theory of joint
ventures and partial acquisitions (Chen and Hennart, 2004), and employment effects and
smaller LBOs (Amess and Wright, 2012). We then state our contribution to the study.
Motivation and contribution of the study
The conceptual foundation of this paper builds on four notions. First, the growing
importance of emerging economies and their contribution to the universal trade, and
commerce suggest that changing models of the global business situation motivate emerging
country multinationals for improving network coordination and performance (e.g., de la Torre
and Chacar, 2012; Peng, 2012; Ramamurti, 2012; Westney, 2011). Second, academic
contributions on various key issues such as restructuring economies, synergies of alliances,
partnerships, M&A, and buyouts in diverse institutional environments notice that acquisition,
alliance, collaboration, or buyout alternatives improve corporate growth especially in larger
firms (e.g., Elango and Pattnaik, 2011; Fjeldstad et al., 2012; Slangen, 2011; Wang and
Zajac, 2007; Wiersema and Liebeskind, 1995). Third, studies on foreign market entry
strategies in various societal settings describe that acquisitions, greenfiled investments, and
buyouts are important entry modes in emerging nations (e.g., Chen and Hennart, 2004;
Harzing, 2002; Hennart and Reddy, 1997; Meyer et al., 2009; Reddy et al., 2014a, 2014b;
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Wright et al., 2002). Fourth, increased of awareness, and budding research on corporate
entrepreneurship in the last decade report that buyouts create opportunities thus improves
financial performance via entrepreneurship mode (e.g., Ragozzino and Reuer, 2010; Zahra,
1991). In sum, these outcomes have been motivated in theoretical building, and framework
setting to our study. In addition to this, Fox and Marcus (1992) suggest that the current
research in buyouts dreadfully deficient in multiplicity of conducts, henceforth more research
require that passably judge the consequences of any new type of transaction. More
specifically, Fox and Marcus (1992) research work has inspired us to develop new inorganic-
strategy array that would improve the economic life of declining industries whilst adding new
buyout model of CoBO to the existing theories, and hypotheses. In particular, Ramamurti
(2012: 42) recommends that how the home-country setting motivates emerging multinational
enterprises for corporate ownership and control advantage would be possible theme of
advanced research. In other words, both demand and supply side issues may likely establish
the concert of multinationals (Drummond, 2012). Therefore, the corporations for sustainable
business may require new methods, and approaches (e.g., Khandwalla, 2002). Consequently,
we have considered their recommendations while designing CoBO model.
Our article makes three contributions to the literature on acquisitions and buyouts,
corporate entrepreneurship, and international business.
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First, CoBO framework is other side
of the mergers and buyouts theories, which would append a couple of propositions for
ensuring future research from budding strategy scholars in this field. Second, CoBO policy
implications eventually motivate venture capitalists, and private equity players that they
would preferably purse corporate entrepreneurship in new institutional dimensions. At the
end, the suggested few insights in CoBO theory may inspire global corporate giants while
choosing foreign market entry strategies, and it would be greater mix of hypotheses to the
3
For information purpose, and cause benefitting the strategy researchers, we have discussed strategic aspects,
but not financial aspects of the proposed CoBO framework. However, we have recommended few existing
contributions in the subsequent sections of this paper that would help both economics and finance scholars.
8
existing international business literature. An additional contribution of our paper is to
document policy issues, and regulatory provisions of CoBO framework in light of legal and
institutional context, and to the literature on market for corporate control.
The remaining article unfolds as follows. We begin the paper by selectively reviewing
the existing research related to inorganic choices varying from alliances to LBOs. Thereafter,
we describe the research setting, and theory building. We then present the proposed CoBO
framework, followed by propositions, and conclude with a set of guidelines for future
research.
REVIEW OF EXISTING STUDIES
Strategy, Law, Finance, and Economics research fields have been examined the
diverse challenges associated with alliances, acquisitions, collaborations, divestitures,
mergers, takeovers and so forth, usually ranging from negotiations to post-strategy actions.
Notably, M&A literature has grown by the orders of magnitude since Joel Segall published in
1968 (cf. Lambrecht and Myers, 2007). Lambrecht and Myers describe M&A in two broad
classes. First, exploit synergies and growth opportunities; second, seek greater efficiency
through layoffs, consolidation, and disinvestment. We therefore present CoBO policy
framework from the second class of M&A field. Most studies found that M&A seen as a
means to maximize market share, geographical expansion, realize economies of scale, and so
forth (e.g., Valentini, 2012).
4
In a recent study, Pe’er and Gottschalg (2011) define that LBO is standalone,
acquiring substantial shares of a company (or, a division) from its owners, typically with a
limited time horizon, financed through a mix of equity and debt, and with robust participation
from specialized banking institutions. In other words, when the acquisition financed largely
4
Valentini (2012) explores the effect of merger on the patenting quantity, and quality of the firms involved in a
deal; thus M&A appears to be followed by significant decline in patents’ impact, originality, and generality.
9
by borrowing of all the stock, or assets of a hitherto public company by a small group of
investors is also termed as LBO. In specific circumstances, LBOs occur when a firm is ‘taken
private’ – the company’s equity bought up and then delisted from publicly traded security
markets (Fox and Marcus 1992). A firm with low debt-equity ratio would be well match for
LBO deal, enchanting on substantial amount of debt (Loh, 1992).
In the earlier versions, LBO was a practice by which the owner/founder seeking to
cash-out his investment transferred the firm to manage or younger family members, who can
put up a small amount of capital, and borrow the rest (Kosedag, Mehran, and Qian, 2009).
There are relevant studies on LBOs include cost savings, exchange listing, and tax savings
(Bull, 1989; Landsman, Shackelford, and Yetman, 2002), agency costs (Shivdasani and
Wang, 2011), free cash flows (Fox and Marcus, 1992), and informational advantages of
managers (Opler and Titman, 1991). Moreover, LBO is most efficient in enhancing the
oversight of the public firm without effective administrative control on firm operations
(Bowman, Singh, Useem, and Bhadury, 1999). Most explanations for LBOs are based on
trade-off theories of capital structure, and they create value via interest tax shields, lower
agency costs, and operational improvements (Shivdasani and Wang, 2011). Further, Opler
and Titman (1991) describe motivations for LBOs include incentive realignment, exploitation
of inside information, stakeholder wealth transfer, and tax gains. In particular, Fox and
Marcus (1992) document the causes and consequences of LBOs from two perspectives –
economic perspective, and behavioral perspective.
Historically, the concept of LBO was born in the nations of developed markets
‘United States’.
5
Thus, buyouts have major implications to the market for corporate control
5
Historically, LBOs, and leveraged cash-outs (LCOs) are the next wave to the end of conglomerated mergers in
1980s. Mergers have been proving significant increases in financial leverage by controlling the firm size and
industry effects (e.g., Shrieves and Pashley, 1984; Weston, Chung, and Hoag, 1998). During the 1980s merger
wave, corporate sector of the American economy was left with an enormous increase in debt/equity ratio
(Jensen, 1984). On the other hand, LBO has become an increasingly frequent form of business streamlining. For
10
(Fahrholz and Loslein, 1991), and the concept has wide applicability for streamlining the
enterprises. If buyout market is to widen, three main elements to be present, generation of
buyout opportunities, infrastructure to complete business deal, and investors prospect to
sensible their margins (Wright, Thompson, and Robbie, 1992). In western economies, earlier
work has acknowledged three types of buyout: efficiency buyouts, revitalization buyouts, and
entrepreneurial buyouts (Wright, Hoskisson, Busenitz, and Dial, 2000). Therefore, our model
is part of the revitalization. The 1980s buyout waves followed by a peak in default rates of
highly levered companies, and the pace of LBO activity reached new record levels. Further, it
represent 5,000 worldwide deals completed during 2005-07 for US$ 1.6 billion have been
occupied 30 per cent of deals, and 43 per cent of trade share to the cumulative historic since
1980 (cf. Kaplan and Strömberg, 2009). Evidently, LBO transactions support the notion that
leveraged dealings produce synergistic value (Guo, Hotchkiss, and Song, 2011).
Wright et al. (1993) analyze issues involved in the application of buyout concept and
the role of reengineering Central and Eastern Europe’s economy. In the UK, buyouts
normally occur in four kinds: complete enterprise buyouts, multiple buyouts on the breakup
of a state form, buyouts on disinvestment of non-core activities, and buyouts of previously
non-commercial governmental or quasi-governmental activities (Wright and Buck, 1992).
Wright, Thompson, Robbie, and Starkey (1994) describe that the majority of buyouts in the
West do keep their original structures for five years or more, observe significant minority
changes after a buyout. In particular, public to private LBOs have been taking place in
considerable volumes in Europe, Japan and other Asian economies (Siegel, Wright, and
Filatotchev, 2011).
In order to achieve the goal of study, we present empirical results of previous studies
on LBOs operating performance. Previous studies strongly report that buyouts enhance
example, the biggest buyout of RJR Nabisco by Kohlberg Kravis and Roberts & Co (KKR) for US $24.7billion
occurred in 1989 (Loh, 1992).
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financial performance (e.g., Kaplan, 1989). The evidence shows that after LBOs, there have
been significant improvement in operating efficiency and profitability, and no decline in the
expenditure for such attributes, i.e. maintenance, and advertising (Fox and Marcus, 1992).
Peter F. Drucker states that the merged companies’ evaluation record is inadequate
particularly conglomerate, with which they had little in common – an emblematic financial
conglomerate. Only three out of ten acquirers do as well two years later as they did prior to
the merger. Nevertheless, the evidence of companies that have been acquired in a hostile
takeover is consistently dismal (Drucker, 1986 in [Bull, 1989]). Opler (1992) investigates the
consequences of LBOs on operating performance of 44 going-private transactions completed
during 1985-89 in the UK. His findings were not escorted by smaller operating improvements
than observed in earlier transactions.
Bull (1989) compares the management performance before and after LBOs; financial
performance after the buyouts is superior compare to before the buyouts. The enhancement is
superior to income tax savings alone. Similarly, impact of LBOs on 64 larger U.S. firms
examined by Wiersema and Liebeskind (1995), supports that large LBOs tumbling divisions
of business, diversification and expansion, and provides discipline, which leads to job waning
to the larger extent. Some of the eminent scholars suspect that LBOs create substantial storm
among academicians, industrials, and public policy makers (cf. Zahra, 1995). Zahra examine
47 LBO deals, exhibit augmentation in the product enrichment, technology related alliances,
R&D employee size and skills, and new business creation activities during post-LBO period.
Contrary to the larger buyouts, smaller companies’ LBOs do not seem to depend
greatly on disposing assets, or laying-off employees, instead, foremost changes in the smaller
LBOs lie in the area of increased marketing, and revenue augmentation (Malone, 1989).
Malone analyzes 56 LBOs during 1981-87, shows that small LBOs relatively protect from
foreign competition. Specifically, Loh (1992) describes LBO firms have higher average
12
levels of debt, and operating efficiency before the buyout than do other firms. Roden and
Lewellen (1995) consider a large sample of LBO transactions in the United States during
1981-90. They found that financing package is intended scientifically respond to differences
across firms, these are growth prospects, variability of their earnings, liquidity characteristics,
and opportunity to achieve tax savings. Similarly, Krause (1989) describes that LBOs achieve
remarkable success in return on investment, and value creation despite their borrowing costs
are very high. In a recent study, Guo et al. (2011) examine 192 LBOs during 1990-2006,
which are more unadventurously priced, and less levered than observations documented in
the 1980s. Guo et al. report that, on average, the firms experience large increases in total
value from the time of the buyout to their subsequent exit from a private equity firm’s
portfolio, producing large returns to invested debt, and equity holders. More specifically,
Pe’er and Gottschalg (2011) study the affect of the institutional context on buyout
investments, propose that the formal, and informal institutional environment in ‘red’ states is
more associated with the strategies through which investors create value than such a context
is in ‘blue’ states.
6
Amess and Wright (2012) analyze 533 LBO deals occurred during 1993-
2004, conduct systematic analysis enumerate the effect of private equity, and LBO
supremacy on employment, find no job effects reliant on the size of the target firm.
We then purposively present few studies on the restructuring, and turnaround effect in
different institutional contexts. In the view of sick company’s turnaround effect, Khandwalla
(2002) suggest seven sets of activities to develop four typologies of turnaround strategy based
on retrenchment of people and technology up-gradation.
7
Bruton et al. (2003) investigate the
6
Pe’er and Gottschalg (2011) examine 10,746 U.S. buyout investments in 4,633 distinct target companies made
by 2,396 different funds managed by 1,300 private equity firms during 1980-2003. The institutional setup in
blue states (dominated by the Democratic Party) would create higher transaction costs related to the
implementation of restructuring-oriented buyout value-generating strategies than the institutional setup in red
states (dominated by the U.S. Republican Party).
7
Most of the studies in turnaround administration conclude that all typology efforts explored from work force
reduction to orbit firms (cf. Robbins and Pearce, 1992). They classify turnaround strategy into an efficiency
driven, and competition driven.
13
turnaround strategies of overseas Chinese firms in East Asia, the importance of relationships
among business people constrain the applicability of prior U.S. research to East Asia. In a
similar study, Makhija (2004) study 988 restructuring firms in Czech Republic found that
restructuring significantly reduced the value of firms.
8
We now focus on the related literature that covers diversification, and divestitures in
various institutional contexts. Miller (2006) states that conglomerate firms produce more
value from technological diversity than do single segment firms, and perform superior as
technological diversity increases. Chakrabarti et al. (2007) find that institutional
environments, economic stability, and business group affiliation influence the outcomes of
diversification.
9
In a recent study, Matusik and Fitza (2012) examine diversification in the
context of venture capital firms. Firms benefit from either low or high levels of
diversification; moderate levels generate the weak results. However, contacts and connections
are more important than competencies and technological abilities for determining the
incentives and outcomes of diversification in such environments (Kock and Guillen, 2001). In
a course of divestiture program, Moschieri (2011) describes that past-history alone would be
inadequate for understanding the outcomes of divestitures; thus may also affect perceptions
of divestiture feasibility.
10
Similarly, Chakrabarti, Vidal, and Mitchell (2011) examine
reconfiguration activity of 1,256 firms based in eight South-East Asian economies; argue that
more developed infrastructure facilitates resource reconfiguration, assisting weak firms’
attempts to retrench and strong firms’ attempts to grow. The above all helped us in research
setting and theory building, which will be presented in the next section.
8
In few institutional environments, for example, a spin-off occurs when a firm distributes controlling stock in a
subsidiary to the current equity investors of the parent firm, whereas a ‘carve-out’ refers to a division of a firm,
which is sold to new equity investors, or to a different firm.
9
Chakrabarti et al. (2007) study the impact of diversification on performance for 3,117 firms in six Asian
countries (Indonesia, Japan, Malaysia, Singapore, South Korea, and Thailand) during 1988-2003. Results
evidence that diversification negatively influences the outcome in more developed institutional environments
while improving performance only in the least developed environments.
10
Divested units are more likely to perform better if the divesting process is cleverly managed; however, it
depends on the involvement of unit managers, and on the creation of an independent firm with a new identity
and strategy (Moschieri, 2011).
14
RESEARCH SETTING (THEORY BUILDING) – A PRAGMATIC APPROACH
We review the exhaustive literature contributed by western authors in specific and
recent studies in general on various key issues of inorganic choices such as joint ventures,
alliances, networks, mergers, acquisitions, takeovers, LBOs, management buyouts,
partnerships, and so forth (e.g., Ariño and Ring, 2010; Capron and Guillén, 2009; Elango and
Pattnaik, 2011; Fjeldstad et al., 2012; Pe’er and Gottschalg, 2011; Slangen, 2011; Villalonga
and Mcgahan, 2005). We further comprehend the previous studies on definite strategies such
as diversification, turnaround, and foreign market entry modes (e.g., Bruton et al., 2003;
Chakrabarti et al., 2007; Hennart and Reddy, 1997; Matusik and Fitza, 2012; Oh and
Contractor, 2012; Reddy, 2015b, 2015c). More specifically, we recognize various linked
perceptions on buyouts and entrepreneurship (e.g., Ragozzino and Reuer, 2010), emerging
economies and inorganic-tactics (e.g., Brannen and Voisey, 2012; Ramamurti, 2012), and
other allied contributions in the mergers and buyouts research. Thereafter, we have described
reviews systematically and then, borrowed their concrete guidelines for building a strong
foundation to a theory proposed in the following section of this paper. In fact, hypotheses
formulated, rigorous methodology employed, and findings discovered by prominent authors
in western world (e.g., U.S., and UK outcomes) assisted us to narrow-down the framework
developed in specific perceptions, propositions, and limitations.
Consistent with the future research agenda suggested by Wright, Chiplin, Thompson,
and Robbie (1990), Zahra (1993), Chaganti and Schneer (1994), Phan, Wright, Ucbasaran,
and Tan (2009), Ramamurti (2012), and Siegel et al. (2011), we incorporate their
recommendations in the suggested CoBO theory for continuity and development in the
existing literature. Eventually, CoBO model would flourish M&A and buyout literature to
benefiting both the third-world countries, and emerging nations. In the next section, we
present foundations and characteristics of the proposed framework.
15
CONTRACTUAL BUYOUT (CoBO)
Foundation setting
The valuable contributions made by Bowman et al. (1999), Bull (1989), Fox and
Marcus (1992), Guo et al. (2011), Jensen and Ruback (1983), Loh (1992), Opler (1992),
Reddy (2015a, 2015d), Roden and Lewellen (1995), Shivdasani and Wang (2011), Wright
and Buck (1992), Wright et al. (1994), Wright et al. (2000), and Wright et al. (2003) helped
as deep-seated pedestal to supply this well-structured theoretical framework for protecting the
government, and sick companies on the initiative stones laid in the U.S., for example, RJR
leveraged buyout by KKR & Co (e.g., Dalton, 1989; Landsman et al., 2002), smaller
company LBOs (Malone, 1989), role of buyouts in restructuring Central and Eastern Europe
(Wright et al., 1993), partial mergers in Japan (Park and Russo, 1996; Ushijima, 2010),
partial acquisitions by Japanese firms in the U.S. (Chen and Hennart, 2004), LBO
transactions in the Russian Federation (Kasparova, 2007), and industrial diversification and
partial privatization (Lin and Su, 2008). Recently, Amess and Wright (2012) analyze the
employment effects of PE-backed and non-PE-backed LBOs. As part of the foundation to the
model, financing CoBO transaction is a larger task, however, we recommend few studies to
solve this issue for benefiting the finance and economics scholars.
11
More specifically, we
consider recent studies on various issues examined in emerging economies (e.g., de la Torre
and Chacar, 2012; Meyer et al., 2009; Peng, 2012; Ramamurti, 2012), choice among growth
strategies (e.g., Balakrishnan and Koza, 1993; Kock and Guillen, 2001; Lockett, Wiklund,
11
The studies purposively suggested here are ranging from contracting to financing buyouts. Generally, buyouts
funded by the investment bankers as a debt. Conventionally, more than 90 per cent of LBO deals purchase price
of an acquisition financed by debt, and the tangible assets of target firm that have been used as collateral for
loan amount (Kasparova, 2007; Ray, 2010). Finance researchers may refer for the extensive review on financing
LBOs in Russian Federation (Kasparova, 2007), other contributions include Axelson, Strömberg, and Weisbach,
2009; Braun and Latham, 2007; Chaganti and Schneer, 1994; Chen and Hennart, 2004; Cumming et al., 2007;
Fishman, 1989; Phan et al., 2009; Prasch , 1992; Schlingemann, 2004; Siegel et al., 2011; Wier et al., 2005;
Wright, Robbie, and Thompson, 1989; Wright et al., 2003. Selectively, we recommend the recent studies on
methods of payments in asset sales (Slovin, Sushka, and Polonchek, 2005), and the role of collateralized debt
obligations in LBOs boom (Shivdasani and Wang, 2011). Scholars may also study the well-examined paper on
reverse leveraged buyouts (Braun and Latham, 2009).
16
Davidsson, and Girma, 2011; Slangen, 2011), and corporate entrepreneurship (e.g., Madhok
and Keyhani, 2012; Ragozzino and Reuer, 2010).
The Theory of the Growth of the Firm by Edith Penrose, first published in 1959, is a
seminal contribution to the field of management (Penrose, 1959). This theory postulates that
a firm’s current growth rate would be inclined by the adjustment costs of, and changes to a
firm’s productive opportunity set arising from, previous growth. Penrose made it
understandable that organic growth and acquisitive growth are two different strategic choices
(cf. Lockett et al., 2011). For example, when two firms communicate to transfer rights for
operating a business, the option between an acquisition and an alliance for one of the firms
amounts to a choice between a divestiture and an alliance (Villalonga and Mcgahan, 2005:
1183).
12
In fact, a larger firm can acquire the assets of the smaller unit; or the larger firm can
sell its assets through a divestiture to the smaller unit. It all happens because of one
fundamental reason that two firm’s combine their resources to enhance superior value by
experiencing possible synergy between them (Wang and Zajac, 2007: 1294).
Lockett et al. (2011) extend Penrose’s work for examining the impact of organic and
acquisitive growth on current organic growth of Swedish firms; results state that previous
acquisitive growth has a positive effect on current organic growth. More importantly,
Balakrishnan and Koza (1993) describe joint venture as a tool for diminishing the transaction
expenses deserved when acquiring other firms. Similarly, Hennart and Reddy (1997)
investigate the determinants of the choice between merger /acquisition and the greenfield
equity joint venture on 175 Japanese investments in the U.S. during 1978-89. Results show
that equity joint ventures are preferred over acquisitions when the desired assets connected to
12
Villalonga and Mcgahan (2005) investigate how firms choose among acquisitions, alliances, and divestitures
on 9,276 deals completed by 86 members of the Fortune 100 between 1990 and 2000. Based on resources, they
state that transaction costs, internalization, organizational learning, social embeddedness, asymmetric
information, and real options theories are highly related, and complementary.
17
non-desired assets.
13
In collaboration settings, efficiency and effectiveness in the interaction
among actors increase by way of actor capabilities and values, commons, protocols,
processes, and infrastructures (Fjeldstad et al., 2012).
14
In fact, partner specific knowledge
between a pair of firms influence the likelihood of firms forming an alliance vs. acquisition
(Wang and Zajac, 2007).
15
On the other hand, with the higher levels of ownership incentives
senior executives often motivated to acquire risk-enhancing enterprises (Wright et al., 2002).
A query raised by Chen and Hennart (2004), state that partial acquisitions create a hostage
effect that compose likely ex ante selection of targets and ex post enforcement of deals
.
16
Conceptually, A partial acquisition represents a unique form of corporate restructuring
because it alters the ownership structure of two entities (in opposite ways). These acquisitions
represent a shift in control, and allow unique opportunity to measure how the effects on
performance levels of the partial targets are conditioned (Akhigbe et al., 2004).
17
Partial
merging firms usually large, and more diversified whilst partner firms tend to have more
heterogeneous industry backgrounds (Ushijima, 2010). For example, partial acquisitions yield
positive, and considerable abnormal returns to large and small firm shareholders in the
Japanese institutional setup especially manufacturing sector (Park and Russo, 1996).
In the last few decades, the choice of entry strategy into global markets has received a
lot of interest from both the developed and emerging business researchers. Many studies have
surveyed factors that influence the option for different entry modes, often examined diverse
alternatives such as licensing, joint ventures, and wholly owned subsidiaries (cf. Harzing,
2002). Anand and Delios (2002) analyze choices of global entry on 2,175 entries by UK,
13
The results also show that the greater the Japanese’s investor experience of the U.S. market the more likely
they will choose acquisitions over joint venture (p. 11).
14
However, multiparty collaboration is critical to the effective solution of complex problems and continuous
adaptation to changing environments.
15
Combined alliance capabilities increase an alliance formation, and an acquisition between two firms.
16
Acquisition is partial, if Japanese parent buy less than 80 per cent of equity stake in the US target firms (Chen
and Hennart, 2004: 1133).
17
Akhigbe et al. (2004) examine 330 partial acquisitions from 1980 to 1998. The long-term performance effects
are more favorable when the partial target has more growth opportunities, a lower degree of financial leverage,
and when the partial acquirer is related and closer in size to the partial target.
18
German, and Japanese investors in the U.S. during 1974-91. In case of downstream
capabilities, which tend not to be geographically fungible, the absolute level of capabilities in
the entered industry explains the mode of choice; however, it shown contrast results for
upstream capabilities. In a weaker institutional framework, joint ventures used to access
many resources, but in a stronger institutional framework, joint ventures become less
significant while acquisitions can play a key role in accessing resources that are intangible,
and organizationally embedded (Meyer et al., 2009).
18
Specifically, Ariño and Ring (2010)
demonstrates that fairness considerations would play an essential task in international joint
ventures.
19
Allatta and Singh (2011) examine changes in worker communication networks
between the acquiring and target firms’ employees during post-acquisition integration, found
that target firm workers’ positions within their contacts are sluggish to change.
The increased market integration may lead firms to ascertain closer managerial
coordination among subsidiaries to an extent proportional to the strength of external changes
(cf. de la Torre and Chacar, 2012). For example, designing a governance contract to align
interests of managers, and shareholders rather than simply developing governance structures
that reduce the costs of effecting a transaction would seem to be important (Filatotchev and
Wright, 2011). More interestingly, emerging economies have opened their markets, resulting
in increasing competition from foreign firms. To cope with the influx of new competition,
emerging country multinational enterprises (EMNEs) employ serial acquisitions to build
capabilities (Elango and Pattnaik, 2011).
20
In a related study, Slangen (2011) examine 231
entries by Dutch MNEs into 48 countries during 1996-2003, evidence that geographic and
18
Analyze the entry strategies of foreign investors entering emerging economies include India, Vietnam, South
Africa, and Egypt for knowing the impact of market-supporting institutions on business strategies.
19
Fairness can be a key element to the success of such formation processes by shaping the logics partners apply
in evaluating the efficiency of a potential alliance, and in making a final decision whether or not to form an
alliance under negotiation, and other variants of fairness can be found at play.
20
They examine 175 acquisitions made by Indian firms during 2000–2006, found that firms acquire targets
serially but of increasing value in a sequential manner to learn, and build capabilities thus resulting in reducing
risk as well as optimizing their ability to learn from the acquisitions.
19
linguistic barriers to verbal communication play important roles in MNEs’ establishment
decisions.
21
Therefore, developed country MNEs (DMNEs) have had gear up to exploit new
opportunities and resources in emerging markets, and EMNEs have had to figure out how to
take advantage of them in the rest of the world (Ramamurti, 2012).
Most prior research in the field of global strategy focuses on what choices executives
make to build the competitive advantage of a firm, from setting up activities in different
locations to coordinating the linkages between them (cf. Bouquet and Birkinshaw, 2011).
Brannen and Voisey (2012), and Nachum (2012) seek understanding of the role of
comparative learning in global strategy formulation. Nachum describe that comparative
approach is particularly appealing in relation to international strategy, and comparisons are at
the sympathy of business strategy. The international business environment by the increase in
the number of organizations acting across borders has been affected by the actions of
EMNEs, NGOs, and governments (Westney, 2011). In recent days, the global strategy of
multinational enterprises from China also started to establish geographic advantage (Peng,
2012).
22
Oh and Contractor (2012) illustrate that territorial scope covered by the firm makes a
substantial difference to the relationship between multinationality, and performance.
Therefore, global firms need to distinguish the crucial role of foreign subsidiary strategy in
building global competitive advantage, and emphasizing corporate control (Pehrsson, 2012).
Pehrsson found that greater business relatedness and business scope of the subsidiary weaken
the negative impact of competition barriers on subsidiary performance. For example,
privatization law in Poland allows for a procedure of liquidation, buyout occurs when
incumbent management and employees create a private enterprise to lease state assets.
21
Slangen develops a communication-based theory of the choice by MNEs between greenfield and acquisition
entry; argues that MNE parents communicate with their subsidiaries for reasons of knowledge exchange,
coordination, monitoring, and socialization.
22
They propose three relatively unique aspects: (1) the previously underappreciated role played by the home
country governments of MNEs as an institutional force, (2) the challenge of going abroad in the absence of
significantly superior technological and managerial resources, and (3) the rapid adoption of acquisitions as a
primary mode of entry.
20
Similar models observed in Russia, and other emerging economies like Mexico, Hungary,
Romania, Slovenia and other nations in CEE region (Wright et al., 1993). Specifically in
China, buyouts reflect conflicts among the government’s desire to retain political control,
whereas private investor’s desire for return on their investments (Su, 2005). Cain, Denis, and
Denis (2011) examine 990 acquisitions during 1994-2003, document specific contractual
terms of acquisition agreements contain earnouts.
23
Consistent with this background, we
introduce CoBO theoretical framework, which includes definition, parties represent in the
model, guidelines, and merits.
What is CoBO?
CoBO is an extension, and shall be next wave to the LBOs, which would be a part of
the inorganic growth strategy. Further, it appears similar to a Futures Contract in the
derivatives market. The buyout agreement shall be happen before the true mix of balance
sheets of both the companies, i.e. acquirer and target firm. When the agreement takes place,
the acquirer firm will create a subsidiary unit for joint management whilst operations
controlling by the target firm corporate board. It means that the acquirer share their expertise,
technology, work force, and operational activities with target firm for strengthening financial
position, employee sustainability, and corporate responsibility in the industry. In addition to
this, it protect the public interest through virtual acquisition of the target firm by investing
nominal, or required amount with the financial courtesy of an investment banker, or financier
in the form of debt. Specifically, the acquirer firm provides an acknowledgement of
guarantee to the amount of debt funded by the lender.
We define the proposed CoBO as follows. Three or more parties agree to form a
combined entity, or live like a single entity after the immediate collapse of CoBO
deed/agreement when settling the agreed financial arrangements among the involved parties,
23
Earnouts represent payments to shareholders in M&A deals and contain two components: an upfront fixed
payment and additional future payments that are contingent upon some apparent appraisal of performance.
These later payments are called earnouts (p. 152).
21
which usually occur in the premises of court, is called a contractual buyout. Mandatory
parties include Acquirer, Target firm, and Financier/Lender.
24
Briefly, it is a takeover
defensive tactic, choice of foreign market entry option, and opportune to get tax advantage.
From the government perspective, it ensures monitoring, and administering the public sector
units to protect public and society interest whilst controlling the monopoly character in the
business. Largely, it secures, and sustains more number of sick units to promising sustainable
life for the citizens of a country. CoBO would be efficient inorganic magnetic for VCs and
PEs as a part of foreign market entry strategy. More specifically, CoBO would be the best-fit
model for cross-border M&A integration strategy.
Elements of the agreement
1) CoBO should have three parties – acquirer, target firm and financier.
2) Acquirer business value shall be equal, or more than five times of the target firm
business value (not necessarily in all situations), hence, financier recommendation
plays a key role.
3) It is not necessary that the parties should be in the same business line. It can be
conglomerate, or diversified. Reasons for merging the target firm balance sheet with
acquirer balance sheet should be on the following primary/border line of the proposed
CoBO model. The reasons include disinvestment, turnaround strategy of sick
industries, corporate restructuring, expansion strategy, entry of new markets,
diversification as a choice, and party's interest in the context of law.
4) Parties should satisfy leverage norms, guidelines, and requirements while permitting
debt service by the select investment banker
5) The following conditions should be satisfied while CoBO deed turns-on
i) No party should void the contract
24
The financier or lender can be venture capitalist, private equity, or investment banker.
22
ii) Contract period can be three, or five years
iii) If an acquirer wants to break up, or not to continue the corporate life with target
firm, primarily the acquirer has to repay the commission received earlier, and
clears the remaining amount of debt.
iv) If target firm wants to break up their deed with the acquirer before completion
date, simply it has to merge with acquirer, and then acquirer has to bear the
remaining debt amount along with interest.
v) During the agreement time, acquirer may buy any other assets, business units, or
equity stake in the market. Alternatively, it can sell their own-stake to some other
party, but the other party should consider CoBO deed as a contingent liability.
vi) During the contract, target firm have no right to sell their equity, asset stake, or
control to someone, or entering any agreement without board approval of the
acquirer firm.
vii) Further, no company/person have right to buy the target company (even in open
market) during the CoBO deed.
6) Acquirer gets a certain percent of commission on future sales of the target firm, which
can be, from the half of the contract time (For example, from third year on-ward in a
five years contract).
7) Whereas, target firm is essential to pay the interest amount from third year onwards
until the completion of CoBO deed, or clearance of debt, whichever is earlier. From
fifth year onwards, target firm has to pay both interest, and principal amount, if the
deed has written for seven years. If any principal amount is left in the deed, that
amount must be partially paid by an acquirer through its subsidiary company.
8) If target firm do not want to continue like a single entity after the collapsation of an
agreement, it has to merge with acquirer (desire to continue), therefore, no option for
23
the target firm. Further, two balance sheets merge after paying the debt obligations of
the target firm by acquirer’s subsidiary firm.
9) If target firm wants to continue like a single entity, first the CoBO deed must be wind-
up along with financial arrangements, which was funded by the investment bankers.
10) Finally, obtaining No Objection Certificate from all the parties with seal in the
premises of court, later target firm may continue like single entity. In the first year of
deed completion, target firm has no right to merge, acquire, or takeover with, or by
any other company.
Contractual Buyout (CoBO) model:
The proposed contractual buyout model has depicted in Fig. 1. This model explains
the involvement of parties, actions that could be taking place between the parties, and then
how the merger occurs from the CoBO model. Further, it explains various issues related to
participation in the CoBO model.
[Insert Figure 1 about here]
The model, or theory portrayed in Fig. 2 describes three phases namely CoBO period,
simple merger, and single entity, defining as main streams of contractual buyout. The
following illustration explains CoBO framework, then how it could be executed whilst
convincing the existing literature.
Illustration:
Fig. 2 shows CoBO model, and describes how it can turnaround a sick unit into
economic-value based entity. Assume that two parties involved in CoBO model, acquirer and
target firm. To enumerate, we have taken time line on x-axis and growth line on y-axis in the
given pictorial diagram. Various studies describe that firm can grow on two streams, which
states organic growth line (OGL), and inorganic growth line (IOGL). Logically, a firm
becomes cash-rich entity by choosing inorganic choices (e.g., joint ventures, mergers,
24
amalgamations, acquisitions, buyouts), and elected fast whilst higher growth rate compare to
the conventional organic growth strategies (e.g., new product development, new market).
Predict that a target firm profit had fallen at 6th year, point A and then continuing the
losses, thus the reasons could be plummeted sales, low technology, hyperactive competition,
and higher product cost in contrary to the availability of low cost product in the market. At
9th year and point B, target firm has entered CoBO agreement with an identified acquirer for
the period of five years. As a result, target firm would come out from the losses (recovery
trend) by the end of 4th year of contract period in 13th year at point C. Further, it would have
more chances to get into profits line. Hence, contract period shall complete at point D in the
14th year. After CoBO period collapses, target firm has right to continue its previous phase
like single entity, or simply, it can merge with acquirer. Lastly, acquirer would be getting an
opportunity to achieve socio, cultural, economic, and operational integration without
technical errors. More importantly, post-merger integration can be administered without any
complexity by choosing CoBO model for inorganic growth.
[Insert Figure 2 about here]
PROPOSITIONS AND POLICY IMPLICATIONS
In addition to the foundation of model, we conceptualize CoBO propositions on the
basis of seminal work documented such as, internal operating changes (Malone, 1989; in
buy-ins, Robbie, Wright, and Thompson, 1992), diminution of political costs (Bull, 1989),
information irregularity (Howorth, Westhead, and Wright, 2004), employee participation
(Chaplinsky, Niehaus, and Van de Gucht, 1998), improving marketing system and financial
competence (Niederfolker, 1991; Shivdasani and Wang, 2011), capital for administration
(Cumming, 2005), venture capitalists investment support (Wright and Lockett, 2003), cross-
border PE financing (Mevleman and Wright, 2011), deductions in income tax (Bull, 1989),
25
tax savings for LBOs (Fox and Marcus, 1992; Opler and Titman, 1991; Roden and Lewellen,
1995), new business through market progress (Zahra, 1993), equity in established firms
(Parker and van Praag, 2012), global market entry choice through partial acquisitions (Chen
and Hennart, 2004), government venture capital funds (Cumming, 2007), and raising the need
of monitoring PE and LBO acquisition process (Siegel et al., 2011).
To the best of our knowledge, no academic validation has recognized a merger, or
buyout framework that protects government, and loss making industries. In this regard, strong
evidence that government controlled diversified firms has lower Tobin’s q
25
than non-
governmental controlled firms, whereas valuation effect depends upon government control
(Lin and Su, 2008). Disinvestment used as a defense against takeovers (Lambrecht and
Myers, 2007), further buyout concept can apply to acquire the falling firms. In addition to the
above tactics, buyouts applicable to institutions where considerable amount of investment has
been required (Wright et al., 1993). For example, buyouts providing a means for Japanese
corporations to reorganize in order to face up confront of difficult economic conditions, and
increasing competitive pressures (Wright et al., 2003). Their implications include
management of large corporations, managers of subsidiaries, government policy, and foreign
investors. We consider that CoBO framework would be well fit for the emerging market
economies, and other third world nations at greater macroeconomic benefit. Further, we
robustly support the work, and hypotheses developed in earlier research that suits our model,
and accommodating those guidelines for policy implications as follows. Fig. 3 presents both
the foundations, and propositions explored in this study.
[Insert Figure 3 about here]
Information symmetry and administrative changes
25
Tobin’s q is the ratio of market value to current replacement value of a firm’s non-financial assets (Weston et
al., 1998). Finance scholars may see for illustrative examples in Damodaran (2002).
26
In the course of post-buyout internal operating changes, anticipate that the locus of
verdict making would shift towards the pilot investor, and managerial compensation become
incentive based (Malone, 1989). This would be possible impact factor on leadership, and
middle level managers of acquirer firm. In the context of political and associated risks, we
support the views of Bull (1989), while fragmenting CoBO deal domestically, or
internationally as a market entry tactic.
26
However, information asymmetries were common
in nature, transparency while negotiating deal consideration, and deal framework, though the
level of information irregularity influences it (Howorth et al., 2004: 510; Shivdasani and
Wang, 2011). We explore propositions in light of compensation, and political costs.
Proposition (1): Acquirer managerial skill influences the target firm middle managers,
and significant rise in compensation.
Proposition (2a): CoBO deal success, or failure do not influences by political risks,
and rebuff to associate political costs.
Proposition (2b): Exchange of transparent information between acquirer, target firm
and financier while negotiating CoBO deal.
Another study in buy-ins by Robbie et al. (1992) describe administrative changes
materialize to be momentous, extensive changes in buyouts considerably greater compared to
buy-ins. It reproduces an asymmetric information dilemma that is higher in buy-ins than buy-
outs. On the other hand, Thronhill and Amit (2000) identify two proportions of the fit
between parent houses and their venture firms: relational and economic. A relational fit
replicates organizational culture and structure, and economic fit is a function of the needs of
the venture and the resources of the parent. Hence, success connects with awareness,
commitment and association, and appears to have a greater relationship with venture success
than does the economic dimension (Thronhill and Amit, 2000). In the context of management
26
Political costs are expected to be reduced for one segment of LBOs, i.e. publicly held corporations that go
private. However, they do not deserve out-of-pocket costs related to serving outstanding shareholders, meeting
regulatory reporting requirements, and maintaining relationships with analysts (Bull, 1989: 265).
27
buy-ins,
27
Robbie et al. (1992) notice better monitoring in buy-ins compare to buyouts.
However, CoBO imparts acquirer administrative supremacy on target-firm business activities
further monitors market and industry adjustments in the business environment. The following
proposition presents concerning the post-CoBO administrative changes.
Proposition (3): Optimistic administrative changes, and superior monitoring in the
target-firm operations during CoBO deed, and post-CoBO period compare to prior the deal.
Interestingly, Zahra (1995) documents changes in entrepreneurial actions, evaluation
and connection between entrepreneurial activities, and performance. His hypothesis,
company’s commitment to corporate entrepreneurship activities increases after LBO is an
additional recommendation for CoBO model. We suggest acquirers, and financiers consider
the above issue while designing post-contractual integration strategies. We introduce
proposition in view of entrepreneurial activities.
Proposition (4): CoBO models improve entrepreneur’s self-confidence, and capability
of target firm entrepreneurial activities.
Employment and employee role
Employee participation plays an extreme role while restructuring labor contracts,
resulting changes make easy financing of buyout, and the ownership structure that emerges in
employee buyouts usually features a large degree of managerial control (Chaplinsky et al.,
1998). In particular, Robbie, Wright, and Ennew (1993) examine 64 receivership buyouts
during 1990-92, potentially viable divisions, or sub-divisions of failed groups has made
buyout attempts prior to collapse, and that managers often had an alternative employment
opportunities after buyout. Typically, buyouts tend to employ fewer jobs compare to other
firms in the similar industry (Kaplan, 1989). The following proposition is configured
regarding employment and employee role.
27
Management buy-in (MBI) is buying a firm through external entrepreneurs, where as management buyout is
the purchase of the firm by a group of normally four to six senior managers who are already employed in the
business typically using their own funds plus external private equity, and bank loans (Howorth et al., 2004).
28
Proposition (5a): CoBO arrangements do not affect on target firm employment, and
then, there would be minor managerial changes at middle level.
Proposition (5b): Defining and recognition of target firm employee responsibility and
his (her) role in decision-making leads to accumulate firm performance during CoBO deed.
Operating performance and financial arrangement
Corporate entrepreneurship (CE) is important for a company’s survival, profitability,
and growth (Zahra, Filatotchev, and Wright, 2009). More specifically, Simsek and Heavey
(2011) indicate that CE is positively associated with knowledge-based capital, and through
this, with performance. Niederfolker (1991: 239) describes that a mixture of small firms’
expertise with larger firms marketing system, and financial competence promises margins.
His core hypothesis also proposed to advocate CoBO policy.
28
By contrast, Cumming and
MacIntosh (2006: 570) suggest that LSVCCs
29
are mediocre organizational forms, which
reveal higher agency costs, and lesser returns. The generous tax subsidies underlying the
LSVCC programs lower the required rate of return, allowing out-bid other types of funds,
drive up deal prices, and lower returns in the market. This could have been occurred due to
well-developed markets, and we strongly acclaim that lesser agency costs, and mediate
returns can be observed in emerging nations, moreover our model incurs only initial costs
when deed takes place (Shivdasani and Wang, 2011). Zahra (1995) observe amendments in
different activities during post-LBO period, were optimistically associated with changes in
firm performance. Further, we incorporate his hypothesis
30
to validate the proposed model for
industry effectiveness whilst augmenting the professionalism of CE. Cumming et al. (2007)
notice that buyout performance has been consistent with superior risk adjusted performance
28
Why did your company get involved in this relationship and has the cooperation been developing overtime?
29
Canadian governmental subsidization of venture capital firm, Labour Sponsored Venture Capital Corporation
(LSVCC).
30
H2a: company’s performance will be higher after an LBO than before the transaction, and
H3: Changes in post-LBO corporate entrepreneurship (venturing and innovation) are positively associated with
company financial performance.
29
relative to industry yardstick. We intend propositions on financial performance during
negotiations, and post-CoBO period.
Proposition (6a): Target firm operating performance recovers from the loss zone to
revitalization zone during CoBO deed/agreement.
Proposition (6b): Consistent operating, and financial prowess notices in the target
firm post-CoBO period, if it continues as a single entity.
An interesting study conducted on government initiated venture activity in Australia
by Cumming (2007) describes that IIF program provides valuable governance mechanisms to
facilitate entrepreneurial finance.
31
Similar mechanisms observed in the U.S., and advanced
to those commenced in Canada, and UK. We define a proposition on target firms controlled
by government.
Proposition (7): CoBO policy improves operating performance of government-owned
undertakings in the post-buyout period.
In the context of cross-country private equity syndication, Mevleman and Wright
(2011) examine the role of institutional context,
32
and organizational learning
33
as
determinants of cross-border PE syndication. Their results report that institutional context and
organizational learning have considerably related to the use of cross-border syndicates. We
also recommend their hypothesis to originate propositions, and hypotheses for policy
formulation concerning contractual buyout. Hypotheses include why foreign PE firms rely on
local partners through cross-border syndicates when investing abroad. We robustly support
the hypothesis developed, tested and validated by Mevleman and Wright (2011) that PE firms
reduce institutional environment barriers through learning. The following proposition
31
IIF – Innovation Investment Fund of Australian government program was introduced in 1997.
32
Institutional context – number of PE firms in the local environment and presence of investment bankers in the
local market.
33
Organizational learning – PE firms experience in the host country, multinational experience, and the number
of investment managers per portfolio entity.
30
depends on the tax subsidization, tax holidays, or any other seminal benefits promised by the
respective country.
Proposition (8a): CoBO attracts international VCs and PE firms to invest in loss
making units, and government sick industrial clusters.
Proposition (8b): PE firms and VCs increase private and social value by
accommodating the debt for sick/loss-making units through CoBO policy.
Tax savings
Another motivating avenue, tax savings provide a strong incentive for LBOs. First, by
issuing additional debt, firms increase interest deductions. Second, they obtain depreciation
benefits. Third, both the principal, and the interest on loans incurred by employee stock
ownership plans (ESOPs, if any) are tax deductable (Fox and Marcus, 1992). Vigorously, we
also recommend the contributions made by Fox and Marcus, and their subjective propositions
greatly suits to explore CoBO propositions. We strongly recommend their proposition 3 - the
occurrence of LBOs is positively related to the expected future tax savings (p. 171). The
above proposition is suggested to test the hypothesis in CoBO model by considering various
observed variables. Further, we also carry forward their proposition 6 - after the buyout
unrelated diversification declines, and proposition 7 - after the buyout, overhead expenses
and corporate staff size declines. Similarly, we support the intent developed by Amess and
Wright (2012) that smaller LBO deals has motivated to grow their businesses, and swell jobs.
We suggest CoBO propositions on acquirer tax savings in light of target firm buyout.
Proposition (9a): Acquirer’s free cash flows augment during CoBO deed in the form
of commission, or consultancy fees.
31
Proposition (9b): Acquirer’s free cash flows mount-up after the collapse of CoBO
agreement in the form of tax subsidization.
34
Likewise, Landsman et al. (2002) conduct a test at the individual taxpayer level of
associations between compliance rates for capital gains taxes accumulated by RJR Nabisco
shareholders during its leveraged buyout. They find non-compliances declining in taxable
income, and other interest paid, further it produced more capital gains. Conversely, improved
operating results are a cutback in income tax (Bull, 1989). Post-LBO tax savings as a key
resource value, because of the heavy debt involved, and the more interest payment required,
thus LBOs produce tax shields that can be a major venture for cash flows (Lowenstein, 1985
in [Zahra, 1995]; Opler and Titman, 1991; Roden and Lewellen, 1995). Typically, VCs invest
with a view to exit, as entrepreneurial firms do not have cash flows to compensate interest on
debt, and dividends on equity, therefore, VCs customarily invest towards an exit, and ensure
capital gains (Cumming, 2007).
Proposition (10): CoBO deals do not encroach on acquirer, or target firm retail
shareholders tax savings.
Choice of market entry strategy
We advise multinational VCs, PE players, and investment bankers choose CoBO as a
foreign market entry choice in view of international marketing, and cooperative strategies’ to
avoid biased causes, agency costs (Shivdasani and Wang, 2011), and political risks (Bull,
1989), whilst availing tax benefits by entering contractual deal with loss making units in the
host country. Hence, established firms are less risky than brand new firms are. However, new
ventures have superior growth and margins, and less survival rates compare to established
firms. Further, problems of asymmetric information are more acute in new ventures compare
to established firms (Parker and van Praag, 2012). In particular, internationalization exposes
34
Assume that government allowing acquirers to avail tax benefits after completion of contractual buyout deed.
Therefore, acquirer would be getting tax benefits in light of CoBO deed.
32
the firm to a multi-set of prospects, which would permit it to control the possible latent in,
and curtail from various asymmetries (Madhok and Keyhani, 2012).
35
Proposition (11a): CoBO could be a choice of international market entry strategy for
acquires at initial stage by investing in established firms (loss, or slow growth firms).
Proposition (11b): CoBO would be superior choice of global market entry strategy for
VCs and PE firms in the host country.
After buyout, subsidization of weak units’ discontinued and excess cash can be used
to create new business, there by promoting entrepreneurship (Jensen, 1989 in [Zahra, 1995])
to promise new life to the loss-making units for economic and industrial integration benefits.
Zahra (1993) describes that innovation, and venturing activities stress creating new business
through market developments or by undertaking product, process, technological and
administrative innovations; one of the venturing goal is to improve productivity and margins.
We suggest that these types of venturing are the most welcome in developing nations through
cross-country contractual buyouts as a global entry choice. Further, we support the hypothesis
developed by Chaganti and Schneer (1994: 245) that performance, and management patterns
vary across mode of entry thus does the effectiveness of strategic management patterns. In
particular, partial acquisitions help MNEs to protect against sellers ex post opportunism.
Therefore, MNEs can form joint ventures with domestic firms by sharing capital, and
management of new entities with them, or buying partial equity of established local firms for
them (Chen and Hennart, 2004).
Proposition (12): CoBO could be superior inorganic strategy for acquirer’s at lesser
acquisition cost as a choice of market entry and product diversification. In addition, it lifts
acquirer’s free cash-flows compared to conventional organic-growth strategies.
Integration strategy and implementation
35
For example, EMNEs have a history and, thus, experience and expertise in environments characterized by
institutional deficits, where regulatory structures are more fickle and less sophisticated.
33
A firm no longer desire to prolong ownership of a set of actions but wish to continue a
market presence. Such a change involves vertical or horizontal de-integration of interests,
with retention of one, or more stages in the firms’ production process (Wright et al., 1990:
57). Earlier research on M&A proven that cultural diversity influence socio-culture
amalgamation, synergy insight, and shareholder value (Stahl and Voight, 2008) while
achieving post-integration planning and administration goals. More importantly, post-
acquisition process is rarely smooth because in acquiring a new bundle of assets and
capabilities, the company also inherits the way in which the target is embedded in its
institutional environment (Capron and Guillén, 2009). Hence, the proposed model helps
acquirers to gain on-screen experience (Dating-before-Merging) with target firm during
CoBO deed. After CoBO deed collapses, if target firm wants to sell their ownership it would
be trouble-free task for an acquirer to craft post-acquisition trade operations. Therefore, we
explore a proposition in light of post-merger integration as a subjective issue.
Proposition (13): CoBO is an advanced strategy to achieve cross-cultural aspects in
domestic M&A integration. Therefore, it is a better inorganic choice to attain socio, and
cross-cultural factors, which are similar to cross-border M&A integration problems.
Government and policy makers
In the milieu of political economy, a well-designed policy can change the idiom of the
economy that creates country prosperous in-terms of employment, growth, and sustainable
economic development. For practitioners and public policy makers, we highlight the need of
developing, and enforcing an appropriate regulatory framework that strengthens the
principles of fixture under which entrepreneurs drive a paradigm of market for corporate
control whilst considering the proposed CoBO model. For example, in the former USSR, the
establishment of economic reforms radically changed the commerce and trade activities
34
(Filatotchev, Wright, Buck, and Zhukov, 1999).
36
In particular, post-LBO changes in agency,
and governance dealings are another important source of assessment (Zahra, 1995).
Interestingly, direct government created venture capital funds in Australia through IIF policy
facilitates governing mechanism for entrepreneurial finance (Cumming, 2007). Moreover, the
existence, and development of smaller firms are essential for robust economic growth and
employment. In the U.S., these firms employ a large amount of people and small businesses
are significant innovators in the American economy (Maier and Walker, 1987).
Recently, Siegel et al. (2011) describe that insider information in PE, and LBO
transactions suggest a need of adopting regulatory efforts to investigate the acquisition
process more closely. Undertaking Maier and Walker (1987) views, we recommend emerging
nation’s governments to enact CoBO policy for protecting government control on public
sector units, and ensure the promising economic assistance for loss-making industries whilst
controlling the monopoly monarch in the competitive business environment. We describe
propositions in reference to policymaking, and ratification.
Proposition (14): Robust growth would be observed in small industries, amplification
in revenue, and technology transfer due to enactment of CoBO policy.
Proposition (15): Fall in domestic M&A deals and controlling monopoly character in
the trade and commerce due to practice of CoBO policy. Furthermore, it improves
information equilibrium, and transparency between government and industry associations.
In addition to the above policy implications and propositions, further we define CoBO
is best-fit tactic, and could be a choice of takeover defensive strategy. In detail, no company,
individual, or group of employees (e.g., management buyout) have right to acquire, takeover,
or open market purchase of target firm during CoBO deed/agreement period. If outsider
convenience acquirer to buy ownership of target firm, thus those types of third party
36
They found that Russian privatized firms have lesser insider stakes, superior external ownership, less worker
voice, and better administrative control within the firm than Belarus and Ukraine.
35
arrangements are void in the court of law. Conversely, it could void CoBO deed, and
principles of the model. More importantly, target firm do not have any right to declare
management, and administrative changes without consulting acquirer’s board. Accordingly,
they must follow CoBO guidelines, and explanations. We explore a proposition in light of
defensive tactic.
Proposition (16): CoBO would be protective strategy against hostile takeovers, and
acquisition of outstanding shares in the open market.
CONCLUDING REMARKS
Surging M&A and PE deals in emerging market economies influence the regulators
that they would be required to continue their public-administrative control in key areas such
as public systems, public administration, and focused industries for benefiting the society.
This article has presented an original exploration on the academic research grounds ranging
from market for corporate control to diversification and partial privatization. We suggest
CoBO propositions through considering the distinguished research work contributed in areas
such as connection between entrepreneurial activities and firm performance, operating
efficiency in the post-LBO period, tax savings, foreign market entry choice through partial
acquisition, and the recent studies on international PE syndication, and call for investigating
PE and LBO acquisition process. In particular, we employ the strategies of various buyout
models developed in western markets as a pedestal, further initiate to develop new theoretical
simulation that is likely to be adopted in emerging and third world nations because of the
character of these nation’s entrepreneurs, and changing institutional setting in the competitive
business environment. More specifically, the motive behind CoBO deal is equivalent to the
theories of merger motives suggested by various famous researchers in the M&A field (e.g.,
David and Sim, 1986; a comprehensive review by Trautwein, 1990). Further, we document
36
CoBO as a superior policy framework that promises healthier economic life for declining
industries, and attracts foreign investment as a vehicle for economic growth whilst a
dynamite to control monopoly trade. Selectively, it promises employment opportunities in
small and medium enterprises, which are prosperous channels for country’s robust trade, and
industry intensification.
Conceptually, contractual buyout is a twofold-secured debt obligation, collective
ownership, joint administration, and thereby provides opportunity to buy a target unit in the
given period between acquirer, target firm, and financier in the market for corporate control.
It shall turns-on while signing an agreement by the parties. Exclusively, it is a takeover
defensive tactic, and opportunity to get tax advantage via creating CoBO deal. In particular,
CoBO would be efficient inorganic magnetic for international VCs and PEs as a part of
foreign market entry strategy. Specifically, CoBO would be best-fit model for cross-border
M&A integration strategy. From the employee perspective, it ensures employability through
signing a CoBO deed with sick/loss-making units. Since, it seems to be a futures contract in
the capital market; conversely, it regulates unhealthy competition via monitoring monopoly
activities.
CoBO propositions are useful in various implications, such as information symmetry
and administrative changes, employment and employee role, operating performance and
financial arrangement, tax savings, choice of market entry strategy, integration strategy, and
government and policy makers. In addition to this, we also describe CoBO would be takeover
defensive strategy, and it can stay away from the economic shocks. In meticulous, we have
not been narrow-downed to design subjective and numerical illustrations of the proposed
model, and consequences of planning, execution and administration in CoBO deal have been
ignored. Therefore, the above two issues are the promising need of contractual buyout model
to implement ironically in the industry whilst putting-up in the practice. As a contribution,
37
and advancement to theory in the M&A arena, proposed CoBO framework shall open the
avenues for future research contributors by raising various issues related to that does it
differentiates other models. We recommend global VCs, and PEs choose CoBO as
investment vehicle to avail the competent business opportunities in both emerging, and
budding economies. Promising need of investment in product based industries include auto
ancillary, dairy and dairy products, and textile, silk and cotton, likewise services include
infrastructure development, state road transportation, and university/higher education. Our
inorganic-strategy framework and propositions may also provide some implications for MNE
executives, and recommendations for further research.
38
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44
Fig 1. Contractual Buyout (CoBO) model
Subsidiary Co.
Financer/Lender
Acquirer Co.
Merger = Acquirer+ (Subsidiary
+ Target Co.)
Security & Asset
Pledge
Debt
Financing
If Target Co. wants
to discontinue
Single Entity
Deed/
Agreement
Joint Management &
Administration
After the Agreement
If Target Co. wants
to continue
Target Co.
Strategic aspects
Marketing
Technological
Manpower
45
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20
Time line (Years)
A
B
C
D
Growth
Line
(+)
CoBO period
Recovery period
Loss period
CoBO Deed
OR SIMPLE MERGER
SINGLE ENTITY
Negative
growth (-)
Organic Growth Line
New Organic Growth Line
Inorganic Growth Line
Fig. 2: Contractual Buyout (CoBO) - Merger/Single Entity Curve
46
CONTRACTUAL BUYOUT
(CoBO)
FOUNDATIONS TO THE MODEL
POLICY IMPLICATIONS
Jensen & Ruback
(1983)
Bull (1989)
Opler & Titman
(1991)
Loh (1992)
Opler (1992)
Wright et al.
(1993)
Bowman et al.
(1999)
Wright et al. (2003)
Fox & Marcus
(1992)
Wright & Buck
(1992)
Wright et al.
(1994)
Wright et al.
(2000)
Weir et al. (2005)
Guo et al. (2011)
Landsman et al.
(2002)
Chen & Hennart (2004)
Lin & Su (2008)
Shivdasani & Wang (2011)
Malone (1989)
Ushijima (2010)
Kasparova (2007)
Ramamurti (2012)
Information symmetry and
administrative changes:
Bull (1989); Howorth et al. (2004);
Malone (1989); Zahra (1995)
Tax savings:
Bull (1989); Cumming (2007);
Fox & Marcus (1992);
Lowenstein (1985)
Employment and employee role
Chaplinsky et al. (1998);
Robbie et al. (1993)
Operating performance and
financial arrangement:
Cumming (2007); Mevleman &
Wright (2011); Niederfolker
(1991); Zahra (1995)
Choice of market entry
strategy:
Chen & Hennart (2004); Parker &
van Praag (2012); Zahra (1993)
Integration strategy and
implementation:
Stahl & Voight (2008);
Wright et al. (1990)
Government and policy makers:
Cumming (2007); Filatotchev et al.
(1999); Siegel et al. (2011);
Zahra (1995)
P1-P4
P5
P6-P8
P9-P10
P11-P12
P13
P14-P16
Note: P- represents Proposition
Fig. 3: Contractual Buyout (CoBO): Foundations and Policy implications
doc_165897725.pdf
Document tell market for corporate control and contractual buyout (cobo).
Munich Personal RePEc Archive
Market for Corporate Control and
Contractual Buyout (CoBO): A New
“Collective
Ownership-and-Administrative” Strategy
Kotapati Srinivasa Reddy
Indian Institute of Technology (IIT) Roorkee
2015
Online athttp://mpra.ub.uni-muenchen.de/63937/
MPRA Paper No. 63937, posted 28. April 2015 06:31 UTC
1
Market for Corporate Control and Contractual Buyout (CoBO): A New
“Collective Ownership-and-Administrative” Strategy
Kotapati Srinivasa Reddy
Indian Institute of Technology (IIT) Roorkee,
Department of Management Studies, Roorkee – 247667, Uttarakhand (Republic of India).
E-mail: [email protected]
2015
Paper in Progress
© Kotapati Srinivasa Reddy, 2015
2
Market for Corporate Control and Contractual Buyout (CoBO): A New
“Collective Ownership-and-Administrative” Strategy
ABSTRACT
Contractual buyout (CoBO) is a new “collective ownership and joint administrative
strategy”, which gives an opportunity to buy a target firm in the given period when the given
contract ends between acquirer, target firm, and financier. It is a takeover defensive method
and tends to avail tax advantage via entering CoBO deal. In particular, it would be efficient
inorganic magnetic for international venture capitalists and private equity firms while
entering foreign markets. More specifically, CoBO is likely a concept of Dating-before-
Merging and it would be the better model for cross-border mergers and acquisitions
integration strategy. The explored CoBO propositions may be useful in various implications
such as information symmetry and administrative changes, employment and employee role,
operating performance and financial arrangement, tax savings, choice of market entry
strategy, integration strategy, and government and policy makers. We recommend the
developed country investors choose CoBO as investment vehicle to avail the competent
business opportunities in both emerging and budding economies.
JEL Classification: G34; G38; M48
Keywords: Contractual buyout; Collective ownership; Inorganic strategy; Leveraged
buyout; Market for corporate control; Mergers and acquisitions; Strategic alliances,
Takeovers.
3
Why are takeovers necessary to shrink declining industries? The easy answers such as
managers do not want to lose their jobs’ are not satisfactory. A CEO with a golden parachute
might end up richer by closing redundant plants than by keeping them open.
– Lambrecht and Myers (2007: 810)
INTRODUCTION
The splendor of Contractual Buyout (hereafter, CoBO) is a new “collective-
ownership-administrative” strategy, which is designed to protect, and clinic sick units as well
as gain the corporate control in the form of a takeover (if desired), and then achieve post-
merger integration difficulties. We develop this model under the principles of leveraged
buyouts (hereafter, LBO), and collective ownership and control. However, our model is
similar to the market for corporate control activities, such as, mergers and acquisitions
(hereafter, M&A), takeovers, buyouts, and so forth (e.g., Jensen and Ruback, 1983).
1
In the
circumstances of low economic growth, buyouts would be effective tool while undertaking
necessary policy reforms to focus on core business operations (Wright, Kitamura, and
Hoskisson, 2003).
We frame the study by drawing on studies, such as, choice among mergers,
acquisitions, alliances, collaborations, greenfield investments, joint ventures, and divestitures
(e.g., Anand and Delios, 2002; Ariño and Ring, 2010; Elango and Pattnaik, 2011; Fjeldstad,
Snow, Miles, and Lettl, 2012; Hennart and Reddy, 1997; Meyer, Estrin, Bhaumik, and Peng,
2009; Moschieri, 2011; Reddy, 2015b, 2015c; Slangen, 2011; Villalonga and Mcgahan, 2005;
Wright, Kroll, Lado, and Ness, 2002). We also review the studies on restructuring,
diversification, and performance (e.g., Bruton, Ahlstrom, and Wan, 2003; Chakrabarti, Singh,
and Mahmood, 2007; Makhija, 2004; Matusik and Fitza, 2012; Miller, 2006; Oh and
1
The authors review the extent studies on market for corporate control, and document that takeovers generate
positive margins, which bidding firm shareholders do not lose where as target firm shareholders are benefited.
Also, see Haleblian, Devers, McNamara, Carpenter, and Davison (2009) for the extensive review on extant
merger literature.
4
Contractor, 2012), and opportunities in corporate entrepreneurship (e.g., Madhok and
Keyhani, 2012; Ragozzino and Reuer, 2010; Simsek and Heavey, 2011). We further select
the studies on emerging multinationals, and their strategies reported by academic researchers
in the recent years (e.g., Brannen and Voisey, 2012; de la Torre and Chacar, 2012;
Govindarajan and Ramamurti, 2011; Peng, 2012; Ramamurti, 2012; Reddy, 2015a, 2015d;
Westney, 2011). The above studies are being helped in research setting, theory building, and
framework designing of this paper.
The 1980’s initial buyout waves in the U.S.A. and UK have engulfed emerging
economies to create a common platform for inorganic growth, especially M&As and buyout
fields. Contextually, LBO is a debt-collateral-acquisition transaction between an acquirer,
and target firm. The prime motive behind LBO deal is to transfer stakeholders’ wealth and
tax gains; others include incentive realignment, and utilization of private information. During
1985-2005 in the UK, there were 12,267 buyouts of which 1,431(12%) noticed protection
from creditors (CMBOR, 2006 in [Cumming, Siegel, and Wright, 2007]).
2
In the USA
between 2004 and 2007, US $535billion worth of LBOs completed, which was more than 10
times of the US $50billion over the previous 8 years during 1996-2003 (Shivdasani and
Wang, 2011). Whereas during 2007 financial crisis, both volume, and value of cross-border
deals has plummeted in the western and developing nations, and then continued until 2009-10
(see UNCTAD, 2009, 2010). Economically and politically, largest LBOs are likely to have
more impact on the economy (Opler, 1992). Earlier research describes various buyout
models, and notices that momentous growth in operating competence and profitability during
post-buyout period. However, either the engulfed LBO models, and guidelines does not suit
the need, and requirement of industrial houses in emerging, and third world nations or they
have become overloaded.
2
The buyout market has all the time been striking by modernism in financial products, and financing
arrangements. Hence, this trend seems to be different from vertical strip financing (Cumming et al., 2007).
5
CoBO is a twofold-secured debt obligation, joint administration, and opportunity to
buy target unit in the given period between acquirer, target firm, and financier in the market
for corporate control. In particular, CoBO would be efficient inorganic magnetic for
international venture capitalists, and private equity firms as a part of foreign market entry
strategy. Specifically, it regulates unhealthy competition through monitoring monopoly
activities. More specifically, it is a kind of contractual relationship (Dating-before-Merging),
choice of market entry and expansion, and possibility to obtain tax advantage. Largely, it
secures, and sustains more number of sick units to promise sustainable life for the citizens of
country. More importantly, CoBO shall be the best-fit model for cross-border M&A
integration strategy. We explore policy implications, and develop CoBO propositions with
reference to rigorous earlier contributions in the M&A and buyouts field. CoBO propositions
are useful in various implications, such as information symmetry and administrative changes,
employment and employee role, operating performance and financial arrangement, tax
savings, choice of market entry strategy, integration strategy and government and policy
makers. Besides, firms can use CoBO as a takeover defensive strategy. To ensure state
ownership on government enterprises, and protect sick companies in this global competition
era, we introduce a model that would sustain the economic life of sick industries, and
condense the monopoly power. Further, CoBO framework has illustrated through the virtual
case, and recommending the government to enact new regulation in light of competition and
trade. In case of non-enactment, we suggest the state for setting-up a committee to ensure
better economic health, and uphold the ownership and control on government undertakings.
This article thus responds to the call issued by Lambrecht and Myers (2007), shows
directions to develop an original model for benefiting the declining industries in emerging
economies group. We aim to fill the void by answering an abstract query that does it possible
to facilitate contract-clinic to sick industries in the M&A and disinvestment perspective.
6
However, the theory of takeovers and disinvestment suggested by Lambrecht and Myers
(2007) mainly suits the advanced economies rather third world nations. Therefore, CoBO – a
policy framework has developed on the foundations laid via the existence of partial mergers
in Japan (e.g., Akhigbe, Madura, and Spencer, 2004), LBO transactions in the Russian
Federation (Kasparova, 2007), motivations for leveraged buyouts (Opler and Titman, 1991),
role of buyouts in restructuring Central and Eastern Europe (Wright, Filatotchev, and Buck,
1993), consequences of LBOs (Bull, 1989; Fox and Marcus, 1992; Krause, 1989), buyout
decisions in the UK (Weir, Lating, and Wright, 2005), and board structure and value creation
in buyouts (Barun and Latham, 2007, 2009). Exclusive studies include hostage theory of joint
ventures and partial acquisitions (Chen and Hennart, 2004), and employment effects and
smaller LBOs (Amess and Wright, 2012). We then state our contribution to the study.
Motivation and contribution of the study
The conceptual foundation of this paper builds on four notions. First, the growing
importance of emerging economies and their contribution to the universal trade, and
commerce suggest that changing models of the global business situation motivate emerging
country multinationals for improving network coordination and performance (e.g., de la Torre
and Chacar, 2012; Peng, 2012; Ramamurti, 2012; Westney, 2011). Second, academic
contributions on various key issues such as restructuring economies, synergies of alliances,
partnerships, M&A, and buyouts in diverse institutional environments notice that acquisition,
alliance, collaboration, or buyout alternatives improve corporate growth especially in larger
firms (e.g., Elango and Pattnaik, 2011; Fjeldstad et al., 2012; Slangen, 2011; Wang and
Zajac, 2007; Wiersema and Liebeskind, 1995). Third, studies on foreign market entry
strategies in various societal settings describe that acquisitions, greenfiled investments, and
buyouts are important entry modes in emerging nations (e.g., Chen and Hennart, 2004;
Harzing, 2002; Hennart and Reddy, 1997; Meyer et al., 2009; Reddy et al., 2014a, 2014b;
7
Wright et al., 2002). Fourth, increased of awareness, and budding research on corporate
entrepreneurship in the last decade report that buyouts create opportunities thus improves
financial performance via entrepreneurship mode (e.g., Ragozzino and Reuer, 2010; Zahra,
1991). In sum, these outcomes have been motivated in theoretical building, and framework
setting to our study. In addition to this, Fox and Marcus (1992) suggest that the current
research in buyouts dreadfully deficient in multiplicity of conducts, henceforth more research
require that passably judge the consequences of any new type of transaction. More
specifically, Fox and Marcus (1992) research work has inspired us to develop new inorganic-
strategy array that would improve the economic life of declining industries whilst adding new
buyout model of CoBO to the existing theories, and hypotheses. In particular, Ramamurti
(2012: 42) recommends that how the home-country setting motivates emerging multinational
enterprises for corporate ownership and control advantage would be possible theme of
advanced research. In other words, both demand and supply side issues may likely establish
the concert of multinationals (Drummond, 2012). Therefore, the corporations for sustainable
business may require new methods, and approaches (e.g., Khandwalla, 2002). Consequently,
we have considered their recommendations while designing CoBO model.
Our article makes three contributions to the literature on acquisitions and buyouts,
corporate entrepreneurship, and international business.
3
First, CoBO framework is other side
of the mergers and buyouts theories, which would append a couple of propositions for
ensuring future research from budding strategy scholars in this field. Second, CoBO policy
implications eventually motivate venture capitalists, and private equity players that they
would preferably purse corporate entrepreneurship in new institutional dimensions. At the
end, the suggested few insights in CoBO theory may inspire global corporate giants while
choosing foreign market entry strategies, and it would be greater mix of hypotheses to the
3
For information purpose, and cause benefitting the strategy researchers, we have discussed strategic aspects,
but not financial aspects of the proposed CoBO framework. However, we have recommended few existing
contributions in the subsequent sections of this paper that would help both economics and finance scholars.
8
existing international business literature. An additional contribution of our paper is to
document policy issues, and regulatory provisions of CoBO framework in light of legal and
institutional context, and to the literature on market for corporate control.
The remaining article unfolds as follows. We begin the paper by selectively reviewing
the existing research related to inorganic choices varying from alliances to LBOs. Thereafter,
we describe the research setting, and theory building. We then present the proposed CoBO
framework, followed by propositions, and conclude with a set of guidelines for future
research.
REVIEW OF EXISTING STUDIES
Strategy, Law, Finance, and Economics research fields have been examined the
diverse challenges associated with alliances, acquisitions, collaborations, divestitures,
mergers, takeovers and so forth, usually ranging from negotiations to post-strategy actions.
Notably, M&A literature has grown by the orders of magnitude since Joel Segall published in
1968 (cf. Lambrecht and Myers, 2007). Lambrecht and Myers describe M&A in two broad
classes. First, exploit synergies and growth opportunities; second, seek greater efficiency
through layoffs, consolidation, and disinvestment. We therefore present CoBO policy
framework from the second class of M&A field. Most studies found that M&A seen as a
means to maximize market share, geographical expansion, realize economies of scale, and so
forth (e.g., Valentini, 2012).
4
In a recent study, Pe’er and Gottschalg (2011) define that LBO is standalone,
acquiring substantial shares of a company (or, a division) from its owners, typically with a
limited time horizon, financed through a mix of equity and debt, and with robust participation
from specialized banking institutions. In other words, when the acquisition financed largely
4
Valentini (2012) explores the effect of merger on the patenting quantity, and quality of the firms involved in a
deal; thus M&A appears to be followed by significant decline in patents’ impact, originality, and generality.
9
by borrowing of all the stock, or assets of a hitherto public company by a small group of
investors is also termed as LBO. In specific circumstances, LBOs occur when a firm is ‘taken
private’ – the company’s equity bought up and then delisted from publicly traded security
markets (Fox and Marcus 1992). A firm with low debt-equity ratio would be well match for
LBO deal, enchanting on substantial amount of debt (Loh, 1992).
In the earlier versions, LBO was a practice by which the owner/founder seeking to
cash-out his investment transferred the firm to manage or younger family members, who can
put up a small amount of capital, and borrow the rest (Kosedag, Mehran, and Qian, 2009).
There are relevant studies on LBOs include cost savings, exchange listing, and tax savings
(Bull, 1989; Landsman, Shackelford, and Yetman, 2002), agency costs (Shivdasani and
Wang, 2011), free cash flows (Fox and Marcus, 1992), and informational advantages of
managers (Opler and Titman, 1991). Moreover, LBO is most efficient in enhancing the
oversight of the public firm without effective administrative control on firm operations
(Bowman, Singh, Useem, and Bhadury, 1999). Most explanations for LBOs are based on
trade-off theories of capital structure, and they create value via interest tax shields, lower
agency costs, and operational improvements (Shivdasani and Wang, 2011). Further, Opler
and Titman (1991) describe motivations for LBOs include incentive realignment, exploitation
of inside information, stakeholder wealth transfer, and tax gains. In particular, Fox and
Marcus (1992) document the causes and consequences of LBOs from two perspectives –
economic perspective, and behavioral perspective.
Historically, the concept of LBO was born in the nations of developed markets
‘United States’.
5
Thus, buyouts have major implications to the market for corporate control
5
Historically, LBOs, and leveraged cash-outs (LCOs) are the next wave to the end of conglomerated mergers in
1980s. Mergers have been proving significant increases in financial leverage by controlling the firm size and
industry effects (e.g., Shrieves and Pashley, 1984; Weston, Chung, and Hoag, 1998). During the 1980s merger
wave, corporate sector of the American economy was left with an enormous increase in debt/equity ratio
(Jensen, 1984). On the other hand, LBO has become an increasingly frequent form of business streamlining. For
10
(Fahrholz and Loslein, 1991), and the concept has wide applicability for streamlining the
enterprises. If buyout market is to widen, three main elements to be present, generation of
buyout opportunities, infrastructure to complete business deal, and investors prospect to
sensible their margins (Wright, Thompson, and Robbie, 1992). In western economies, earlier
work has acknowledged three types of buyout: efficiency buyouts, revitalization buyouts, and
entrepreneurial buyouts (Wright, Hoskisson, Busenitz, and Dial, 2000). Therefore, our model
is part of the revitalization. The 1980s buyout waves followed by a peak in default rates of
highly levered companies, and the pace of LBO activity reached new record levels. Further, it
represent 5,000 worldwide deals completed during 2005-07 for US$ 1.6 billion have been
occupied 30 per cent of deals, and 43 per cent of trade share to the cumulative historic since
1980 (cf. Kaplan and Strömberg, 2009). Evidently, LBO transactions support the notion that
leveraged dealings produce synergistic value (Guo, Hotchkiss, and Song, 2011).
Wright et al. (1993) analyze issues involved in the application of buyout concept and
the role of reengineering Central and Eastern Europe’s economy. In the UK, buyouts
normally occur in four kinds: complete enterprise buyouts, multiple buyouts on the breakup
of a state form, buyouts on disinvestment of non-core activities, and buyouts of previously
non-commercial governmental or quasi-governmental activities (Wright and Buck, 1992).
Wright, Thompson, Robbie, and Starkey (1994) describe that the majority of buyouts in the
West do keep their original structures for five years or more, observe significant minority
changes after a buyout. In particular, public to private LBOs have been taking place in
considerable volumes in Europe, Japan and other Asian economies (Siegel, Wright, and
Filatotchev, 2011).
In order to achieve the goal of study, we present empirical results of previous studies
on LBOs operating performance. Previous studies strongly report that buyouts enhance
example, the biggest buyout of RJR Nabisco by Kohlberg Kravis and Roberts & Co (KKR) for US $24.7billion
occurred in 1989 (Loh, 1992).
11
financial performance (e.g., Kaplan, 1989). The evidence shows that after LBOs, there have
been significant improvement in operating efficiency and profitability, and no decline in the
expenditure for such attributes, i.e. maintenance, and advertising (Fox and Marcus, 1992).
Peter F. Drucker states that the merged companies’ evaluation record is inadequate
particularly conglomerate, with which they had little in common – an emblematic financial
conglomerate. Only three out of ten acquirers do as well two years later as they did prior to
the merger. Nevertheless, the evidence of companies that have been acquired in a hostile
takeover is consistently dismal (Drucker, 1986 in [Bull, 1989]). Opler (1992) investigates the
consequences of LBOs on operating performance of 44 going-private transactions completed
during 1985-89 in the UK. His findings were not escorted by smaller operating improvements
than observed in earlier transactions.
Bull (1989) compares the management performance before and after LBOs; financial
performance after the buyouts is superior compare to before the buyouts. The enhancement is
superior to income tax savings alone. Similarly, impact of LBOs on 64 larger U.S. firms
examined by Wiersema and Liebeskind (1995), supports that large LBOs tumbling divisions
of business, diversification and expansion, and provides discipline, which leads to job waning
to the larger extent. Some of the eminent scholars suspect that LBOs create substantial storm
among academicians, industrials, and public policy makers (cf. Zahra, 1995). Zahra examine
47 LBO deals, exhibit augmentation in the product enrichment, technology related alliances,
R&D employee size and skills, and new business creation activities during post-LBO period.
Contrary to the larger buyouts, smaller companies’ LBOs do not seem to depend
greatly on disposing assets, or laying-off employees, instead, foremost changes in the smaller
LBOs lie in the area of increased marketing, and revenue augmentation (Malone, 1989).
Malone analyzes 56 LBOs during 1981-87, shows that small LBOs relatively protect from
foreign competition. Specifically, Loh (1992) describes LBO firms have higher average
12
levels of debt, and operating efficiency before the buyout than do other firms. Roden and
Lewellen (1995) consider a large sample of LBO transactions in the United States during
1981-90. They found that financing package is intended scientifically respond to differences
across firms, these are growth prospects, variability of their earnings, liquidity characteristics,
and opportunity to achieve tax savings. Similarly, Krause (1989) describes that LBOs achieve
remarkable success in return on investment, and value creation despite their borrowing costs
are very high. In a recent study, Guo et al. (2011) examine 192 LBOs during 1990-2006,
which are more unadventurously priced, and less levered than observations documented in
the 1980s. Guo et al. report that, on average, the firms experience large increases in total
value from the time of the buyout to their subsequent exit from a private equity firm’s
portfolio, producing large returns to invested debt, and equity holders. More specifically,
Pe’er and Gottschalg (2011) study the affect of the institutional context on buyout
investments, propose that the formal, and informal institutional environment in ‘red’ states is
more associated with the strategies through which investors create value than such a context
is in ‘blue’ states.
6
Amess and Wright (2012) analyze 533 LBO deals occurred during 1993-
2004, conduct systematic analysis enumerate the effect of private equity, and LBO
supremacy on employment, find no job effects reliant on the size of the target firm.
We then purposively present few studies on the restructuring, and turnaround effect in
different institutional contexts. In the view of sick company’s turnaround effect, Khandwalla
(2002) suggest seven sets of activities to develop four typologies of turnaround strategy based
on retrenchment of people and technology up-gradation.
7
Bruton et al. (2003) investigate the
6
Pe’er and Gottschalg (2011) examine 10,746 U.S. buyout investments in 4,633 distinct target companies made
by 2,396 different funds managed by 1,300 private equity firms during 1980-2003. The institutional setup in
blue states (dominated by the Democratic Party) would create higher transaction costs related to the
implementation of restructuring-oriented buyout value-generating strategies than the institutional setup in red
states (dominated by the U.S. Republican Party).
7
Most of the studies in turnaround administration conclude that all typology efforts explored from work force
reduction to orbit firms (cf. Robbins and Pearce, 1992). They classify turnaround strategy into an efficiency
driven, and competition driven.
13
turnaround strategies of overseas Chinese firms in East Asia, the importance of relationships
among business people constrain the applicability of prior U.S. research to East Asia. In a
similar study, Makhija (2004) study 988 restructuring firms in Czech Republic found that
restructuring significantly reduced the value of firms.
8
We now focus on the related literature that covers diversification, and divestitures in
various institutional contexts. Miller (2006) states that conglomerate firms produce more
value from technological diversity than do single segment firms, and perform superior as
technological diversity increases. Chakrabarti et al. (2007) find that institutional
environments, economic stability, and business group affiliation influence the outcomes of
diversification.
9
In a recent study, Matusik and Fitza (2012) examine diversification in the
context of venture capital firms. Firms benefit from either low or high levels of
diversification; moderate levels generate the weak results. However, contacts and connections
are more important than competencies and technological abilities for determining the
incentives and outcomes of diversification in such environments (Kock and Guillen, 2001). In
a course of divestiture program, Moschieri (2011) describes that past-history alone would be
inadequate for understanding the outcomes of divestitures; thus may also affect perceptions
of divestiture feasibility.
10
Similarly, Chakrabarti, Vidal, and Mitchell (2011) examine
reconfiguration activity of 1,256 firms based in eight South-East Asian economies; argue that
more developed infrastructure facilitates resource reconfiguration, assisting weak firms’
attempts to retrench and strong firms’ attempts to grow. The above all helped us in research
setting and theory building, which will be presented in the next section.
8
In few institutional environments, for example, a spin-off occurs when a firm distributes controlling stock in a
subsidiary to the current equity investors of the parent firm, whereas a ‘carve-out’ refers to a division of a firm,
which is sold to new equity investors, or to a different firm.
9
Chakrabarti et al. (2007) study the impact of diversification on performance for 3,117 firms in six Asian
countries (Indonesia, Japan, Malaysia, Singapore, South Korea, and Thailand) during 1988-2003. Results
evidence that diversification negatively influences the outcome in more developed institutional environments
while improving performance only in the least developed environments.
10
Divested units are more likely to perform better if the divesting process is cleverly managed; however, it
depends on the involvement of unit managers, and on the creation of an independent firm with a new identity
and strategy (Moschieri, 2011).
14
RESEARCH SETTING (THEORY BUILDING) – A PRAGMATIC APPROACH
We review the exhaustive literature contributed by western authors in specific and
recent studies in general on various key issues of inorganic choices such as joint ventures,
alliances, networks, mergers, acquisitions, takeovers, LBOs, management buyouts,
partnerships, and so forth (e.g., Ariño and Ring, 2010; Capron and Guillén, 2009; Elango and
Pattnaik, 2011; Fjeldstad et al., 2012; Pe’er and Gottschalg, 2011; Slangen, 2011; Villalonga
and Mcgahan, 2005). We further comprehend the previous studies on definite strategies such
as diversification, turnaround, and foreign market entry modes (e.g., Bruton et al., 2003;
Chakrabarti et al., 2007; Hennart and Reddy, 1997; Matusik and Fitza, 2012; Oh and
Contractor, 2012; Reddy, 2015b, 2015c). More specifically, we recognize various linked
perceptions on buyouts and entrepreneurship (e.g., Ragozzino and Reuer, 2010), emerging
economies and inorganic-tactics (e.g., Brannen and Voisey, 2012; Ramamurti, 2012), and
other allied contributions in the mergers and buyouts research. Thereafter, we have described
reviews systematically and then, borrowed their concrete guidelines for building a strong
foundation to a theory proposed in the following section of this paper. In fact, hypotheses
formulated, rigorous methodology employed, and findings discovered by prominent authors
in western world (e.g., U.S., and UK outcomes) assisted us to narrow-down the framework
developed in specific perceptions, propositions, and limitations.
Consistent with the future research agenda suggested by Wright, Chiplin, Thompson,
and Robbie (1990), Zahra (1993), Chaganti and Schneer (1994), Phan, Wright, Ucbasaran,
and Tan (2009), Ramamurti (2012), and Siegel et al. (2011), we incorporate their
recommendations in the suggested CoBO theory for continuity and development in the
existing literature. Eventually, CoBO model would flourish M&A and buyout literature to
benefiting both the third-world countries, and emerging nations. In the next section, we
present foundations and characteristics of the proposed framework.
15
CONTRACTUAL BUYOUT (CoBO)
Foundation setting
The valuable contributions made by Bowman et al. (1999), Bull (1989), Fox and
Marcus (1992), Guo et al. (2011), Jensen and Ruback (1983), Loh (1992), Opler (1992),
Reddy (2015a, 2015d), Roden and Lewellen (1995), Shivdasani and Wang (2011), Wright
and Buck (1992), Wright et al. (1994), Wright et al. (2000), and Wright et al. (2003) helped
as deep-seated pedestal to supply this well-structured theoretical framework for protecting the
government, and sick companies on the initiative stones laid in the U.S., for example, RJR
leveraged buyout by KKR & Co (e.g., Dalton, 1989; Landsman et al., 2002), smaller
company LBOs (Malone, 1989), role of buyouts in restructuring Central and Eastern Europe
(Wright et al., 1993), partial mergers in Japan (Park and Russo, 1996; Ushijima, 2010),
partial acquisitions by Japanese firms in the U.S. (Chen and Hennart, 2004), LBO
transactions in the Russian Federation (Kasparova, 2007), and industrial diversification and
partial privatization (Lin and Su, 2008). Recently, Amess and Wright (2012) analyze the
employment effects of PE-backed and non-PE-backed LBOs. As part of the foundation to the
model, financing CoBO transaction is a larger task, however, we recommend few studies to
solve this issue for benefiting the finance and economics scholars.
11
More specifically, we
consider recent studies on various issues examined in emerging economies (e.g., de la Torre
and Chacar, 2012; Meyer et al., 2009; Peng, 2012; Ramamurti, 2012), choice among growth
strategies (e.g., Balakrishnan and Koza, 1993; Kock and Guillen, 2001; Lockett, Wiklund,
11
The studies purposively suggested here are ranging from contracting to financing buyouts. Generally, buyouts
funded by the investment bankers as a debt. Conventionally, more than 90 per cent of LBO deals purchase price
of an acquisition financed by debt, and the tangible assets of target firm that have been used as collateral for
loan amount (Kasparova, 2007; Ray, 2010). Finance researchers may refer for the extensive review on financing
LBOs in Russian Federation (Kasparova, 2007), other contributions include Axelson, Strömberg, and Weisbach,
2009; Braun and Latham, 2007; Chaganti and Schneer, 1994; Chen and Hennart, 2004; Cumming et al., 2007;
Fishman, 1989; Phan et al., 2009; Prasch , 1992; Schlingemann, 2004; Siegel et al., 2011; Wier et al., 2005;
Wright, Robbie, and Thompson, 1989; Wright et al., 2003. Selectively, we recommend the recent studies on
methods of payments in asset sales (Slovin, Sushka, and Polonchek, 2005), and the role of collateralized debt
obligations in LBOs boom (Shivdasani and Wang, 2011). Scholars may also study the well-examined paper on
reverse leveraged buyouts (Braun and Latham, 2009).
16
Davidsson, and Girma, 2011; Slangen, 2011), and corporate entrepreneurship (e.g., Madhok
and Keyhani, 2012; Ragozzino and Reuer, 2010).
The Theory of the Growth of the Firm by Edith Penrose, first published in 1959, is a
seminal contribution to the field of management (Penrose, 1959). This theory postulates that
a firm’s current growth rate would be inclined by the adjustment costs of, and changes to a
firm’s productive opportunity set arising from, previous growth. Penrose made it
understandable that organic growth and acquisitive growth are two different strategic choices
(cf. Lockett et al., 2011). For example, when two firms communicate to transfer rights for
operating a business, the option between an acquisition and an alliance for one of the firms
amounts to a choice between a divestiture and an alliance (Villalonga and Mcgahan, 2005:
1183).
12
In fact, a larger firm can acquire the assets of the smaller unit; or the larger firm can
sell its assets through a divestiture to the smaller unit. It all happens because of one
fundamental reason that two firm’s combine their resources to enhance superior value by
experiencing possible synergy between them (Wang and Zajac, 2007: 1294).
Lockett et al. (2011) extend Penrose’s work for examining the impact of organic and
acquisitive growth on current organic growth of Swedish firms; results state that previous
acquisitive growth has a positive effect on current organic growth. More importantly,
Balakrishnan and Koza (1993) describe joint venture as a tool for diminishing the transaction
expenses deserved when acquiring other firms. Similarly, Hennart and Reddy (1997)
investigate the determinants of the choice between merger /acquisition and the greenfield
equity joint venture on 175 Japanese investments in the U.S. during 1978-89. Results show
that equity joint ventures are preferred over acquisitions when the desired assets connected to
12
Villalonga and Mcgahan (2005) investigate how firms choose among acquisitions, alliances, and divestitures
on 9,276 deals completed by 86 members of the Fortune 100 between 1990 and 2000. Based on resources, they
state that transaction costs, internalization, organizational learning, social embeddedness, asymmetric
information, and real options theories are highly related, and complementary.
17
non-desired assets.
13
In collaboration settings, efficiency and effectiveness in the interaction
among actors increase by way of actor capabilities and values, commons, protocols,
processes, and infrastructures (Fjeldstad et al., 2012).
14
In fact, partner specific knowledge
between a pair of firms influence the likelihood of firms forming an alliance vs. acquisition
(Wang and Zajac, 2007).
15
On the other hand, with the higher levels of ownership incentives
senior executives often motivated to acquire risk-enhancing enterprises (Wright et al., 2002).
A query raised by Chen and Hennart (2004), state that partial acquisitions create a hostage
effect that compose likely ex ante selection of targets and ex post enforcement of deals
.
16
Conceptually, A partial acquisition represents a unique form of corporate restructuring
because it alters the ownership structure of two entities (in opposite ways). These acquisitions
represent a shift in control, and allow unique opportunity to measure how the effects on
performance levels of the partial targets are conditioned (Akhigbe et al., 2004).
17
Partial
merging firms usually large, and more diversified whilst partner firms tend to have more
heterogeneous industry backgrounds (Ushijima, 2010). For example, partial acquisitions yield
positive, and considerable abnormal returns to large and small firm shareholders in the
Japanese institutional setup especially manufacturing sector (Park and Russo, 1996).
In the last few decades, the choice of entry strategy into global markets has received a
lot of interest from both the developed and emerging business researchers. Many studies have
surveyed factors that influence the option for different entry modes, often examined diverse
alternatives such as licensing, joint ventures, and wholly owned subsidiaries (cf. Harzing,
2002). Anand and Delios (2002) analyze choices of global entry on 2,175 entries by UK,
13
The results also show that the greater the Japanese’s investor experience of the U.S. market the more likely
they will choose acquisitions over joint venture (p. 11).
14
However, multiparty collaboration is critical to the effective solution of complex problems and continuous
adaptation to changing environments.
15
Combined alliance capabilities increase an alliance formation, and an acquisition between two firms.
16
Acquisition is partial, if Japanese parent buy less than 80 per cent of equity stake in the US target firms (Chen
and Hennart, 2004: 1133).
17
Akhigbe et al. (2004) examine 330 partial acquisitions from 1980 to 1998. The long-term performance effects
are more favorable when the partial target has more growth opportunities, a lower degree of financial leverage,
and when the partial acquirer is related and closer in size to the partial target.
18
German, and Japanese investors in the U.S. during 1974-91. In case of downstream
capabilities, which tend not to be geographically fungible, the absolute level of capabilities in
the entered industry explains the mode of choice; however, it shown contrast results for
upstream capabilities. In a weaker institutional framework, joint ventures used to access
many resources, but in a stronger institutional framework, joint ventures become less
significant while acquisitions can play a key role in accessing resources that are intangible,
and organizationally embedded (Meyer et al., 2009).
18
Specifically, Ariño and Ring (2010)
demonstrates that fairness considerations would play an essential task in international joint
ventures.
19
Allatta and Singh (2011) examine changes in worker communication networks
between the acquiring and target firms’ employees during post-acquisition integration, found
that target firm workers’ positions within their contacts are sluggish to change.
The increased market integration may lead firms to ascertain closer managerial
coordination among subsidiaries to an extent proportional to the strength of external changes
(cf. de la Torre and Chacar, 2012). For example, designing a governance contract to align
interests of managers, and shareholders rather than simply developing governance structures
that reduce the costs of effecting a transaction would seem to be important (Filatotchev and
Wright, 2011). More interestingly, emerging economies have opened their markets, resulting
in increasing competition from foreign firms. To cope with the influx of new competition,
emerging country multinational enterprises (EMNEs) employ serial acquisitions to build
capabilities (Elango and Pattnaik, 2011).
20
In a related study, Slangen (2011) examine 231
entries by Dutch MNEs into 48 countries during 1996-2003, evidence that geographic and
18
Analyze the entry strategies of foreign investors entering emerging economies include India, Vietnam, South
Africa, and Egypt for knowing the impact of market-supporting institutions on business strategies.
19
Fairness can be a key element to the success of such formation processes by shaping the logics partners apply
in evaluating the efficiency of a potential alliance, and in making a final decision whether or not to form an
alliance under negotiation, and other variants of fairness can be found at play.
20
They examine 175 acquisitions made by Indian firms during 2000–2006, found that firms acquire targets
serially but of increasing value in a sequential manner to learn, and build capabilities thus resulting in reducing
risk as well as optimizing their ability to learn from the acquisitions.
19
linguistic barriers to verbal communication play important roles in MNEs’ establishment
decisions.
21
Therefore, developed country MNEs (DMNEs) have had gear up to exploit new
opportunities and resources in emerging markets, and EMNEs have had to figure out how to
take advantage of them in the rest of the world (Ramamurti, 2012).
Most prior research in the field of global strategy focuses on what choices executives
make to build the competitive advantage of a firm, from setting up activities in different
locations to coordinating the linkages between them (cf. Bouquet and Birkinshaw, 2011).
Brannen and Voisey (2012), and Nachum (2012) seek understanding of the role of
comparative learning in global strategy formulation. Nachum describe that comparative
approach is particularly appealing in relation to international strategy, and comparisons are at
the sympathy of business strategy. The international business environment by the increase in
the number of organizations acting across borders has been affected by the actions of
EMNEs, NGOs, and governments (Westney, 2011). In recent days, the global strategy of
multinational enterprises from China also started to establish geographic advantage (Peng,
2012).
22
Oh and Contractor (2012) illustrate that territorial scope covered by the firm makes a
substantial difference to the relationship between multinationality, and performance.
Therefore, global firms need to distinguish the crucial role of foreign subsidiary strategy in
building global competitive advantage, and emphasizing corporate control (Pehrsson, 2012).
Pehrsson found that greater business relatedness and business scope of the subsidiary weaken
the negative impact of competition barriers on subsidiary performance. For example,
privatization law in Poland allows for a procedure of liquidation, buyout occurs when
incumbent management and employees create a private enterprise to lease state assets.
21
Slangen develops a communication-based theory of the choice by MNEs between greenfield and acquisition
entry; argues that MNE parents communicate with their subsidiaries for reasons of knowledge exchange,
coordination, monitoring, and socialization.
22
They propose three relatively unique aspects: (1) the previously underappreciated role played by the home
country governments of MNEs as an institutional force, (2) the challenge of going abroad in the absence of
significantly superior technological and managerial resources, and (3) the rapid adoption of acquisitions as a
primary mode of entry.
20
Similar models observed in Russia, and other emerging economies like Mexico, Hungary,
Romania, Slovenia and other nations in CEE region (Wright et al., 1993). Specifically in
China, buyouts reflect conflicts among the government’s desire to retain political control,
whereas private investor’s desire for return on their investments (Su, 2005). Cain, Denis, and
Denis (2011) examine 990 acquisitions during 1994-2003, document specific contractual
terms of acquisition agreements contain earnouts.
23
Consistent with this background, we
introduce CoBO theoretical framework, which includes definition, parties represent in the
model, guidelines, and merits.
What is CoBO?
CoBO is an extension, and shall be next wave to the LBOs, which would be a part of
the inorganic growth strategy. Further, it appears similar to a Futures Contract in the
derivatives market. The buyout agreement shall be happen before the true mix of balance
sheets of both the companies, i.e. acquirer and target firm. When the agreement takes place,
the acquirer firm will create a subsidiary unit for joint management whilst operations
controlling by the target firm corporate board. It means that the acquirer share their expertise,
technology, work force, and operational activities with target firm for strengthening financial
position, employee sustainability, and corporate responsibility in the industry. In addition to
this, it protect the public interest through virtual acquisition of the target firm by investing
nominal, or required amount with the financial courtesy of an investment banker, or financier
in the form of debt. Specifically, the acquirer firm provides an acknowledgement of
guarantee to the amount of debt funded by the lender.
We define the proposed CoBO as follows. Three or more parties agree to form a
combined entity, or live like a single entity after the immediate collapse of CoBO
deed/agreement when settling the agreed financial arrangements among the involved parties,
23
Earnouts represent payments to shareholders in M&A deals and contain two components: an upfront fixed
payment and additional future payments that are contingent upon some apparent appraisal of performance.
These later payments are called earnouts (p. 152).
21
which usually occur in the premises of court, is called a contractual buyout. Mandatory
parties include Acquirer, Target firm, and Financier/Lender.
24
Briefly, it is a takeover
defensive tactic, choice of foreign market entry option, and opportune to get tax advantage.
From the government perspective, it ensures monitoring, and administering the public sector
units to protect public and society interest whilst controlling the monopoly character in the
business. Largely, it secures, and sustains more number of sick units to promising sustainable
life for the citizens of a country. CoBO would be efficient inorganic magnetic for VCs and
PEs as a part of foreign market entry strategy. More specifically, CoBO would be the best-fit
model for cross-border M&A integration strategy.
Elements of the agreement
1) CoBO should have three parties – acquirer, target firm and financier.
2) Acquirer business value shall be equal, or more than five times of the target firm
business value (not necessarily in all situations), hence, financier recommendation
plays a key role.
3) It is not necessary that the parties should be in the same business line. It can be
conglomerate, or diversified. Reasons for merging the target firm balance sheet with
acquirer balance sheet should be on the following primary/border line of the proposed
CoBO model. The reasons include disinvestment, turnaround strategy of sick
industries, corporate restructuring, expansion strategy, entry of new markets,
diversification as a choice, and party's interest in the context of law.
4) Parties should satisfy leverage norms, guidelines, and requirements while permitting
debt service by the select investment banker
5) The following conditions should be satisfied while CoBO deed turns-on
i) No party should void the contract
24
The financier or lender can be venture capitalist, private equity, or investment banker.
22
ii) Contract period can be three, or five years
iii) If an acquirer wants to break up, or not to continue the corporate life with target
firm, primarily the acquirer has to repay the commission received earlier, and
clears the remaining amount of debt.
iv) If target firm wants to break up their deed with the acquirer before completion
date, simply it has to merge with acquirer, and then acquirer has to bear the
remaining debt amount along with interest.
v) During the agreement time, acquirer may buy any other assets, business units, or
equity stake in the market. Alternatively, it can sell their own-stake to some other
party, but the other party should consider CoBO deed as a contingent liability.
vi) During the contract, target firm have no right to sell their equity, asset stake, or
control to someone, or entering any agreement without board approval of the
acquirer firm.
vii) Further, no company/person have right to buy the target company (even in open
market) during the CoBO deed.
6) Acquirer gets a certain percent of commission on future sales of the target firm, which
can be, from the half of the contract time (For example, from third year on-ward in a
five years contract).
7) Whereas, target firm is essential to pay the interest amount from third year onwards
until the completion of CoBO deed, or clearance of debt, whichever is earlier. From
fifth year onwards, target firm has to pay both interest, and principal amount, if the
deed has written for seven years. If any principal amount is left in the deed, that
amount must be partially paid by an acquirer through its subsidiary company.
8) If target firm do not want to continue like a single entity after the collapsation of an
agreement, it has to merge with acquirer (desire to continue), therefore, no option for
23
the target firm. Further, two balance sheets merge after paying the debt obligations of
the target firm by acquirer’s subsidiary firm.
9) If target firm wants to continue like a single entity, first the CoBO deed must be wind-
up along with financial arrangements, which was funded by the investment bankers.
10) Finally, obtaining No Objection Certificate from all the parties with seal in the
premises of court, later target firm may continue like single entity. In the first year of
deed completion, target firm has no right to merge, acquire, or takeover with, or by
any other company.
Contractual Buyout (CoBO) model:
The proposed contractual buyout model has depicted in Fig. 1. This model explains
the involvement of parties, actions that could be taking place between the parties, and then
how the merger occurs from the CoBO model. Further, it explains various issues related to
participation in the CoBO model.
[Insert Figure 1 about here]
The model, or theory portrayed in Fig. 2 describes three phases namely CoBO period,
simple merger, and single entity, defining as main streams of contractual buyout. The
following illustration explains CoBO framework, then how it could be executed whilst
convincing the existing literature.
Illustration:
Fig. 2 shows CoBO model, and describes how it can turnaround a sick unit into
economic-value based entity. Assume that two parties involved in CoBO model, acquirer and
target firm. To enumerate, we have taken time line on x-axis and growth line on y-axis in the
given pictorial diagram. Various studies describe that firm can grow on two streams, which
states organic growth line (OGL), and inorganic growth line (IOGL). Logically, a firm
becomes cash-rich entity by choosing inorganic choices (e.g., joint ventures, mergers,
24
amalgamations, acquisitions, buyouts), and elected fast whilst higher growth rate compare to
the conventional organic growth strategies (e.g., new product development, new market).
Predict that a target firm profit had fallen at 6th year, point A and then continuing the
losses, thus the reasons could be plummeted sales, low technology, hyperactive competition,
and higher product cost in contrary to the availability of low cost product in the market. At
9th year and point B, target firm has entered CoBO agreement with an identified acquirer for
the period of five years. As a result, target firm would come out from the losses (recovery
trend) by the end of 4th year of contract period in 13th year at point C. Further, it would have
more chances to get into profits line. Hence, contract period shall complete at point D in the
14th year. After CoBO period collapses, target firm has right to continue its previous phase
like single entity, or simply, it can merge with acquirer. Lastly, acquirer would be getting an
opportunity to achieve socio, cultural, economic, and operational integration without
technical errors. More importantly, post-merger integration can be administered without any
complexity by choosing CoBO model for inorganic growth.
[Insert Figure 2 about here]
PROPOSITIONS AND POLICY IMPLICATIONS
In addition to the foundation of model, we conceptualize CoBO propositions on the
basis of seminal work documented such as, internal operating changes (Malone, 1989; in
buy-ins, Robbie, Wright, and Thompson, 1992), diminution of political costs (Bull, 1989),
information irregularity (Howorth, Westhead, and Wright, 2004), employee participation
(Chaplinsky, Niehaus, and Van de Gucht, 1998), improving marketing system and financial
competence (Niederfolker, 1991; Shivdasani and Wang, 2011), capital for administration
(Cumming, 2005), venture capitalists investment support (Wright and Lockett, 2003), cross-
border PE financing (Mevleman and Wright, 2011), deductions in income tax (Bull, 1989),
25
tax savings for LBOs (Fox and Marcus, 1992; Opler and Titman, 1991; Roden and Lewellen,
1995), new business through market progress (Zahra, 1993), equity in established firms
(Parker and van Praag, 2012), global market entry choice through partial acquisitions (Chen
and Hennart, 2004), government venture capital funds (Cumming, 2007), and raising the need
of monitoring PE and LBO acquisition process (Siegel et al., 2011).
To the best of our knowledge, no academic validation has recognized a merger, or
buyout framework that protects government, and loss making industries. In this regard, strong
evidence that government controlled diversified firms has lower Tobin’s q
25
than non-
governmental controlled firms, whereas valuation effect depends upon government control
(Lin and Su, 2008). Disinvestment used as a defense against takeovers (Lambrecht and
Myers, 2007), further buyout concept can apply to acquire the falling firms. In addition to the
above tactics, buyouts applicable to institutions where considerable amount of investment has
been required (Wright et al., 1993). For example, buyouts providing a means for Japanese
corporations to reorganize in order to face up confront of difficult economic conditions, and
increasing competitive pressures (Wright et al., 2003). Their implications include
management of large corporations, managers of subsidiaries, government policy, and foreign
investors. We consider that CoBO framework would be well fit for the emerging market
economies, and other third world nations at greater macroeconomic benefit. Further, we
robustly support the work, and hypotheses developed in earlier research that suits our model,
and accommodating those guidelines for policy implications as follows. Fig. 3 presents both
the foundations, and propositions explored in this study.
[Insert Figure 3 about here]
Information symmetry and administrative changes
25
Tobin’s q is the ratio of market value to current replacement value of a firm’s non-financial assets (Weston et
al., 1998). Finance scholars may see for illustrative examples in Damodaran (2002).
26
In the course of post-buyout internal operating changes, anticipate that the locus of
verdict making would shift towards the pilot investor, and managerial compensation become
incentive based (Malone, 1989). This would be possible impact factor on leadership, and
middle level managers of acquirer firm. In the context of political and associated risks, we
support the views of Bull (1989), while fragmenting CoBO deal domestically, or
internationally as a market entry tactic.
26
However, information asymmetries were common
in nature, transparency while negotiating deal consideration, and deal framework, though the
level of information irregularity influences it (Howorth et al., 2004: 510; Shivdasani and
Wang, 2011). We explore propositions in light of compensation, and political costs.
Proposition (1): Acquirer managerial skill influences the target firm middle managers,
and significant rise in compensation.
Proposition (2a): CoBO deal success, or failure do not influences by political risks,
and rebuff to associate political costs.
Proposition (2b): Exchange of transparent information between acquirer, target firm
and financier while negotiating CoBO deal.
Another study in buy-ins by Robbie et al. (1992) describe administrative changes
materialize to be momentous, extensive changes in buyouts considerably greater compared to
buy-ins. It reproduces an asymmetric information dilemma that is higher in buy-ins than buy-
outs. On the other hand, Thronhill and Amit (2000) identify two proportions of the fit
between parent houses and their venture firms: relational and economic. A relational fit
replicates organizational culture and structure, and economic fit is a function of the needs of
the venture and the resources of the parent. Hence, success connects with awareness,
commitment and association, and appears to have a greater relationship with venture success
than does the economic dimension (Thronhill and Amit, 2000). In the context of management
26
Political costs are expected to be reduced for one segment of LBOs, i.e. publicly held corporations that go
private. However, they do not deserve out-of-pocket costs related to serving outstanding shareholders, meeting
regulatory reporting requirements, and maintaining relationships with analysts (Bull, 1989: 265).
27
buy-ins,
27
Robbie et al. (1992) notice better monitoring in buy-ins compare to buyouts.
However, CoBO imparts acquirer administrative supremacy on target-firm business activities
further monitors market and industry adjustments in the business environment. The following
proposition presents concerning the post-CoBO administrative changes.
Proposition (3): Optimistic administrative changes, and superior monitoring in the
target-firm operations during CoBO deed, and post-CoBO period compare to prior the deal.
Interestingly, Zahra (1995) documents changes in entrepreneurial actions, evaluation
and connection between entrepreneurial activities, and performance. His hypothesis,
company’s commitment to corporate entrepreneurship activities increases after LBO is an
additional recommendation for CoBO model. We suggest acquirers, and financiers consider
the above issue while designing post-contractual integration strategies. We introduce
proposition in view of entrepreneurial activities.
Proposition (4): CoBO models improve entrepreneur’s self-confidence, and capability
of target firm entrepreneurial activities.
Employment and employee role
Employee participation plays an extreme role while restructuring labor contracts,
resulting changes make easy financing of buyout, and the ownership structure that emerges in
employee buyouts usually features a large degree of managerial control (Chaplinsky et al.,
1998). In particular, Robbie, Wright, and Ennew (1993) examine 64 receivership buyouts
during 1990-92, potentially viable divisions, or sub-divisions of failed groups has made
buyout attempts prior to collapse, and that managers often had an alternative employment
opportunities after buyout. Typically, buyouts tend to employ fewer jobs compare to other
firms in the similar industry (Kaplan, 1989). The following proposition is configured
regarding employment and employee role.
27
Management buy-in (MBI) is buying a firm through external entrepreneurs, where as management buyout is
the purchase of the firm by a group of normally four to six senior managers who are already employed in the
business typically using their own funds plus external private equity, and bank loans (Howorth et al., 2004).
28
Proposition (5a): CoBO arrangements do not affect on target firm employment, and
then, there would be minor managerial changes at middle level.
Proposition (5b): Defining and recognition of target firm employee responsibility and
his (her) role in decision-making leads to accumulate firm performance during CoBO deed.
Operating performance and financial arrangement
Corporate entrepreneurship (CE) is important for a company’s survival, profitability,
and growth (Zahra, Filatotchev, and Wright, 2009). More specifically, Simsek and Heavey
(2011) indicate that CE is positively associated with knowledge-based capital, and through
this, with performance. Niederfolker (1991: 239) describes that a mixture of small firms’
expertise with larger firms marketing system, and financial competence promises margins.
His core hypothesis also proposed to advocate CoBO policy.
28
By contrast, Cumming and
MacIntosh (2006: 570) suggest that LSVCCs
29
are mediocre organizational forms, which
reveal higher agency costs, and lesser returns. The generous tax subsidies underlying the
LSVCC programs lower the required rate of return, allowing out-bid other types of funds,
drive up deal prices, and lower returns in the market. This could have been occurred due to
well-developed markets, and we strongly acclaim that lesser agency costs, and mediate
returns can be observed in emerging nations, moreover our model incurs only initial costs
when deed takes place (Shivdasani and Wang, 2011). Zahra (1995) observe amendments in
different activities during post-LBO period, were optimistically associated with changes in
firm performance. Further, we incorporate his hypothesis
30
to validate the proposed model for
industry effectiveness whilst augmenting the professionalism of CE. Cumming et al. (2007)
notice that buyout performance has been consistent with superior risk adjusted performance
28
Why did your company get involved in this relationship and has the cooperation been developing overtime?
29
Canadian governmental subsidization of venture capital firm, Labour Sponsored Venture Capital Corporation
(LSVCC).
30
H2a: company’s performance will be higher after an LBO than before the transaction, and
H3: Changes in post-LBO corporate entrepreneurship (venturing and innovation) are positively associated with
company financial performance.
29
relative to industry yardstick. We intend propositions on financial performance during
negotiations, and post-CoBO period.
Proposition (6a): Target firm operating performance recovers from the loss zone to
revitalization zone during CoBO deed/agreement.
Proposition (6b): Consistent operating, and financial prowess notices in the target
firm post-CoBO period, if it continues as a single entity.
An interesting study conducted on government initiated venture activity in Australia
by Cumming (2007) describes that IIF program provides valuable governance mechanisms to
facilitate entrepreneurial finance.
31
Similar mechanisms observed in the U.S., and advanced
to those commenced in Canada, and UK. We define a proposition on target firms controlled
by government.
Proposition (7): CoBO policy improves operating performance of government-owned
undertakings in the post-buyout period.
In the context of cross-country private equity syndication, Mevleman and Wright
(2011) examine the role of institutional context,
32
and organizational learning
33
as
determinants of cross-border PE syndication. Their results report that institutional context and
organizational learning have considerably related to the use of cross-border syndicates. We
also recommend their hypothesis to originate propositions, and hypotheses for policy
formulation concerning contractual buyout. Hypotheses include why foreign PE firms rely on
local partners through cross-border syndicates when investing abroad. We robustly support
the hypothesis developed, tested and validated by Mevleman and Wright (2011) that PE firms
reduce institutional environment barriers through learning. The following proposition
31
IIF – Innovation Investment Fund of Australian government program was introduced in 1997.
32
Institutional context – number of PE firms in the local environment and presence of investment bankers in the
local market.
33
Organizational learning – PE firms experience in the host country, multinational experience, and the number
of investment managers per portfolio entity.
30
depends on the tax subsidization, tax holidays, or any other seminal benefits promised by the
respective country.
Proposition (8a): CoBO attracts international VCs and PE firms to invest in loss
making units, and government sick industrial clusters.
Proposition (8b): PE firms and VCs increase private and social value by
accommodating the debt for sick/loss-making units through CoBO policy.
Tax savings
Another motivating avenue, tax savings provide a strong incentive for LBOs. First, by
issuing additional debt, firms increase interest deductions. Second, they obtain depreciation
benefits. Third, both the principal, and the interest on loans incurred by employee stock
ownership plans (ESOPs, if any) are tax deductable (Fox and Marcus, 1992). Vigorously, we
also recommend the contributions made by Fox and Marcus, and their subjective propositions
greatly suits to explore CoBO propositions. We strongly recommend their proposition 3 - the
occurrence of LBOs is positively related to the expected future tax savings (p. 171). The
above proposition is suggested to test the hypothesis in CoBO model by considering various
observed variables. Further, we also carry forward their proposition 6 - after the buyout
unrelated diversification declines, and proposition 7 - after the buyout, overhead expenses
and corporate staff size declines. Similarly, we support the intent developed by Amess and
Wright (2012) that smaller LBO deals has motivated to grow their businesses, and swell jobs.
We suggest CoBO propositions on acquirer tax savings in light of target firm buyout.
Proposition (9a): Acquirer’s free cash flows augment during CoBO deed in the form
of commission, or consultancy fees.
31
Proposition (9b): Acquirer’s free cash flows mount-up after the collapse of CoBO
agreement in the form of tax subsidization.
34
Likewise, Landsman et al. (2002) conduct a test at the individual taxpayer level of
associations between compliance rates for capital gains taxes accumulated by RJR Nabisco
shareholders during its leveraged buyout. They find non-compliances declining in taxable
income, and other interest paid, further it produced more capital gains. Conversely, improved
operating results are a cutback in income tax (Bull, 1989). Post-LBO tax savings as a key
resource value, because of the heavy debt involved, and the more interest payment required,
thus LBOs produce tax shields that can be a major venture for cash flows (Lowenstein, 1985
in [Zahra, 1995]; Opler and Titman, 1991; Roden and Lewellen, 1995). Typically, VCs invest
with a view to exit, as entrepreneurial firms do not have cash flows to compensate interest on
debt, and dividends on equity, therefore, VCs customarily invest towards an exit, and ensure
capital gains (Cumming, 2007).
Proposition (10): CoBO deals do not encroach on acquirer, or target firm retail
shareholders tax savings.
Choice of market entry strategy
We advise multinational VCs, PE players, and investment bankers choose CoBO as a
foreign market entry choice in view of international marketing, and cooperative strategies’ to
avoid biased causes, agency costs (Shivdasani and Wang, 2011), and political risks (Bull,
1989), whilst availing tax benefits by entering contractual deal with loss making units in the
host country. Hence, established firms are less risky than brand new firms are. However, new
ventures have superior growth and margins, and less survival rates compare to established
firms. Further, problems of asymmetric information are more acute in new ventures compare
to established firms (Parker and van Praag, 2012). In particular, internationalization exposes
34
Assume that government allowing acquirers to avail tax benefits after completion of contractual buyout deed.
Therefore, acquirer would be getting tax benefits in light of CoBO deed.
32
the firm to a multi-set of prospects, which would permit it to control the possible latent in,
and curtail from various asymmetries (Madhok and Keyhani, 2012).
35
Proposition (11a): CoBO could be a choice of international market entry strategy for
acquires at initial stage by investing in established firms (loss, or slow growth firms).
Proposition (11b): CoBO would be superior choice of global market entry strategy for
VCs and PE firms in the host country.
After buyout, subsidization of weak units’ discontinued and excess cash can be used
to create new business, there by promoting entrepreneurship (Jensen, 1989 in [Zahra, 1995])
to promise new life to the loss-making units for economic and industrial integration benefits.
Zahra (1993) describes that innovation, and venturing activities stress creating new business
through market developments or by undertaking product, process, technological and
administrative innovations; one of the venturing goal is to improve productivity and margins.
We suggest that these types of venturing are the most welcome in developing nations through
cross-country contractual buyouts as a global entry choice. Further, we support the hypothesis
developed by Chaganti and Schneer (1994: 245) that performance, and management patterns
vary across mode of entry thus does the effectiveness of strategic management patterns. In
particular, partial acquisitions help MNEs to protect against sellers ex post opportunism.
Therefore, MNEs can form joint ventures with domestic firms by sharing capital, and
management of new entities with them, or buying partial equity of established local firms for
them (Chen and Hennart, 2004).
Proposition (12): CoBO could be superior inorganic strategy for acquirer’s at lesser
acquisition cost as a choice of market entry and product diversification. In addition, it lifts
acquirer’s free cash-flows compared to conventional organic-growth strategies.
Integration strategy and implementation
35
For example, EMNEs have a history and, thus, experience and expertise in environments characterized by
institutional deficits, where regulatory structures are more fickle and less sophisticated.
33
A firm no longer desire to prolong ownership of a set of actions but wish to continue a
market presence. Such a change involves vertical or horizontal de-integration of interests,
with retention of one, or more stages in the firms’ production process (Wright et al., 1990:
57). Earlier research on M&A proven that cultural diversity influence socio-culture
amalgamation, synergy insight, and shareholder value (Stahl and Voight, 2008) while
achieving post-integration planning and administration goals. More importantly, post-
acquisition process is rarely smooth because in acquiring a new bundle of assets and
capabilities, the company also inherits the way in which the target is embedded in its
institutional environment (Capron and Guillén, 2009). Hence, the proposed model helps
acquirers to gain on-screen experience (Dating-before-Merging) with target firm during
CoBO deed. After CoBO deed collapses, if target firm wants to sell their ownership it would
be trouble-free task for an acquirer to craft post-acquisition trade operations. Therefore, we
explore a proposition in light of post-merger integration as a subjective issue.
Proposition (13): CoBO is an advanced strategy to achieve cross-cultural aspects in
domestic M&A integration. Therefore, it is a better inorganic choice to attain socio, and
cross-cultural factors, which are similar to cross-border M&A integration problems.
Government and policy makers
In the milieu of political economy, a well-designed policy can change the idiom of the
economy that creates country prosperous in-terms of employment, growth, and sustainable
economic development. For practitioners and public policy makers, we highlight the need of
developing, and enforcing an appropriate regulatory framework that strengthens the
principles of fixture under which entrepreneurs drive a paradigm of market for corporate
control whilst considering the proposed CoBO model. For example, in the former USSR, the
establishment of economic reforms radically changed the commerce and trade activities
34
(Filatotchev, Wright, Buck, and Zhukov, 1999).
36
In particular, post-LBO changes in agency,
and governance dealings are another important source of assessment (Zahra, 1995).
Interestingly, direct government created venture capital funds in Australia through IIF policy
facilitates governing mechanism for entrepreneurial finance (Cumming, 2007). Moreover, the
existence, and development of smaller firms are essential for robust economic growth and
employment. In the U.S., these firms employ a large amount of people and small businesses
are significant innovators in the American economy (Maier and Walker, 1987).
Recently, Siegel et al. (2011) describe that insider information in PE, and LBO
transactions suggest a need of adopting regulatory efforts to investigate the acquisition
process more closely. Undertaking Maier and Walker (1987) views, we recommend emerging
nation’s governments to enact CoBO policy for protecting government control on public
sector units, and ensure the promising economic assistance for loss-making industries whilst
controlling the monopoly monarch in the competitive business environment. We describe
propositions in reference to policymaking, and ratification.
Proposition (14): Robust growth would be observed in small industries, amplification
in revenue, and technology transfer due to enactment of CoBO policy.
Proposition (15): Fall in domestic M&A deals and controlling monopoly character in
the trade and commerce due to practice of CoBO policy. Furthermore, it improves
information equilibrium, and transparency between government and industry associations.
In addition to the above policy implications and propositions, further we define CoBO
is best-fit tactic, and could be a choice of takeover defensive strategy. In detail, no company,
individual, or group of employees (e.g., management buyout) have right to acquire, takeover,
or open market purchase of target firm during CoBO deed/agreement period. If outsider
convenience acquirer to buy ownership of target firm, thus those types of third party
36
They found that Russian privatized firms have lesser insider stakes, superior external ownership, less worker
voice, and better administrative control within the firm than Belarus and Ukraine.
35
arrangements are void in the court of law. Conversely, it could void CoBO deed, and
principles of the model. More importantly, target firm do not have any right to declare
management, and administrative changes without consulting acquirer’s board. Accordingly,
they must follow CoBO guidelines, and explanations. We explore a proposition in light of
defensive tactic.
Proposition (16): CoBO would be protective strategy against hostile takeovers, and
acquisition of outstanding shares in the open market.
CONCLUDING REMARKS
Surging M&A and PE deals in emerging market economies influence the regulators
that they would be required to continue their public-administrative control in key areas such
as public systems, public administration, and focused industries for benefiting the society.
This article has presented an original exploration on the academic research grounds ranging
from market for corporate control to diversification and partial privatization. We suggest
CoBO propositions through considering the distinguished research work contributed in areas
such as connection between entrepreneurial activities and firm performance, operating
efficiency in the post-LBO period, tax savings, foreign market entry choice through partial
acquisition, and the recent studies on international PE syndication, and call for investigating
PE and LBO acquisition process. In particular, we employ the strategies of various buyout
models developed in western markets as a pedestal, further initiate to develop new theoretical
simulation that is likely to be adopted in emerging and third world nations because of the
character of these nation’s entrepreneurs, and changing institutional setting in the competitive
business environment. More specifically, the motive behind CoBO deal is equivalent to the
theories of merger motives suggested by various famous researchers in the M&A field (e.g.,
David and Sim, 1986; a comprehensive review by Trautwein, 1990). Further, we document
36
CoBO as a superior policy framework that promises healthier economic life for declining
industries, and attracts foreign investment as a vehicle for economic growth whilst a
dynamite to control monopoly trade. Selectively, it promises employment opportunities in
small and medium enterprises, which are prosperous channels for country’s robust trade, and
industry intensification.
Conceptually, contractual buyout is a twofold-secured debt obligation, collective
ownership, joint administration, and thereby provides opportunity to buy a target unit in the
given period between acquirer, target firm, and financier in the market for corporate control.
It shall turns-on while signing an agreement by the parties. Exclusively, it is a takeover
defensive tactic, and opportunity to get tax advantage via creating CoBO deal. In particular,
CoBO would be efficient inorganic magnetic for international VCs and PEs as a part of
foreign market entry strategy. Specifically, CoBO would be best-fit model for cross-border
M&A integration strategy. From the employee perspective, it ensures employability through
signing a CoBO deed with sick/loss-making units. Since, it seems to be a futures contract in
the capital market; conversely, it regulates unhealthy competition via monitoring monopoly
activities.
CoBO propositions are useful in various implications, such as information symmetry
and administrative changes, employment and employee role, operating performance and
financial arrangement, tax savings, choice of market entry strategy, integration strategy, and
government and policy makers. In addition to this, we also describe CoBO would be takeover
defensive strategy, and it can stay away from the economic shocks. In meticulous, we have
not been narrow-downed to design subjective and numerical illustrations of the proposed
model, and consequences of planning, execution and administration in CoBO deal have been
ignored. Therefore, the above two issues are the promising need of contractual buyout model
to implement ironically in the industry whilst putting-up in the practice. As a contribution,
37
and advancement to theory in the M&A arena, proposed CoBO framework shall open the
avenues for future research contributors by raising various issues related to that does it
differentiates other models. We recommend global VCs, and PEs choose CoBO as
investment vehicle to avail the competent business opportunities in both emerging, and
budding economies. Promising need of investment in product based industries include auto
ancillary, dairy and dairy products, and textile, silk and cotton, likewise services include
infrastructure development, state road transportation, and university/higher education. Our
inorganic-strategy framework and propositions may also provide some implications for MNE
executives, and recommendations for further research.
38
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44
Fig 1. Contractual Buyout (CoBO) model
Subsidiary Co.
Financer/Lender
Acquirer Co.
Merger = Acquirer+ (Subsidiary
+ Target Co.)
Security & Asset
Pledge
Debt
Financing
If Target Co. wants
to discontinue
Single Entity
Deed/
Agreement
Joint Management &
Administration
After the Agreement
If Target Co. wants
to continue
Target Co.
Strategic aspects
Marketing
Technological
Manpower
45
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20
Time line (Years)
A
B
C
D
Growth
Line
(+)
CoBO period
Recovery period
Loss period
CoBO Deed
OR SIMPLE MERGER
SINGLE ENTITY
Negative
growth (-)
Organic Growth Line
New Organic Growth Line
Inorganic Growth Line
Fig. 2: Contractual Buyout (CoBO) - Merger/Single Entity Curve
46
CONTRACTUAL BUYOUT
(CoBO)
FOUNDATIONS TO THE MODEL
POLICY IMPLICATIONS
Jensen & Ruback
(1983)
Bull (1989)
Opler & Titman
(1991)
Loh (1992)
Opler (1992)
Wright et al.
(1993)
Bowman et al.
(1999)
Wright et al. (2003)
Fox & Marcus
(1992)
Wright & Buck
(1992)
Wright et al.
(1994)
Wright et al.
(2000)
Weir et al. (2005)
Guo et al. (2011)
Landsman et al.
(2002)
Chen & Hennart (2004)
Lin & Su (2008)
Shivdasani & Wang (2011)
Malone (1989)
Ushijima (2010)
Kasparova (2007)
Ramamurti (2012)
Information symmetry and
administrative changes:
Bull (1989); Howorth et al. (2004);
Malone (1989); Zahra (1995)
Tax savings:
Bull (1989); Cumming (2007);
Fox & Marcus (1992);
Lowenstein (1985)
Employment and employee role
Chaplinsky et al. (1998);
Robbie et al. (1993)
Operating performance and
financial arrangement:
Cumming (2007); Mevleman &
Wright (2011); Niederfolker
(1991); Zahra (1995)
Choice of market entry
strategy:
Chen & Hennart (2004); Parker &
van Praag (2012); Zahra (1993)
Integration strategy and
implementation:
Stahl & Voight (2008);
Wright et al. (1990)
Government and policy makers:
Cumming (2007); Filatotchev et al.
(1999); Siegel et al. (2011);
Zahra (1995)
P1-P4
P5
P6-P8
P9-P10
P11-P12
P13
P14-P16
Note: P- represents Proposition
Fig. 3: Contractual Buyout (CoBO): Foundations and Policy implications
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