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The influence of managerial power on post-merger

financial performance

Master Thesis

by

Martin Lutke

University of Groningen

Faculty Business and Economics

Msc Strategy and Innovation

23 June 2014

Verlengde Lodewijkstraat 19 9724 EK Groningen (+ 31) 6 25420550 m.lutke@student.rug.nl student number 1610430

First supervisor: Dr. J.Q. Dong Second supervisor: Dr. W.G. Biemans

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ABSTRACT

Merger and acquisition activity takes place with high peaks and deep declines over time, but even after years of research on this topic, high failure rates for mergers and acquisitions are still common. Many studies discuss the reasons for these high failure rates and present guidelines and success factors for future mergers and acquisitions. Remarkably, the human factor is often neglected and even when it is discussed, researchers argue about their influence. Most research so far concludes that managerial power leads to value destruction for mergers and acquisitions. However, a few studies give indications for a positive relation between the proportion of managerial power and the success of mergers and acquisitions, in this research seen as post-merger financial performance. Therefore, this study uses contradictory hypotheses and will contribute to help resolving the paradox in the discussion about whether there is a positive or negative influence of managerial power on post-merger financial performance. However, this effect is stronger in some situations than in others. Therefore, this study takes two moderating effects into account. First of all, the period of the wave is believed to influence the effect of managerial power on post-merger financial performance. Secondly, the acquisition rate of the target’s stocks (the proportion of target's stocks acquired) is believed to influence the effect of managerial power on post-merger financial performance. Data was collected from databases ZEPHYR and COMPUSTAT and the sample consist of 5.625 U.S. publicly listed deals in the financial sector which were completed in the period 1997-2008. Empirical results show a positive effect of managerial power on post-merger financial performance. These empirical results also show positive effects for the moderating variables period of the wave and acquisition rate of the target’s stocks. That means it is shown that the period of the wave and the acquisition rate of the target’s stocks both positively influence the relation of managerial power on post-merger financial performance. In conclusion, the proportion of managerial power positively influences post-merger financial performance. Besides that, this effect is stronger in the fifth merger wave and in cases where the acquisition rate of the target’s stocks is high.

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INDEX

1. Introduction 3

1.1 Problem statement 6

1.2 Importance of this research 7

1.3 Structure of the paper 9

2. Theory Development 10

2.1 The role of managerial power 12

2.2. Hypotheses development 15

3. Empirical Methodology 23

3.1 Data collection 23

3.2 Independent variable: managerial power 24 3.3 Dependent variable: post-merger financial performance 25

3.4 Moderating variables 27

3.5 Control variables 27

4. Results 30

4.1 The regression model 30

4.2 Descriptive statistics 32

4.3 Regression results 32

5. Discussion & Conclusions 35

References 39

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1. INTRODUCTION

In recent decades many large organizations have been developed created out of two or more companies. A well-known example is the financial institution ING which is a merger of Postbank and Nationale Nederlanden. But there are more examples in this financial sector, like the takeover of ABN AMRO bank by the consortium of Royal Bank of Scotland, Fortis and Banco Santander.

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Domestic Product of several large countries (Schenk, 2003). Around 2000 approximately 40.000 transactions were counted worldwide (Straub, 2007; Ravichandran, 2009).

But, is this number of mergers and acquisitions rising endlessly? If some other data is investigated, a whole different scenario could be outlined. For example, in 2008 a record number of cancelled deals could be seen, more than 1100 versus 870 a year earlier (Vranceanu, 2008). These figures should give some warnings to different companies who are willing to enter the process of merging and acquisitioning. However, these dropping figures could be a negative effect of the financial crisis. Moreover, it is only a comparison between 2008 and 2007 and therefore it does not have to mean anything. If we take a broader view another pattern could be seen.

Many authors have investigated the amount of merger and acquisition activity and concluded that they come in waves (Martynova & Renneboog, 2008; Martynova & Renneboog, 2011; Andrade, Mitchell & Stafford, 2001; McCarthy & Dolfsma, 2012; Gaughan, 2010, Straub, 2007). The following figure, FIGURE 1, shows the waves even more clearly. It shows the number of mergers and acquisitions on the vertical axe and the years 1897-2003 on the horizontal axe.

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In this figure the waves are relatively easy to discover. In the chart there are six peaks which represent the six takeover waves. In chapter 2.2 I will describe these six merger waves more precisely.

FIGURE 1 shows that the number of mergers and acquisitions can fluctuate throughout a decade, so a decline in the number of mergers and acquisitions in some years is historically logical. But even in years with a large number of mergers and acquisitions, not all the deals are successful. Considering research that has been conducted in the past, approximately half of all the mergers and acquisitions have proven to be unsuccessful (Kitching, 1974; Covin, Kolenko, Sightler & Tudor, 1997; Gadiesh & Ormiston, 2002; Gadiesh, Ormiston & Rovit, 2003; Weber, Shenkar & Raveh, 1996). But what exactly is a successful merger or acquisition? In this article success of mergers and acquisitions will be defined in financial terms, like Napier (1989) did. She chose to combine all the definitions of success of mergers and acquisitions into two main categories in her article. She mentioned that the success of a merger and acquisition could be measured by 1) financial or other objective performance measures and 2) by employee reaction or morale measures. Because the use of objective secondary data in this research is very important, the definitions in the area of employee reaction or morale measures are less applicable. Therefore the focus will lie on financial or other objective performance measures. Because this research deals with completed deals only, in this article, success of mergers and acquisitions will be described as post-merger financial performance.

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success of mergers and acquisitions. The second reason for choosing managerial power is that the few authors who did investigate the role of managerial power on post-merger financial performance did not agree whether this managerial power could positively or negatively influence the post-merger financial performance (Covin et al., 1997; Cartwright & Cooper, 1990; Roll, 1986; Haywood & Hambrick, 1997; Grinstein 7 Hribar, 2003; Dutta, MacAulay & Saadi, 2011; Harford & Li, 2007; Daily & Johnson, 1997). The third and last reason for choosing managerial power is that managers’ decisions are one of the most important motives for starting a merger and acquisition process (Trautwein, 1990).

It seems reasonable, due to these three reasons, to further investigate managerial power. But, what exactly is meant with managerial power? In this study managerial power will be described by using the framework of Finkelstein (1992), who stated that managerial power has four dimensions. The structural power dimension is the one which describes managerial power best. This power dimension is based upon the fact that managers who have a legislative right to exert influence are more influential than other managers. It is about formal organizational structure and hierarchical authority. The greater a manager’s structural power, the greater the control will be over colleagues’ actions and the less he or she will be dependent on other members within the organization. So managers who have managerial power will have control over colleagues’ actions and can take decisions independent of other members in the organization based on their hierarchical authority. In chapter 2.2 the whole framework and the reason why I chose structural power as the most important dimension for this study will be discussed.

1.1 Problem statement

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mentioned that success factors vary from period to period. Another explanation is that some success factors have been neglected for a long time. Past research focused on processes and firm- and deal-specific characteristics instead of on human factors (McCarthy & Dolfsma, 2012; Trautwein, 1990; King et al., 2004). A final explanation is that multiple studies did not reach an agreement about whether the influence of a particular factor was successful or less successful for mergers and acquisitions. The purpose of this research therefore is to incorporate these three issues and so it will contribute to help resolving the paradox in the discussion whether there is a positive or negative influence of managerial power on post-merger financial performance. Hopefully, this research can therefore contribute to the literature which describes the problems of unsuccessful mergers and acquisitions.

In summary, the main question of this research will be: “How does the role of managerial power

influence the post-merger financial performance?”

1.2 Importance of this research

First of all, this research can help to get a better understanding of the processes of mergers and acquisitions. So far we have seen that many mergers and acquisitions still fail, sometimes failure rates of fifty percent were found. Therefore, it is important that all the causes for failures are intensively investigated and that managers are aware of these causes so they can better steer the processes within mergers and acquisitions. Although a lot of research has been conducted already, the high failure rates still remain, so better understanding of the causes for failure is necessary. This research will contribute to that by investigating the success of mergers and acquisitions.

Secondly, this research helps to fulfill a gap in the literature. It has been shown that the topic of human interference has been neglected for a long time, while it has been proven that managers destroy or create value in many mergers and acquisitions (McCarthy & Dolfsma, 2012; Trautwein, 1990; King et al., 2004). Therefore, this research will focus on the role of managerial power and its influence on post-merger financial performance.

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financial performance. Prior research shows no agreement on the nature of the relation and so this leaves a gap in the literature. This article will fill this gap by testing whether this relation is positive or negative.

In the fourth place, this research will build further on earlier research. Daily & Johnson (1997) were one of the few who found a significant positive relation between managerial power and post-merger financial performance. However, they only investigated the relation between basic pay and post-merger financial performance. By using the total compensation of the CEO, the limitations of their study will be overcome. Therefore, this study will have a higher generalizability.

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Finally, this research gives some managerial implications. Because this research gives an answer to the question whether managerial power leads to more or less successful mergers and acquisitions, the organizations concerned will be able to make a better choice in searching for the right CEO.

1.3 Structure of the paper

In this section I will outline the structure of this paper. In chapter two the theory development will be described. In this overview the existing literature about success factors will be reviewed first. Furthermore, in 2.1 the reason for choosing managerial power as the most important variable for investigation is given. In part 2.2 the hypotheses will be developed. Therefore, all the important studies about the subject of managerial power, post-merger financial performance, period of the waves and acquisition rate of the target’s stocks will be covered. At the end of chapter 2.2 a conceptual model will be given with all the constructs and relations in it.

The third chapter of this paper will be the empirical methodology. In this part I will first lay out the strategy for collecting data in 3.1. Secondly, I will give the objective operational definitions of all the variables that are important in the conceptual model, independent (3.2), dependent (3.3), moderating (3.4) and control (3.5).

In the fourth chapter of this paper I will discuss the results. Firstly, in 4.1 the test itself will be explained. Secondly, in 4.2 and 4.3 the results of the regression analysis will be shown and conclusions about rejecting or accepting the hypotheses can be made.

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2. THEORY DEVELOPMENT

The literature about success factors of mergers and acquisitions is very comprehensive and elaborate. For many years authors from a variety of management disciplines investigated mergers and acquisitions and their success factors. Some authors only investigate one success factor, like size (Moeller, Schlingemann & Stulz, 2004). This article explains that smaller mergers perform better than larger mergers.

Other authors focus on failures in the process (Child, Pitkethy & Faulkner, 1999; Schweiger & Very, 2003). The process of a merger can be divided into three stages: the pre-merger (identification & planning), the during-merger (negotiation & realization), and the post-merger (integration) stage (Appelbaum, Gandell, Yortis, Proper & Jobin, 2000; Cartwright & Cooper, 2000; Chatterjee, 2009). For example, Straub (2007) focuses on the strategic failures and describes three types: choosing the wrong target, paying too much for the target and integrating the target poorly. These types correspond to the three-stage model with one failure in every stage. Therefore, it is also important to look at the process by describing successes, because different failures arise in different stages of the M&A process. ‘Paying too much for it’ is something which is mentioned in many other articles (Jensen, 1986; Hitt, Harrison, Ireland & Best, 1998; Haunschild, 1994; Hayward & Hambrick, 1997; Shimizu, Hitt, Vaidyanath & Pisano, 2004). They all conclude that the more is paid, the weaker the post-merger financial performance will be. Especially when there is an excess of liquidity and when premiums are paid.

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acquisitions successes (Nahavandi & Malekzadeh, 1988; Shimizu, Hitt, Vaidyanath & Pisano, 2004; Hitt, Harrison, Ireland & Best, 1998; Salter and Weinhold, 1978; Porter, 1980; Lubatkin, 1983; Gugler, Mueller & Yurtoglu, 2003), although its results are very often inconsistent (Lubatkin, 1987; Seth, 1990; Wansley, Lane and Yang, 1983).

The reason that relatedness is cited so much is because past research focused on processes and firm- and deals-specific characteristics instead of human factors (McCarthy & Dolfsma, 2012). For a long time the same topics were discussed, for example: failures on strategic, financial and economic decision-making processes and characteristics like size, relatedness, structure, methods of payment, and liquidity. King et al. (2004) conclude that past researchers almost all focused on the same factors and gave researchers the advice to incorporate other variables in the models than the one mentioned above, when investigating success of mergers and acquisitions. However, King et al. (2004) did mention that some authors tried to focus on different factors, but those authors needed more support. One example of authors who tried to focus on other factors is the research of Seth, Song & Pettit (2002). They state that value creation by mergers and acquisitions can be more or less successful depending on the motives behind the merger or acquisition. Therefore, it is important to gain a deeper insight of these motives behind mergers and acquisitions.

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valuation theory. This theory is based upon the idea that mergers and acquisitions are planned and executed by managers who have more knowledge of the value of the targeted firm than the stock market. The fourth motive is called the empire-building theory. This theory is based upon the idea that mergers and acquisitions are planned and executed by managers who thereby maximize their own utility instead of their shareholders’ value. The fifth motive is called the process theory. This theory is based upon the idea that the reasons behind mergers and acquisitions are not rational choices but outcomes of processes influenced by the limited information processing capabilities of individuals, the organizational routines and the political power “games” of organization subunits and outsiders. The sixth motive is called the raider theory. This theory is based upon the idea that the motive behind mergers and acquisitions is the wealth transfer a person or company received from the stockholders of the firms bided for. The seventh motive is called the disturbance theory. This theory is based upon the idea that economic disturbances causes mergers and acquisitions. Trautwein (1990) gives a lot of criticism on many of the motives in his article. According to him some theories are more important than others. He cites other research to refute most of the theories above. The valuation theory, process theory and empire-building theory can explain the motives behind mergers and acquisitions best according to Trautwein (1990). Striking is the fact that all these theories include the role of human power. Because human power plays such a huge role in the motives behind mergers and acquisitions it seems logical that the role of human interference should get more attention, which is already mentioned earlier. Human factors have been neglected for a long period, because it was always assumed that mergers and acquisitions were a closed system with little room for human influence. But, this part shows that the managers play a huge role in the motives for mergers and acquisitions. Therefore, due to the important role managerial power has in the motives of mergers and acquisitions and the fact that is has been neglected in the literature for a long time, there is enough evidence to investigate managerial power further. I will do this in the next part.

2.1 The role of managerial power

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on the top management team most of the time. But, how is (managerial) power described in the literature? The theory of power has been investigated over so many years, because people have possessed power over other people ever since they existed (Dahl, 1957). Many wars have started because of a search for (more) power, such as World War II or the wars of ancient Rome. But power is not always a negative thing. In certain domains we accept the fact that people possess power over us because it is laid down by law. Policemen, for example, have the authority to intervene if necessary, and parents possess some power over their children, although it is not explicitly written down. Because scholars in so many fields have investigated the subject of power, a lot of different definitions exist. Dahl (1957) sees it as a social theory and he comes up with the idea that “A has power over B to the extent that he can get B to do something that B would not otherwise do.” He describes power as a relation between people. To describe that relation best, four elements should be included. First, it should include references to the source, domain or base of the power. This consists of all the resources – opportunities, acts, objects, etc. – that someone can exploit in order to affect the behavior of others. Secondly, it should include references to the means of power. This consists of the instruments that were actually used. Thirdly, it should include references to the amount of power. This consists of the extent to which the power is used. Lastly, it should include references to the scope of power. This means to what extent it is possible to influence someone else.

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manipulate the attainment of valences. But in the case of reward power this is done with rewards and in the case of coercive power this is done with punishments. The third power base is legitimate power. This power base stems from the fact that internalized values in the subordinate determine that the manager has a legitimate right to influence the subordinate. These values are dependent of age, intelligence, social structure, or psychological characteristics. The fourth base of power is the referent power. This power base stems from the fact that some people feel a strong identification with another person. The last power base is expert power. The strength of expert power varies with the extent of knowledge or perception that the subordinate attributes to the manager within a given area. So it is not about ‘real knowledge’ but the perception of knowledge.

These bases of power are very useful in getting more information about where power comes from, but it does not describes managerial power in particular. Finkelstein (1992) changed the framework a little and found four different power dimensions. These dimensions together should describe the topic of managerial power completely. This framework is more specifically developed with top managers in mind and therefore better usable than the framework of French & Raven (1959). Besides that, in the article of Daily & Johnson (1997), which was one of the motives for my own research, this framework was used in describing managerial power too. Therefore, a deeper insight in this framework is necessary for this study. The four managerial power dimensions Finkelstein (1992) uses are:

1) Structural power. This power dimension is based upon the fact that managers who have a legislative right to exert influence are more influential than other managers. It is about formal organizational structure and hierarchical authority. The greater a manager's structural power, the greater the control will be over colleagues actions and the less he or she will be dependent on other members within the organization.

2) Ownership power. This power dimension is based upon the fact that managers who have significant shareholding within the organization have more managerial power than other managers.

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4) Prestige power. This power dimension is based upon the reputation of a manager in the institutional environment of the organization and among stakeholders. The more he or she stands in the ‘managerial elite’ or the more he or she interacts with other high valued persons, the more managerial power he or she will have.

Not all these dimensions are within the scope of this research. For example, the dimension of ownership power is difficult to investigate within my research. During the process of mergers and acquisitions the amount or ratio of shares of both companies could change. Top managers who possess a large number of shares in the pre-merger phase could possess a lot more or a lot fewer shares in the post-merger phase after the aggregation. Data unavailability is therefore the main reason for not using this dimension.

Because the proportion of expert power or prestige power a manager possesses is independent of the hierarchical function of this manager, these two managerial power domains are less suitable for this research. First of all, because it was stated earlier that the CEO plays a huge role in the merger and acquisition process, it turns out that structural power is more important than expert or prestige power. The targeted firm is very often chosen by the CEOs, simply because he or she is the leader. Other managers could possess a lot of expert of prestige power, but the final decision is made by the CEO. Secondly, and even more importantly, it was stated earlier that the desire for managerial power, prestige and empire could be a motive for mergers and acquisitions. This is why the CEO will decide what will happen, probably without listening to other managers, the CEO’s only aim is empire-building. This shows that they make decisions independent of other members within the organization, and this is exactly the definition of structural power. They can strive for empire-building because, due to their hierarchical function ,they are in the position to do that. These two arguments support the choice for taking the structural power dimension as the most important aspect of managerial power for this study.

2.2. Hypotheses development

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successful. For example, Covin et al. (1997) identified the leadership styles that influence post-merger satisfaction of employees positively or negatively. They found, based on a single-case study, that the different bases of power were not all that successful for post-merger satisfaction. But in large-scale samples it is also concluded that managers destroy value (Cartwright & Cooper, 1990). They state that managers are responsible for one third to one half of all the failures of mergers and acquisitions. One of the reasons for managers’ failures is explained by the hubris theory. In the pre-merger stage managers pay too much for their targets due to overconfidence, which is called hubris. This overpricing leads to a higher failure rate of mergers and acquisitions (Roll, 1986; Haywood & Hambrick, 1997). The article of Grinstein & Hribar (2003) is even more suitable because, just like in this research, they incorporate the role of managerial power. But their conclusion gives an even more dramatic impression. They found that mergers and acquisitions which were led by CEOs with a significant proportion of managerial power, were received more negatively by the market. In conclusion, it leads to the following hypothesis.

Hypothesis 1a: The higher the proportion of managerial power, the less successful the post-merger financial performance will be.

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performance. They found that in companies with a strong board a relation exists between negative post-merger performance and pay. In other words, in such companies CEOs will search the best targets because their compensation is dependent on the financial results. So in these organizations CEOs do not have the possibility to strive for their own interest. This result supports the idea that managerial power could lead to better post-merger financial performance. Furthermore, in the same article they found that only those firms that have extremely good post-merger stock performance continue with additional acquisitions. And because the size of the organization influences the amount of compensation for the CEO (Jensen, 1986; Grinstein & Hribar, 2003), it is implied that managers will search for targets which have a positive influence on the post-merger stock performance because then the basis for further merger & acquisition activity is higher.

The most interesting assumption for further investigation can be found in the article of Daily & Johnson (1997). These authors tested the relation between managerial power and the post-merger financial performance. They took the relative compensation of the CEO as an objective measurement for managerial power. They found a significant and positive relationship between this relative compensation of the CEO and the post-merger financial performance. However, only the basic compensation was included in the relative compensation of the CEO. Because most CEOs have a lot of options, grants, bonuses, et cetera, this result could be different if the entire compensation package is incorporated in the relative compensation of the CEO. If the relationship between managerial power and post-merger financial performance is still significant under this condition, a much better generalizable and valid research conclusion could be drawn. That is an interesting challenge for this study. In conclusion, it leads to the following hypothesis.

Hypothesis 1b: The higher the proportion of managerial power, the more successful the post-merger financial performance will be.

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wave as a moderator will be outlined, but for a better understanding, the topic of merger waves has to be shortly discussed.

As mentioned before mergers and acquisitions come in waves. A takeover wave, as these waves are called, reflects the wave pattern of the number and the total value of takeover deals over time (Martynova & Renneboog, 2008). Each takeover wave begins after a number of economic, political, and regulatory changes. For a long time, five completed waves have been examined in the literature. But lately more evidence was found for the existence of a sixth wave. The first wave, which is also called the Great Merger Wave, started around 1890 in the United States. This period was characterised by radical changes in technology, economic geographic expansion, innovations in industrial processes, the introduction of new state corporate legislation, and the development of industrial stock trading on the New York Stock Exchange. The main characteristic of this wave was its horizontal character. By far, most of the mergers were characterized by horizontal consolidation of industrial production. Due to the horizontal mergers the first monopolies appeared in this time. It is therefore that Stigler (1950) called this pattern merging to form monopolies. This wave came to an end at the beginning of the 20th century, when the equity stock market crashed.

The second wave started around 1918, when the First World War ended and economic recovery was necessary. The main characteristic of this wave was its vertical character. Many small companies merged to achieve economies of scale and build strength to compete with the dominant monopolies, which were created in the first wave. Therefore, Stigler (1950) describes this wave as a move towards oligopolies, because through this merging pattern more larger companies were created. The large monopolies did not attempt to regain power through new mergers. Stigler (1950) suggest that the lack of sufficient capital to finance the mergers and the antimonopoly laws which were developed in the first years of the 20th century were the reasons for this. This second wave ended with the stock market crash and the subsequent economic depression in 1929. In the following decades there was little merger and acquisition activity due to the worldwide recession and the Second World War.

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conglomerates was to benefit from growth opportunities in new product markets unrelated to their primary business. This allowed them to increase value, reduce their earnings uncertainty, and to overcome imperfections in external capital markets. Another characteristic of this wave was that the geographical scope widened beyond the United States for the first time, namely to the United Kingdom. The third wave ended in 1973, when the oil crisis started and the world economy fell into a recession.

The fourth wave started in 1981, when the stock market had recovered from the economic recession. The start of the fourth wave was initiated by changes in anti-trust policy, the deregulation of the financial services sector, the creation of new financial instruments and markets, and by technological progress in the electronics industry. The conglomerate structures created during the third wave had become inefficient by the 1980s and so companies were forced to reorganize their businesses (Shleifer and Vishny, 1991). Therefore, this wave was characterised by a huge number of divestitures, hostile takeovers, and privatization. The geographical scope of this wave stretched beyond the United States and the United Kingdom and also influenced the corporate structures in Western-Europe. The fourth wave ended with the stock market crash of 1987.

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Some authors (Martynova & Renneboog, 2008) believe that a sixth wave emerged in 2003 because of the rise of cheap credit. This wave continued were the fifth wave stopped. A large number of cross-border deals are still being made and thus the international industry consolidation which started in the 1990s is continued. Remarkably, this sixth wave was the first wave that was not led by the United States and had more activity in Europe. Recent acquirers seem to prefer friendly negotiations to the aggressive bidding, as the number of hostile bids is at a modest level. This sixth wave ended with the financial crisis around 2008.

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managers will be higher in that period and so their possibility to influence the post-merger financial performance. Therefore the expectation is that:

Hypothesis 2: The effect of managerial power on post-merger financial performance will be stronger in the fifth wave than in the sixth wave.

The other moderator in this study will be the acquisition rate of the target’s stocks. As stated earlier the usage of the acquisition rate as a moderator stems from the article of Fowler & Schmidt (1989). In their article they state that if an acquirer buys twenty percent of the target’s stocks, it is presumed that the acquirer has the possibility to have influence over the target to some extent. That means CEOs can use their power to influence post-merger performance and it seems logical that the possibility to influence post-merger performance will increase if a higher percentage of the target’s stocks is acquired. Fowler & Schmidt (1989) further stated that if a relationship exists between the percentage of stocks acquired and the degree of influence over a target, the effectiveness of integration (in their study an indicator of success of mergers and acquisitions) presumably would be affected. So the firms that acquired a significant portion of a target firm’s stocks may be able to exert more influence during integration than firms that acquired a smaller percentage. This part of their study could prove that a relation between a proportion of influence and the success of mergers and acquisitions will be influenced by the degree of acquisition. Because managerial power is all about influence, I assume that the degree of acquisition, also called the acquisition rate of the target’s stocks, influences the relation between managerial power and post-merger financial performance. This assumption is also in line with conclusions in earlier research, which stated that future researchers should use more variables as moderators, because interaction effects could explain a lot of the so far unidentified variances (King et al., 2004; Hitt et al., 1998). Therefore the expectation is that:

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In short, in this research the effect of the role of managerial power on post-merger financial performance will be investigated. The period of the wave and the acquisition rate of the target’s stocks will act as moderator. The relations that will be tested are shown in FIGURE 2. It is not sure whether the relations are positive or negative, therefore this is a neutral model.

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3. EMPIRICAL METHODOLOGY

Before collecting data for investigating the relation between managerial power and post-merger financial performance, some issues of empirical methodology have to be discussed. Firstly, in section 3.1 the strategy for collecting data will be outlined. Secondly, it is explained what is understood by the independent (section 3.2) and dependent variables (section 3.3) within the conceptual model. Thirdly, in section 3.4 it is explained in which way the moderating variables will be measured. Finally, in section 3.5 the role of the control variables within the conceptual model will be explained and theoretically supported.

3.1 Data collection

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mergers and acquisitions within this industry will be included in the sample. After all these steps 10.102 mergers and acquisitions were left in the sample.

The data for measuring the variables were extracted from the database of COMPUSTAT. With use of SQL codes the different variables were linked to each other by TICKER symbol and combined into one dataset. With use of SPSS all the data could be analyzed to test the hypothesis.

3.2 Independent variable: managerial power

Firstly, the independent variable, managerial power, will be described. The measurement of managerial power causes some problems. One of the major problems has been an overreliance on perceptual indicators of managerial power and a lack of objectivity in the resulting measures (Finkelstein, 1992). Managerial power is a sensitive subject for many managers; the word itself is heavily laden with meaning. Finkelstein (1992) refers in his article also to other authors (March, 1966; Pfeffer, 1981) who found the measurement of the concept managerial power as a major obstacle in their investigations. Because perceptual measures of managerial power have a questionable validity due to difficulties in measurement the importance of objective measures within a research is high. That is one of the reasons why this research will rely on secondary data. The framework of French & Raven (1959) implies the existence of perceptual indicators and is therefore less suitable to this research, although it is widely used. Finkelstein (1992) changed the framework a little and found some objective measures for the different power dimensions. The model itself and the reason for choosing the structural power dimension as the only dimension that will be investigated was already discussed within section 2.1

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of smaller organizations. That means that the impact of the scale of the organization has to be excluded. Secondly, some organizations will pay small salaries but they offer a lot of bonuses while other organizations pay high salaries with small bonuses. That means that the impact of the heterogeneity in payments also has to be excluded. Therefore the operation definition of the proportion of managerial power will be: POWER = total compensation CEO acquirer / average

compensation of all other members in the top management team of the acquirer in the completed year. With this approach, this study will go further than Daily & Johnson (1997). They only

found a significant positive relationship for basic pay and post-merger performance. By taking the total compensation, a better generalizable conclusion is possible.

3.3 Dependent variable: post-merger financial performance

In this part the variable ‘post-merger financial performance’ will be explained. With the selection of a good objective measurement for this variable, a wide range of different operational definitions emerge. Zollo & Meier (2008) give a good overview of all the different definitions of post-merger financial performance. They state that approaches to measure post-merger financial performance vary from subjective to objective, from short-term to long-term time horizon and from an organizational level of analysis to a process or transactional level. For the best possible measure all these six elements should be included. Zollo & Meier (2008) present a very comprehensive model in which they incorporate these six elements. But, it can also be explained in a more compact manner, like Napier (1989) did. As I already mentioned earlier, this study will follow her definition. She chose to combine all the definitions into two main categories in her article. She mentioned that the success of a merger and acquisition could be measured by 1) financial or other objective performance measures and 2) by employee reaction or morale measures. Because in this research the use of objective secondary data is very important, the definitions in the area of employee reaction or morale measures are less applicable. Therefore the focus will lie on financial or other objective performance measures.

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impact of risk. For example, shareholders could gain higher returns, but if the risk burden is increased they would be no better off in the end. Finally, these measures are biased by specific events which also influence firms profitability. For example, it takes years before a merger or acquisition has its effect on profitability. In those years other firm specific or market specific disturbance could bias these results.

After 1970, due to all the limitations, market-based performance measures were used to investigate post-merger performance. One of the most widely used market-based measures is the stock price (Jensen and Ruback, 1983; Lubatkin, 1987; Woo, 1992; Chatterjee, 1992; Singh & Montgomery, 1987; Datta, 1991). Many variants are used, but in general it is about a comparison between the stock price of the individual firms before the merger or acquisition and the new stock price of the combined firm in the post-merger phase. Morosini, Shane & Singh (1998) decided to use the percentage rate of growth sales because stock price related measures were not suitable to their research. Firstly, by using stock price related measures for investigating success of mergers and acquisitions, many companies, which were not listed on the stock market, were excluded for research. Therefore, by using stock price related measures, the total activity of mergers and acquisitions is not measured and the research is biased. Secondly, Morosini, Shane & Singh (1998) argue that some stock markets are known for their lack of market efficiency and are therefore not suitable for stock price related measures. Although these arguments sound rather credible, the percentage of growth sales as a measurement of success of mergers and acquisitions will not be used in this research, because this measure captures only one dimension of performance and the importance of this measure will differ across strategic contexts (Lubatkin & Shrieves, 1986).

Due to all these limitations the ideas of Zollo & Meier (2008), Kusewitt (1985), Lubatkin (1983), Lubatkin & Shrieves (1986) and DeLong & DeYoung (2007) will be used. They all advise to use measures related to abnormal returns by using the Return on Assets (ROA). Therefore the operational definition of the success of mergers and acquisitions will be in line with these authors: ROA = net income before depreciation acquirer / total assets acquirer one year after

completed date.

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3.4 Moderating variables

In this research the period of the wave and the acquisition rate of the target’s stocks will be used as a moderating variable. In this part the operational definitions will be given.

The way the moderating effect of the period of the wave is measured is on a quite objective base. The fifth wave consist of the years 1993-2001 and therefore the influence of managerial power on the success of mergers and acquisitions will first be tested on mergers and acquisitions throughout those years. The sixth wave comprises the years 2003-2008 and therefore the influence of managerial power on the success of mergers and acquisitions will be tested secondly on mergers and acquisitions throughout those years. This moderator will be called ‘Wave’ and is measured as a dummy variable in which the mergers and acquisitions which were completed in the fifth wave will be labelled as ‘1’ and the ones which were completed in the sixth wave will be labelled with ‘0.’

The other moderating effect in this study will be the acquisition rate of the target’s stocks. This moderating variable will be measured as a dummy variable and is called ‘Type’. Cases in which the target is acquired for 100% will be labelled as ‘1’ and the ones in which the target is acquired for less than 100% will be labelled with ‘0.’

3.5 Control variables

To control the possible effects of other variables on the dependent variable some control variables are necessary. By doing this, my research will be much more valid, especially when the hypothesis is still confirmed under these circumstances. Earlier research has produced a lot of options for possible control variables in studies on merger performance. In TABLE 1, an overview of earlier research is given. TABLE 1 is shown in appendix 1.

It is striking that some control variables show up in every study, for example (relative) size. Because size and relative size are quite different, both control variables will be used.

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where integration is needed. This process has a negative influence on the post-merger financial performance. Kitching (1967) also found that the greater the difference between acquirer and target, the weaker the post-merger financial performance. Alternatively, Kusewitt (1985) says that there is a tendency of firms to investigate larger targets more consistently and more thorough than smaller targets. In that case the greater the relative size, the better the post-merger financial performance. Besides that, relative organizational size may have a direct influence on shareholder gains because larger firms might acquire smaller firms to realize scale-related synergies that would otherwise be difficult to obtain (Kusewitt, 1985). Although the direction of the influence is not quite clear, its impact on post-merger financial performance seems obvious. That is why it would be wise to include relative size as a control variable in this study. In respect to relative size, the operational definition of Kusewitt (1985), Fowler & Schmidt (1989), Ramaswamy (1997), and Zollo & Singh (2004) will be used: RELSIZE = Total assets acquirer / Total assets

target in the year before completion of the merger. The reason to choose RELSIZE in the year

before completion is because in many cases the target company is incorporated in the acquirer and does not exist as a company by itself anymore. In that case many figures, such as total assets, are not available after completion. Therefore, for greater data availability the figures in the year before completion are investigated. For size the operational definition will be: SIZE =

Sales/Turnover of the acquirer in the completed year. This definition is chosen because this

definition is also used in similar studies in which a relation between managerial power and post-merger financial performance is tested (e.g. Harford & Li, 2007).

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be used: EXPERIENCE = (# acquisitions made by acquirer in past three years until completed

year).2

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4. RESULTS

This section will give the results of the tested relations of the conceptual model. Firstly, the test itself will be explained. Secondly, the results of the test will be shown and with that the hypotheses 1a, 1b, 2 and 3 can be accepted or rejected.

4.1 The regression model

Because this study assumes that managerial power has an influence on post-merger financial performance, a causal relation arises. To analyze causal relations the most common test is the regression analysis. To make the test as valid as possible all the variables are incorporated in the regression model. If all the variables for testing hypothesis 1a and 1b are incorporated in the model the regression model looks like:

Y = β0 + β1 * POWER + β2 * RELSIZE + β3 * SIZE + β4 * EXPERIENCE + Ɛ

In which Y is the dependent variable post-merger financial performance, which is measured by ROA.

Because the period of the wave acts as a moderator, this variable needs to be added to the model also, otherwise there is no result for hypothesis 2. This hypothesis states that in the fifth wave the effect of managerial power on post-merger financial performance will be stronger than in the sixth wave. To add this moderating effect in the model an intersect variable had to be made. This intersect variable will be called ‘Moderator_W’ and is computed by multiplying the dummy score of the variable ‘Wave’ with the score on the variable POWER. Just like for hypothesis 1, to find statistic evidence for hypothesis 2 a regression model had to be made. Because the effect will be stronger in the fifth wave, the regression model will look like:

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In which Y is still the dependent variable post-merger financial performance, which is measured by ROA.

In the sixth wave the effect will be weaker. Because the scores of the dummy variable ‘Wave’ in the sixth wave were labelled as ‘0,’ the interacting variable will also be ‘0.’ So in the sixth wave the following regression model represents the situation:

Y = β0 + β1 * POWER + β2 * RELSIZE + β3 * SIZE + β4 * EXPERIENCE + β5 * Wave + Ɛ

In which Y is still the dependent variable post-merger financial performance, which is measured by ROA.

Finally, the acquisition rate of the target’s stocks also acts as a moderator. To obtain a result for hypothesis 3 this variable needs to be added to the model too. This hypothesis states that in cases of a higher acquisition rate of the target’s stocks, the effect of managerial power on post-merger financial performance will be stronger than in cases with a lower acquisition rate of the target’s stocks. To add this moderating effect in the model, an intersect variable had to be made. This intersect variable will be called Type_Control and is computed by multiplying the dummy score of the variable ‘Type’ with the score on the variable POWER. Just like for the other hypotheses, to find statistic evidence for hypothesis 3 a regression model had to be made. Because the effect will be stronger in cases of a higher acquisition rate the regression model will look like:

Y = β0 + β1 * POWER + β2 * RELSIZE + β3 * SIZE + β4 * EXPERIENCE + β5 * Type + β6 * Type_Control + Ɛ

In which Y is still the dependent variable post-merger financial performance, which is measured by ROA.

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Y = β0 + β1 * POWER + β2 * RELSIZE + β3 * SIZE + β4 * EXPERIENCE + β5 * Type + Ɛ

In which Y is still the dependent variable post-merger financial performance, which is measured by ROA.

4.2 Descriptive statistics

Before the results of the regression analysis are shown, I will first present the descriptive statistics in TABLE 2.

TABLE 2 Descriptive statistics

Minumum Maximum Mean

Statistic Statistic Statistic Std. Error ROA 0,00 1,03 0,08 0,00 Power 0,01 64,79 1,17 0,04 Wave 0 1 ,27 0,01 Relsize 0,20 37901,16 30,38 13,21 Size 0,00 345977,00 26029,63 488,95 Experience 0 626 51,09 1,47 Moderator_W 0 31,54 0,19 0,01 Type 0 1 0,43 0,01 Type_Control 0 0,81 0,03 0,00 N = 5625.

This table shows that the total number of deals is 5.625 instead of the 10.102 that was mentioned earlier. This is because I only used the values that are above zero for the dependent variable. This way, all the deals that do not have a value on ROA are left out the analysis, because there is no possibility of testing an independent variable on a value that does not exist.

4.3 Regression results

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TABLE 3

Results from Regression Analysis

Note: Dependent Variable is ROA, Standard errors are in parentheses * p < .05, ** p < .01, *** p < .001

First, it is stated that R2 = 0,465. That means that 46,5% of all the variance of the dependent variable is explained by the independent variables. Although it is not an indicator of a very strong relationship, it is enough for a valid study and further analysis of the regression model.

The results of the overall variance analysis give a significant value of F = 610,382 (p < .001) for the whole model. That means that at least one of the variables in the regression model and the R2 differs significantly from zero. Therefore, there is enough support to look at the individual variables in the model. By doing this, the relations stated in this study can be analyzed and the hypotheses can be supported or rejected. For this analysis the output of the estimated regression coefficients is needed. This output is also shown in TABLE 3.

Firstly, I will look at my main hypothesis, the relation between managerial power and post-merger financial performance. In TABLE 3 it can be seen that POWER has a significant value of β = .002 (p < .001). That means that there is enough evidence for supporting a relation between managerial power and post-merger financial performance. But, because I used contradictory hypotheses, the direction of the relation has to be analyzed. The positive value of β indicates that there is a positive relation between managerial power and post-merger financial performance. Therefore, there is enough evidence to support hypothesis 1b, and for rejecting hypothesis 1a.

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Secondly, I will look at the moderating relations. The first moderating effect was the period of the wave. I assumed that the effect of managerial power on post-merger financial performance was stronger in the fifth wave than it was in the sixth wave. In TABLE 3 it can be seen that the intersect variable Moderator_W has a significant value of β = .002 (p < .05). The positive value of β indicates that there is a positive moderating effect of the period of the wave on the relationship between managerial power and post-merger financial performance. That means that there is enough evidence to support this moderating effect and therefore hypothesis 2 will be accepted. The second moderator was the acquisition rate of the target’s stocks. I assumed that the effect of managerial power on post-merger financial performance was stronger if the acquisition rate of the target’s stocks was high. In TABLE 3 it can be seen that the intersect variable Type_Control has a positive significant value of β = .996 (p < .001). The positive value of β indicates that there is a positive moderating effect of the acquisition rate of the target’s stocks on the relationship between managerial power and post-merger financial performance. That means that there is also enough evidence to support this moderating effect and therefore hypothesis 3 will also be accepted.

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5. DISCUSSION & CONCLUSIONS

In summary, this study addressed the topic of mergers and acquisitions. First of all, the topic was introduced by discussing the high failure rate of mergers and acquisitions. Secondly, in the theory development part the different failure factors were discussed and it became apparent that managerial power needed further investigation. Earlier research discussed whether managerial power was positively or negatively linked to post-merger financial performance. By using contradictory hypotheses this study will contribute to help resolving the paradox in the discussion whether there is a positive or negative influence of managerial power on post-merger financial performance. The research question was: “How does the role of managerial power influence

post-merger financial performance?”

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relative total compensation, also have a high proportion of managerial power and that is why CEOs could positively influence post-merger financial performance. My conclusion shows that organizations who are planning to enter a process of mergers and acquisitions could improve their post-merger financial performances by searching for a powerful manager and give them a high relative total compensation. Hopefully, these findings can help to decrease the high failure rate of mergers and acquisitions.

This study also contributed to the research field by making use of two moderating variables. First, the impact of the period of the wave on the relation of managerial power and post-merger financial performance was tested. Earlier research showed that in the fifth wave more diversifying and hostile mergers were conducted, and that diversifying and hostile mergers were pursued more by managers who strive for more prestige, empires and self-entrenchment (Shleifer & Vishny, 1991; Mueller, 1969).

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The other moderating variable which was used in this study was the acquisition rate of the target’s stocks. Fowler & Schmidt (1989) and Kusewitt (1985) stated that if a relationship exists between the percentage of stocks acquired and the degree of influence over a target, the effectiveness of integration (in their study an indicator of success of mergers and acquisitions) presumably would be affected. So the firms that acquired a significant portion of a target firm’s stocks may be able to exert more influence than firms that acquired a smaller percentage.

By conducting a regression analysis, a significant positive moderating effect was found for the acquisition rate of the target’s stocks. Therefore there was sufficient evidence to accept hypothesis 3. That means that in cases with a higher acquisition rate of the target’s stocks the effect of managerial power on post-merger financial performance will be higher. This result has a practical implication for organizations. If organizations have or search for a powerful CEO to positively influence post-merger financial performance, it is better for these organizations to obtain as much of the target’s stocks as possible. In that way the effect of the powerful CEO positively influencing post-merger financial performance will be higher.

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My work gives some additional suggestions for further research due to the limitations of this study. First of all, this study is conducted in a very detailed setting, because only US firms in the financial sector are incorporated in the sample. Further research should give an answer to the question whether this result is in accordance with the situation on other markets or in other countries. Secondly, I only used the structural power dimension of Finkelstein (1992) as an indicator of managerial power and measured it with the relative total compensation. Future research can build further on these results by incorporating other power dimensions of Finkelstein (1992) in the model.

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