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Do acquiring firms knowingly pay too much for target firms? Evidence from earnings management in member-firm mergers in Korean business groups

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  • Jae Wook Jeong
  • Gil Bae

Abstract

In a typical stock-for-stock merger between the firms belonging to the same business group (member-firm mergers), the controlling shareholder's holdings in the target firm are more than twice those in the acquiring firm. This difference in the controlling owner's holdings in the acquiring firm and the target firm creates a strong incentive for the controlling owner to knowingly pay more for the target firm than the target firm is actually worth. We find that acquiring firms deflate earnings in order to increase the numbers of shares to be issued to the target firm's shareholders. Furthermore, the level of earnings deflation is systematically related with the controlling owner's expected benefits measured in several different ways. We also find that the stock price reaction to member-firm merger announcements is negatively correlated with the pre-issue-period earnings deflation. In addition, the results show that post-merger performance in member-firm mergers is lower than that in independent firm mergers.

Suggested Citation

  • Jae Wook Jeong & Gil Bae, 2013. "Do acquiring firms knowingly pay too much for target firms? Evidence from earnings management in member-firm mergers in Korean business groups," Asia-Pacific Journal of Accounting & Economics, Taylor & Francis Journals, vol. 20(3), pages 223-251, September.
    • Handle: RePEc:taf:raaexx:v:20:y:2013:i:3:p:223-251
    DOI: 10.1080/16081625.2012.761938
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    References listed on IDEAS

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    1. Tarun Khanna & Yishay Yafeh, 2005. "Business Groups and Risk Sharing around the World," The Journal of Business, University of Chicago Press, vol. 78(1), pages 301-340, January.
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    Cited by:

    1. Aggarwal, Raj & Jindal, Varun & Seth, Rama, 2019. "Board diversity and firm performance: The role of business group affiliation," International Business Review, Elsevier, vol. 28(6), pages 1-1.
    2. Jindal, Varun & Seth, Rama, 2019. "A new order of financing investments: Evidence from acquisitions by India’s listed firms," Journal of Corporate Finance, Elsevier, vol. 58(C), pages 307-328.

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