Determinants of earnout as acquisition payment currency and bidder's value gains

Leonidas Barbopoulos, Sudi Sudarsanam

Research output: Contribution to journalArticlepeer-review

Abstract

We examine the wealth effects of a comprehensive sample of UK bidders offering contingent payment, or earnout, as consideration for their acquisitions. We show that bidders using earnout generate significantly higher announcement and post-acquisition value gains than bidders using non-earnout currencies (such as cash, stock exchange, or mixed payments). We construct a logistic model to predict when it is optimal for a bidder to offer earnout. We show that bidders offering earnout optimally enjoy significantly higher announcement and post-acquisition gains than bidders offering non-earnout currencies, consistent with our model of the choice of the optimal method of payment. Overall, we provide robust evidence that earnout is an effective payment mechanism to mitigate valuation risk to acquirers, and also enhances acquirer value during the announcement and post-acquisition periods. Our paper contributes to the broader literature on how corporate acquirers use payment currency to manage information asymmetry and the attendant valuation risk.
Original languageEnglish
Pages (from-to)678-694
Number of pages17
JournalJournal of Banking and Finance
Volume36
Issue number3
Early online date14 Oct 2011
DOIs
Publication statusPublished - Mar 2012

Keywords

  • earnout
  • acquisition performance
  • method of payment
  • information asymmetry
  • valuation risk

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