corporate co-operation - american university · corporate co-operation ... whirlpool-tvs sundaram...

Corporate Co-operation

Professor Robert B.H. Hauswald

Kogod School of Business, AU

4/5/2011 Corporate Cooperation © Robert B.H. Hauswald 2

“Have Lunch or Be Lunch”

• Firms co-operate: different organizational forms– explicit or implicit contractual agreement without

financial ties (loans, equity stakes)– co-operation agreement (implicit) plus minority stake– joint ventures: incorporate co-operation– acquisitions: internalize co-operation

• Strategic alliances run the whole gamut– from loose to tight integration: what appropriate when?

• Why so prevalent in recent times?– response to rapidly shifting environment


ALLIANCE CORE

Licenses

PartialAcquisitions(Controlling)

Partial Acquisitions

(Non-Controlling)JointVentures

SharedResources

Strategic Alliance


Source: HLHZ

Definition

• An organizational and legal construct wherein– “partners” are willing – in fact, motivated – to act in

concert and share core competencies and resources– use design to provide incentives for partners

• Most Alliances result, to some degree, in the virtual (albeit limited) integration of the parties– conflicts over control of jointly used assets

• Many Alliances result in actual integration through acquisitions, – but usually delayed and in stages– corresponds to what?


Acquisitions

Traditional M&AOutsourcing

100%Acquisitions

Partial

Controlling>50%

Increasing Degree of Integration

ContractServices

-

Corporate Alliances

Licensing(NonEquity)

Contractual

Increasing Partner Commitment

SharedResources andCompetencies(Non-Equity)

PartialAcquisitions

Non-Controlling

<=50%

JointVentures

-

-

SharedResources andCompetencies(NonEquity)

Collaborative

PartialAcquisitions

NonControlling

<=50%

JointVentures

Source: HLHZ

Continuum Of Transaction Types


1996 to 20001996 to 2000

0

7000

9000

11000

12000

13000

M&AM&A

Alliances

Source: Source: Thomson Financial/Forbes

10000

8000

6000

1996 1997 1998 1999 2000

Alliances vs. M&A


Alliances on the Rise

Alliances shift from High Tech to Multi-Industry


Types of Alliances by Stage

Emerging Firm

• Market Entry

• Product Development

• Sales & Distribution

• Technology Pipeline

Major Corporation

• R&D

• Licensing

• Sales & Marketing

• Expansion Abroad


Taxonomy of Corporate Cooperation

Spot market transactions(e.g., “paper clips”)

Internal organization (e.g., M&A)

Strategic Alliances

Franchising/LicensingAgreements

Consortia Joint Ventures


Source: EIU Global Executive Survey, Accenture, Warren Company

2000 2005 20101990

20%

30%

40%

0%

10%

20%

30%

40%

50%

3-5%

What will business be What will business be

like when 30 like when 30 -- 40% of 40% of

Revenues are derived Revenues are derived

from Alliances?from Alliances?

Projected Alliance Revenue


Impact of AlliancesAlliances on Innovation

Source: 2002 Ministry of Economic Affairs in the Netherlands –University of Einhoven Study

Impact of Mergers & Mergers & Acquisitions Acquisitions on Innovation

50%

75%

Negative Impact

Neutral Impact

PositiveImpact

25%

50%

75%

Negative Impact

Neutral Impact

Positive Impact0

10

17

73

25%

0 0

Innovation


Alliance vs. Acquisition: Success


Alliance vs. Acquisition: Negotiation


The Four I’s of Collaboration

Alliancevs.

Acquisition

Investmentin Options

IndigestibilityInformationAsymmetry

Infeasibility

Source: Reuer (1999)


Infeasibility

• Alliances as substitutes for M&A– best or worst of two worlds?

• Horizontal alliances: anti-trust– NUMMI - Toyota and GM;

• Airline alliances: regulation– BA-AA, Star, Swissair, KLM and Northwest

• Telecommunications alliances: regulation, technology– ATT - Telecom Italia; WorldPartners - 40% AT&T, 24 % KDD of

Japan, 16 % Singapore Telecom; 20 % national operators of Holland, Switzerland, and Sweden

• Developing country alliances: entry restrictions– Ford-Jiangling Motors in China, Whirlpool-TVS Sundaram

Clayton in India


Investment in Options

• Terminal value of call option W = max [ (1 -α)V - P, 0 ]– Biotech ventures (i.e., technological uncertainty key)– Platform investments in new markets (i.e., market and currency

uncertainties)– Sequential divestiture at Philips– Siemens: Call option was the most important part of JV with Allis-

Chalmers (Siemens Allis Power Engineering)

• Implications and Issues– Alliances ≠ Marriage; Alliance Success ≠ Longevity– Managing the downside– Negotiating termination clauses

• Sources: Reuer & Leiblein (2000), Campbell & Reuer (2001)


Indigestibility

– Cultural Distance: always a question of incentives– Resource Embeddedness: dual usage and accessibility

Potential Acquirer Potential Target Governance

A- -BI Acquisition

A- -BII Acquisition

A--BIII

Joint Venture (e.g., Nestlé approach; Komatsu-Dresser)


Information Asymmetry

Horse Cart

Taxi

JVs as ‘Renting’:An Opportunity

for Learning• Examples of information

asymmetry:– Diamond inheritance– Buying the horse ($1-100)

• 2 ‘errors’ in acquisitions– Offer too little and miss it– Pay too much and get it?


How compatible are the management teams and overall cultures?• Contribution incentives• Effort incentives• Contractibility

Chemistry Fit

Operational FitHow complementary are the resources?• Scope for synergies

How well aligned are the partner’s objectives?• Conflicts of interest• Asymmetric information

Strategic Fit

Fitting the Pieces Together

Align interests and provide incentives• Ownership• Control rights (veto)

Design


Evidence from the Stock Market

InformationAsymmetry

Yes

No

JV or IJV Acquisition

+ +

+ +- -

- -

Source: Reuer & Koza (2000)


Strategic Alliances


Three Challenges of Collaborative Strategy

• The Alliance Investment Challenge– Choosing an alliance vs. another investment– Choosing between different types of alliances– Negotiating strategic alliances

• The Alliance Implementation Challenge– Designing collaborations and processes– Managing alliances over time

• The Alliance Institutionalization Challenge– Cultivating alliance capabilities


Financial Strategy

• To cement corporate alliance, use capital structure– financial arrangements as commitment devices– overcome conflicts of interest, diverging objectives– financial arrangements as strategic tools

• Corporate strategies: dynamic in nature– priorities and/or environment might change– change of control: options to sell/buy out

• Capital structure as vehicle for corporate alliances– defines boundaries of the firm: in or out?– use as currency to “pay” for alliance in all its forms


Corporate Alliances

• Rationale: synergy gains create value for all– the total is more profitable than the sum of the parts– complementarities between the partners’ assets– what if synergy gains turn into deadweight losses?

• Pooling resources implies sharing profits– third, arm’s length corporate entity: advantage?– pure equity contract: proportional sharing– license, management contracts: non-proportional

sharing (lump-sum fees, royalties)

• Focus on joint ventures: most intriguing form of corporate cooperation – generalizes to others


Joint Ventures• To illustrate issues in corporate alliances: joint venture• Valuation and negotiating interdependent

– in order to evaluate one needs to make assumptions about profit (revenue and cost) sharing determined by negotiations

– in order to meaningful negotiate one needs to have an idea of the JV’s value

– less obvious: meaningful negotiations requires an idea of JV’s value to the other party

• Adjust valuation exercise for different negotiation outcomes and (conceptually) pick worst feasible outcome

• New economy: value mainly a promise, i.e., real option– telecommunications: JVs and strategic alliances predominant– etailing, computer industry, datacoms: what effect at work, why?


Profit Sharing

• Principle: existence of positive synergies– bargaining position matters, but more important is the– outside option: I’s alternative to the JV -O– equal gains principle (EGP): split the difference - A’s

gain = B’s gain > 0

• Illustration– synergy = 500 - (100 +200 ) = 200– EGP:

• Morale: there is more to profit sharing than splitting the pie; what about incentives of parties?– parties’ shares?

gaini A AN PV O= −

NPV O OJV A B= = =500 100 200, ,

NPV NPVA B= =200 300,


Incentives vs. Culture


Finance Meets the Law

• The charm of control: UPA and RUPA– JVs fall under the Uniform Partnership Acts– control allocated strictly according to shareholdings– fiduciary duty and technicalities: courts powerless

• Control confers potential benefits– strategic advantages: learning, conquering new markets

or technologies, pre-empting competition, M&A/E – opportunities to extract or divert value

• Fundamental problem: how to align incentives– optimal incentives to work in JV’s best interest– double sided moral hazard: “do not do unto thy next…”


The 50-50 Puzzle

0

200

400

600

800

1000

1200

50 51 60 67 75 80 90 100

Majority Stake

Num

ber

of J

oint

Ven

ture

s

US JVs European JVs

67.78% 62.72%

8.05% 12.23%7.85% 7.53%

2.46% 3.14%

5.54% 7.98% 2.79% 2.25% 1.88% 1.95%

1.65% 2.25%

• 2/3 of joint ventures exhibit 50-50 ownership and shared control, a further cluster point occurs at 50 plus one share– large samples: 2,718 US and 2,004 EU JVs started 1985-2000


Design Trade-Offs

• Puzzles: rationale of JV capital structures– economic: partners are dissimilar (synergies!), so the

one with crucial expertise should lead with higher stake– legal: 50-50 leads to intractibilities, blockages

• Trading off incentives for expertise contributions– giving one party control and potential to siphon off

strategic benefits hurts other party’s incentives– implicit, explicit options: incentive tools (put, call)

• The cost of joint control: watching, not working– management: playing off parents against each other– corporate gridlock: joint control avoided elsewhere


Joint Venture Performance

• Analyze JVs to better understand how strategic alliance benefit parents– related work on contractual strategic alliances

• Do Joint Venture create value?– are JVs value-creating investments for parents?– how much value do they create?

• When do JV’s create Value?– what drives the wealth creation in a JV?– are their financial factors that affect JV

performance?


Hauswald and Hege (2003)• In equilibrium, all three control

regimes coexist– small net social costs of control can

generate observed patterns: d - δ• Model implications

– the higher γ* the less frequent 50-50, the more likely outright control

– higher potential for control benefit extraction: more 50-50

• Sample: 275 US joint ventures with two publicly traded parents– Thomson Financial Securities Data

strategic alliances: 1985 - 2000– clean up sample and match with

parents’ financial data

• Recover γ* from parent wealth gains– Leontief value-creation function


Announcement Effects


The Charm of Contingent Ownership


–Study: 2014 Joint Ventures in Europe

Breakdown of Jont Ventures

Total JVs: 3606

14 participants 311 participants 310 participants 19 participants 18 participants 67 participants 56 participants 185 participants 324 participants 1203 participants 477

2 participants 2940

Govt - Govt 37Unk - Unk 7Unk - Govt 5Sub-Govt (mainly SU, CZ, YG) 103misc (Investors, mutuals etc.) 23Public - Govt 143Priv - Priv 239Priv - Govt 97J.V. - Priv 23J.V. - Govt 19Govt - Unk 8Govt - Sub 38Govt - Public 85Govt - Priv 70Priv - Unk 24J.V. Unk 5

JVs with at least one public partner 2014

Study Overview

–Study by M. Christner, MSDW and R. Hauswald

–Joint Venture Database of SDC (Thomson Financial Securities Data: > 57.000 JV and Strategic alliances worldwide since 1985)

–Focus on Joint-Ventures in Europe

–Initial Search yields 3606 JVs, leaving 2014 JVs within scope of selection criteria

Joint Ventures in Europe


0.10%

-0.02%

0.12%

-0.03%-0.05%

0.01%

0.14%0.08%0.09%

0.12%

0.44%

0.22%

0.10%0.07%

-0.05%-0.03%

0.01%0.00%0.01%

-0.04%

0.05%

-0.1%

0.0%

0.1%

0.2%

0.3%

0.4%

0.5%

-10 -9 -8 -7 -6 -5 -4 -3 -2 -1 0 1 2 3 4 5 6 7 8 9

AR

Abnormal ReturnsPercentage Daily Abnormal Return Relative Days

0.0%

0.2%

0.4%

0.6%

0.8%

1.0%

1.2%

1.4%

1.6%

-10 -9 -8 -7 -6 -5 -4 -3 -2 -1 0 1 2 3 4 5 6 7 8 9CAR

Cumulative Abnormal ReturnsPercentage Daily Abnormal Return Relative Days

Benefits of JVs


Geographic Dimension

• JV formation seems to be more successful for UK, US and German companies: sample bias?

Geographical BreakdownOrigin of Ultimate Parent Company

n day -2 day -1 day 0 day 1 day 2 CAR[-1;1] CAR[-2;2] CAR[-5;5]

United Kingdom 399 0.13% 0.20% 0.72% 0.36% 0.22% 1.29% 1.63% 2.79%

(1.27) (1.86) (4.59) *** (1.84) (1.71) (4.19) *** (4.63) *** (4.95) ***

USA 380 0.16% 0.07% 0.75% 0.18% 0.04% 1.00% 1.20% 1.13%

(1.18) (0.55) (3.19) * (1.22) (0.21) (3.39) ** (2.82) * (2.16) †

Germany 261 -0.05% 0.14% 0.32% 0.25% 0.27% 0.70% 0.92% 0.75%

(-0.44) (0.93) (2.30) † (1.75) (1.97) † (2.40) † (2.83) * (1.63)

France 192 0.02% -0.16% -0.01% 0.19% 0.09% 0.02% 0.14% 0.94%

(0.13) (-0.97) (-0.07) (0.89) (0.59) (0.08) (0.39) (1.86)

Japan 112 -0.08% 0.14% 0.19% 0.52% 0.16% 0.85% 0.94% 0.96%

(-0.33) (0.67) (0.64) (2.40) † (0.52) (2.02) † (1.49) (1.19)

Italy 104 0.27% -0.14% 0.49% 0.07% -0.18% 0.42% 0.51% 0.55%

(1.39) (-0.64) (2.42) † (0.33) (-0.94) (1.13) (1.03) (0.77) Values in parentheses denote relevant t-statistics

† significant at the 5% level* significant at the 1% level** significant at the 0.1% *** significant at the 0.01%


Summary

• Companies use strategic alliances to stretch out– business model of the new economy: Qualcomm– firm’s boundary defined by equity stakes (capital

structure), contracts: financial not physical assets

• New economy’s dynamic nature– unlock value stored in human assets: shifting focus– race to the top: network economics, standards, patents– belief that informational asymmetries matter less

• Appropriating gains from firm’s periphery– strategic alliances might compete with core– destroy value instead of creating it: optimal design

Ownership and Control in Joint Ventures: Theory and Evidence

Robert HauswaldAmerican University

Ulrich HegeHEC, Paris

May 2004


The 50-50 Clustering of Ownership

0

200

400

600

800

1000

1200

50 51 60 67 75 80 90 100

Majority Stake

Num

ber

of J

oint

Ven

ture

s

US JVs European JVs

67.78% 62.72%

8.05% 12.23%7.85% 7.53%

2.46% 3.14%

5.54% 7.98% 2.79% 2.25% 1.88% 1.95%

1.65% 2.25%

• 2/3 of joint ventures exhibit 50-50 ownership and shared control, a further cluster point occurs at 50 plus one share– large samples: 2,718 US and 2,004 EU JVs started 1985-2000


Motivation and Objective

• Corporate cooperation: a fixture of corporate strategy– firms seek to exploit synergies by pooling resources– focus on joint ventures: firms incorporate their cooperation

• Firms grant each other access to their assets– analyze the allocation of ownership and control

• Explain the prevalence of equity stakes around 50% for a wide cross-section of dissimilar parents– management literature and corporate announcements stress

synergies: partners typically heterogeneous– disagreement between the partners resolved by majority

vote (UPA): potential for costly deadlock


Related Literature

• Voluminous management literature, but very little work on the ownership allocation in joint ventures– most prior work argues for asymmetric ownership

– Belleflamme and Bloch (2000), Darrough and Stoughton (1989), Chemla, Habib and Ljungqvist (2001)

• Governance of strategic alliances– empirical work: Robinson and Stuart (2002), Elfenbein

and Lerner (2003), Lerner and Malmendier (2003)

– theory: Baker, Gibbons and Murphy (2002), Rey and Tirole (2001) on organizational choice for alliances


• JV agreement specifies A's ownership γ (B's stake: 1 -γ) and, thus, residual control (UPA)

• 2 risk neutral partners i = A, B contribute non-contractible resources (effort, investments) Ii

– at quadratic cost (ci²/2)Ii² to parent i: cA > cB by convention (A’s contribution is more valuable)

– resources are strictly complementary: Leontief value (production) function - no input substitution

Model Outline: JV Formation


The Charm of Control

• Control confers private (residual) control benefits δ at cost d on dominant parent A– ownership in the strict UPA sense: γ = ½ + ε, ɛ

> 0 ⇒ controlling party appropriates δV

– but such value diversion creates costs dV to JV: only (1 -d)V remains for distribution

• Control costs distort contribution incentives


Ownership and Control: Results

• In the absence of control costs or benefits δ = d = 0– strong complementarities eliminate free-riding on partner’s

resource contributions (Holmstrom, 1982)– special case of Legros and Matthews (1993): explanation

for popularity of JVs as organizational choice

• Parents trade off synergy gains with control costs in allocating ownership stakes– resource and control costs determine control allocation– high cA relative to cB: A has outright control– γ* close to ½: parties cannot equalize contribution


The Optimality of 50-50

• Critical region around 50-50: characterize optimal choice of ownership in function of resource and control costs– commitment value of equal ownership stakes: no benefit extraction


From Theory to Evidence• In equilibrium, all three control

regimes coexist– small net social costs of control can

generate observed patterns: d - δ• Model implications

– the higher γ* the less frequent 50-50, the more likely outright control

– higher potential for control benefit extraction: more 50-50

• Sample: 275 US joint ventures with two publicly traded parents– Thomson Financial Securities Data

strategic alliances: 1985 - 2000– clean up sample and match with

parents’ financial data

• Recover γ* from parent wealth gains– Leontief value-creation function


Empirical Analysis

• Estimate γ* from abnormal wealth creation at JV announcement: standard event-study methodology

• Discrete-choice model of control-regime choice

– estimate of γ*: relative resource-cost parameter– LEV: binary variable indicating JV leverage (35%)– RELpvp: binary variables measuring relatedness by

two-diging SIC codes and national-origin– x: variables measuring scope for complementarities

(COMP) and parent-level spillovers (SPILL), and– control benefit extraction in terms of overlap in parents’

and joint-venture production technology: DOVER


Empirical Findings• Exclude 8 γ*- outliers

• Marginal effects: consistent with model predictions and highly significant– γ* : estimate of relative costs

– SICaab: proxy for value diversion by industry – industry effects

• Robust for various specifications– national-origin controls

– interaction of γ* and SICaab

• Strong evidence for model specification: maintained H– strong complementarities

– contractual incompleteness


Spillovers and Complementarities

• Extension: add non-costly spillovers for parents (“learning”)– analysis carries over unchanged

– high spillovers for dominant parent A: 50-50 becomes more likely

• Discrete-choice model: add proxies– spillovers potential: SPILL

– complementarities: COMP

– indices derived from JV description and TFSD JV-type classification

• Again, effects as expected– consistent with model

– robust to changes in specification


Spillovers vs. Control Benefits• Distinguish effects of spillovers

from benefit extraction– create a variable for direct benefits

for controling parent– difference in technological overlap

between parent and joint venture– the more overlap, the more scope

for appropriating benefits• Fan and Lang (2000): I-O tables

– compute average correlation of inputs and outputs for all three

• Results bear out model predictions– the higher the overlap with JV

relative to other parent– the more frequent 50-50– the less frequent one-sided control


Specification Tests

• Crucial link between theory and empirical work: ability to recover relative cost parameter γ*

Leon

– Leontief specification: strong complementarity

• Repeat analysis with the other polar case of the CES production function: linear value creation– contributions are pure substitutes: free-riding– optimal ownership choice driven by cost analog γ*

lin

– estimate γ*lin and nest as γ*

Leon = γ*lin + ∆γ in DCM

• Standard specification test: Leontief vs linear– fail to reject the Leontief specification, but– reject the linear specification against unrestricted model


The Charm of Contingent Ownership


Conclusion and Extensions

• Simple model of ownership and control in JVs – observed ownership patterns can arise for a wide

variety of parent attributes that drive control allocation– firm- and industry specific trade-offs in JV design

• Empirical evidence bears out model predictions– value of resource contributions drives regime choice– parties trade off synergy gains with control costs and

spillovers: 50-50 ownership as a commitment device• Extension: separation of ownership and control

– contingent ownership provisions very frequent in JVs– incentive benefits and overcoming consequences of

contractual incompleteness: exit and termination

corporate co-operation - american university · corporate co-operation ... whirlpool-tvs sundaram...

Documents