Corporate Governance and Regulatory Impact on Mergers and Acquisitions

when the quality of the regulation in the country increases by one standard devi-

ation (which is equivalent to one point of the quality index). This suggests that

MLs facilitate the internationalization of the corporate sector in a country by

making the domestic firms available for foreign acquirers. We do not find any

effect of MLs on the frequency of domestic acquisitions.

In the next section we describe the related literature. In Section 2.3, we

describe the data on MLs that we use throughout the chapter. In Section 2.4, we

outline the measures of merger frequency and volume on which we focus our

analysis. In Section 2.5, we present the econometric analysis of our study. We

analyze the impact of MLs on domestic and cross-border merger flows and

describe the relationship between MLs, merger flows, and corporate value. In

Section 2.6, we conclude.

2.2 Related literature

Generally, the literature related to mergers employs static modeling structures that

study the performance and welfare implications of a merger. By doing so, the lit-

erature identifies the incentives that firms have to merge as well as the need—or

absence thereof—for public policy. Any introductory industrial organization text-

book outlines two incentives for mergers: the first relates to the efficiency gain

that stems from reduced costs due to elimination of duplication and enhancement

of information; the second associates with the increased monopoly power enjoyed

by the fewer postmerger firms in the market. While mergers and acquisitions that

result in the former category are presumably welfare enhancing and, therefore,

beneficial from a social point of view, the latter result in an increased monopoly

power and therefore are not beneficial in terms of welfare.

In general, the literature on mergers predicts that an industry that is active in

mergers will experience an increase in profitability. However, there is not a

general agreement as to whether the participating firms in a merger enjoy higher

profitability than the nonparticipating firms. Stigler (1950) suggested that the

nonparticipating firms may benefit more than the merger participating firms, a

point that Salant, Switzer, and Reynolds (1983) showed in a simple Cournot

model. The main reason that drives the result in the Salant, Switzer, and

Reynolds article is that the new merged entity is indistinguishable from the

merger nonparticipating firms. Deneckere and Davidson (1985), Perry and

Porter (1985), and Farrell and Shapiro (1990) suggest ways that the merged

entity is bigger in one way or another than the nonparticipating firms, resulting

in a reversal of the Stigler suggestion.

Several other articles have studied the stock market valuation effects of merg-

ers. Their focus is on the effect of the merger on the joint returns of bidder and

targets (Bradley, Desai, and Kim, 1988; Jarrell, Brickley, and Netter, 1988;

Jensen and Ruback, 1983; Schwert, 1996). Results are mixed. Eckbo (1982),

Mitchell and Mulherin (1996), and Moon and Walkling (2000) find that rivals

of acquisition targets earn significant abnormal returns. The relationship

The effect of merger laws on merger activity: international evidence 17