Information Advantages from Geographic Proximity in Acquisitions

We examine whether geographic proximity is associated with information advantages in transactions involving mergers, acquisitions of majority interest and asset acquisitions. Transactions are classified as local if the distance between the headquarters of the acquiring and target firms is less than 100km. Over the period 1990-2003, we find that 20% of transactions are local. The average acquirer return in local transactions is 31% greater than that for non-local transactions. Consistent with the presence of information advantages, we find that acquirer returns in local transactions are increasing in the degree of information asymmetry faced by the target firm. When targets are public firms, we find that target returns in local transactions are significantly lower than in non-local transactions. This is consistent with information asymmetries, and lack of competitive bidding preventing the target firm from capturing the gains from the redeployment of assets. Target returns are declining in its information disadvantage. There is also weak evidence that total returns in local transactions are lower than in non-local transactions. This suggests that the presence of information asymmetries hampers the sale of assets to their most productive use. ∗ Harvard Business School and Ohio State University. (617) 495-5057, skedia@hbs.edu. † Olin School of Business, Washington University, 1 Brookings Drive, St. Louis, MO 63130, (301) 9788217, panchapagesan@olin.wustl. edu. We thank Ken Lehn. All remaining errors are ours. There is increasing evidence that the “local bias” observed in investor portfolios might be due to information advantages arising from geographic proximity. Coval and Moskowitz (2001) document that mutual funds exploit information advantages by investing a higher fraction of their portfolio in local firms and earning higher returns in these local investments. Ivkovich and Weisbennar (2003) find similar results for investment decisions made by individual investors. In this paper, we study the investment decisions of firms to examine the existence of and returns to information advantages arising from geographic proximity. We study the decision of firms to merge or acquire other firms as well as their decision to purchase specific assets from other firms. The acquisition market is large with total value greater than $1.014 trillion in 2003 alone. The market for assets is also large with total value greater than $332 billion in 2003. There is an extensive literature that studies merger activity and spans several decades (For surveys see Jensen and Ruback (1983), Jarrell, Brickley and Netter (1988), and Andrade, Mitchell and Stafford (2001)). A common finding across these studies is that mergers create value, with most of the gains accruing to target companies. The finding of on average zero return to bidding firms is consistent with a competitive acquisition market (See Mandelker (1974), Ruback (1983), Asquith (1983)). In a competitive acquisition market rivalry between potential buyers ensures that most of the gains from redeploying the asset to a more productive use is captured by the target firm. The evidence on competitiveness of assets markets is weaker. The potential gains from the redeployment of assets are not always captured by the seller (See Jain(1995)) and assets are not always sold for fundamental value (Pulvino (1998)). For asset markets to be competitive, all bidders and buyers of assets must be equally informed about the asset. With information asymmetries, uninformed potential buyers may not bid for the asset. In the absence of competitive bidding, the price at which the asset is sold will not on average capture most of the gains from employing the asset in a more productive use. Consequently, informed buyers of assets will earn positive returns from the purchase. We use