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Contract design as a risk management tool in corporate acquisitions: theoretical foundations and empirical evidence

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  • Nils Patschureck
  • Friedrich Sommer
  • Arnt Wöhrmann

Abstract

This paper provides an overview of contractual measures to reduce acquisition risk for buyers in corporate acquisitions. We distinguish between measures applicable between signing and closing and those used after closing. The most important of these measures are purchase price adjustment agreements, material adverse change clauses, method of payment, earnout agreements, and warranties. We present the theoretical background for each measure as well as results of empirical research. We conclude that adequate contract design can effectively reduce acquisition risk, particularly with respect to target valuation uncertainty stemming from asymmetric information. Despite this potential, empirical research reveals that the use of contractual measures remains underdeveloped and therefore unexploited, especially in Europe. The most important constraints on these contractual measures include complexity, cost of implementation, susceptibility to litigation of sophisticated contract design, and seller bargaining power. The analysis includes suggestions for further research in this area. Copyright Springer-Verlag Berlin Heidelberg 2015

Suggested Citation

  • Nils Patschureck & Friedrich Sommer & Arnt Wöhrmann, 2015. "Contract design as a risk management tool in corporate acquisitions: theoretical foundations and empirical evidence," Journal of Management Control: Zeitschrift für Planung und Unternehmenssteuerung, Springer, vol. 26(4), pages 279-316, October.
    • Handle: RePEc:spr:jmgtco:v:26:y:2015:i:4:p:279-316
    DOI: 10.1007/s00187-015-0218-x
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    More about this item

    Keywords

    Contract design; Risk management; Mergers; Acquisitions; Purchase price agreement; Business valuation; M41; D86; G34; G32;
    All these keywords.

    JEL classification:

    • M41 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Accounting - - - Accounting
    • D86 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Economics of Contract Law
    • G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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