Shared Auditors in Mergers and Acquisitions

Lubomir LitovUniversity of Arizona & Wharton Financial Institutions Centre, Univ. of Pennsylvania

Research Question and Motivation

• What is the role of (shared) auditors in acquisitions?

• Information is extremely important in acquisitions, as acquirers value targets’ assets/liabilities

• Auditors, who produce and certify information about their clients, seem particularly well-suited to provide information about targets

What We Do

• We examine the impact of shared auditors on deal outcomes and the probability of receiving a bid– Auditors are privy to confidential information,

management discussions, and likely have expertise about the target firm

– We expect shared auditors can provide information about clients to other clients (targets and acquirers) and serve as “information intermediaries”

Can Auditors Share Client Information?

• In 1989, Ernst & Whinney merged with Arthur Young– Coca-Cola was a client of E&W since the 1920’s– PepsiCo was a client of Arthur Young since 1960’s– A Coke executive disputed Pepsi’s account with

the merged auditor, forcing Ernst & Young to drop PepsiCo

Hypotheses on Deal Outcomes

• Primarily, we predict shared auditors provide an informational advantage to acquirers – Superior information about target– Incentives: the acquirer survives and pays fees– Consistent accounting standards/practices

• In general, we expect shared auditors reduce information uncertainty and, hence, the costs of gathering information about targets• Shared auditors facilitate bids

Specific Predictions on Deal Outcomes

• We expect the informational advantage increases the likelihood that an acquirer makes a bid for a target– Less fear of over-bidding

• With an information advantage relative to other bidders, bidders with shared auditors have a stronger position in negotiations– Lower premiums– Higher ACARs, Lower TCARs– Higher completion rates

Previous Literature and Contribution

• Advisers in M&A– Financial Advisers: McLaughlin (1992); Kale, Kini, Ryan (2003);

Servaes and Zenner (1996)– Legal Advisers: Krishnan and Masulis (2013)

• Auditors in M&A– Golubov et al. (2011) Louis (2005); Neimi, Ojala, and Seppala

(2008); Xie, Yi, and Zhang (2010)• Focus is on Big-N vs. Non-Big-N

Previous Literature and Contribution

• Shared Agents in M&A– Shared financial advisers: Agrawal et al. (2011)– Shared directors: Cai and Sevilir (2012); Stuart and Yim (2010)

• Information in M&A– Form of payment and competition: Fishman (1989)– Negotiations: Povel and Singh (2006)– Contractual Provisions: Bates and Lemmon (2003)

Data

• CRSP/Compustat• SDC – bids between 1985 and 2010– Deals above $10 million– 3,598 bids

• For bid data, we create an indicator, shared auditors, equal to one if target and acquirer retain the same audit firm, as recorded by Compustat– Compustat data is lagged one year

Univariate AnalysisShared vs. Non-shared Auditors

• About 26% of sample bids have shared auditors

Non-Shared Auditor Shared Auditor

Variable Obs Mean Obs Mean Diff t-statPremium 2,597 46.91 810 42.22 -4.69 2.55***

Acquirer CAR 2,740 -0.01 858 -0.01 0.00 -0.26

Target CAR 2,740 0.21 858 0.19 -0.02 2.20***

Completed 2,740 0.81 858 0.85 0.04 -3.08***

Value of Transaction 2,740 1.21 858 1.28 0.07 -0.65

Tender Offer 2,740 0.22 858 0.18 -0.04 2.62***

Cash Only Deal 2,740 0.31 858 0.26 -0.05 2.82***

Hostile 2,740 0.05 858 0.04 -0.01 1.42

Number of Bidders 2,740 1.15 858 1.10 -0.05 3.24***

Same 2-digit SIC 2,740 0.59 858 0.64 0.05 -2.83***

Univariate AnalysisShared vs. Non-shared Auditors

• About 26% of sample bids have shared auditors

Non-Shared Auditor Shared Auditor

Variable Obs Mean Obs Mean Diff t-statPremium 2,597 46.91 810 42.22 -4.69 2.55***

Acquirer CAR 2,740 -0.01 858 -0.01 0.00 -0.26

Target CAR 2,740 0.21 858 0.19 -0.02 2.20***

Completed 2,740 0.81 858 0.85 0.04 -3.08***

Value of Transaction 2,740 1.21 858 1.28 0.07 -0.65

Tender Offer 2,740 0.22 858 0.18 -0.04 2.62***

Cash Only Deal 2,740 0.31 858 0.26 -0.05 2.82***

Hostile 2,740 0.05 858 0.04 -0.01 1.42

Number of Bidders 2,740 1.15 858 1.10 -0.05 3.24***

Same 2-digit SIC 2,740 0.59 858 0.64 0.05 -2.83***

Univariate AnalysisShared vs. Non-shared Auditors

• About 26% of sample bids have shared auditors

Non-Shared Auditor Shared Auditor

Variable Obs Mean Obs Mean Diff t-statPremium 2,597 46.91 810 42.22 -4.69 2.55***

Acquirer CAR 2,740 -0.01 858 -0.01 0.00 -0.26

Target CAR 2,740 0.21 858 0.19 -0.02 2.20***

Completed 2,740 0.81 858 0.85 0.04 -3.08***

Value of Transaction 2,740 1.21 858 1.28 0.07 -0.65

Tender Offer 2,740 0.22 858 0.18 -0.04 2.62***

Cash Only Deal 2,740 0.31 858 0.26 -0.05 2.82***

Hostile 2,740 0.05 858 0.04 -0.01 1.42

Number of Bidders 2,740 1.15 858 1.10 -0.05 3.24***

Same 2-digit SIC 2,740 0.59 858 0.64 0.05 -2.83***

Univariate AnalysisDo shared auditors facilitate bidding?

Big-N Regime (Big-N only)

Random Assignment Probability

Percentage of Deals with a

Shared Auditor Difference1985-1988 (Big-8) 0.15 0.19 0.04

(N=19,715) (N=390)1989-1997 (Big-6) 0.17 0.26 0.09

(N=57,181) (N=1,041)1998-2002 (Big-5) 0.20 0.27 0.06

(N=39,053) (N=1,007)2003-2010 (Big-4) 0.25 0.33 0.08

(N=47,140) (N=683)Average 0.07

The Probability of Receiving a BidMarginal Effects of Logistic Regressions

Variable All All Big N Big N Pre-SOX Post-SOX

Auditor Industry Network 0.041*** 0.030** 0.065***(4.50) (2.55) (5.14)

Auditor Network 0.068*** 0.063** 0.026*(4.50) (2.53) (1.65)

Target Controls Yes Yes Yes Yes Yes YesIndustry Controls Yes Yes Yes Yes Yes YesYear Controls Yes Yes Yes Yes Yes YesN 97,561 97,561 89,729 89,729 60,674 36,887Pseudo R2 0.036 0.036 0.037 0.037 0.039 0.035

The dependent variable equals one if a Compustat firm receives a bid

Shared Auditors and Deal Premiums(SDC Bid Data)

Dependent Variable = Deal PremiumAll Deals All Deals Big N Deals Big N Deals

Shared Auditor -4.378** -4.901***

(-2.53) (-2.85)

Shared Auditor Office -11.336** -12.040**

(-2.26) (-2.54)

Target/Acquirer/Deal Controls

Yes Yes Yes Yes

Industry Controls Yes Yes Yes YesYear Controls Yes Yes Yes YesN 3,332 2,651 2,923 2,272R2 0.140 0.135 0.151 0.145

Adj. R2 0.118 0.107 0.126 0.113

Shared Auditors and Target Announcement Returns(SDC Bid Data)

Dependent Variable = Target CAR (-1,1)

All Deals All Deals Big N Deals Big N DealsShared Auditor -0.017* -0.018*

(-1.66) (-1.75)

Shared Auditor Office -0.078*** -0.075***

(-3.96) (-3.50)Target/Acquirer/Deal Controls

Yes Yes Yes Yes

Industry Controls Yes Yes Yes Yes

Year Controls Yes Yes Yes Yes

N 2,878 2,279 2,511 1,943

R2 0.132 0.133 0.143 0.144

Adj. R2 0.107 0.100 0.113 0.106

Shared Auditors and Acquirer Announcement Returns(SDC Bid Data)

Dependent Variable = Acquirer CAR (-1,1)All Deals All Deals Big N Deals Big N Deals

Shared Auditor 0.007** 0.006*

(2.06) (1.82)Shared Auditor Office 0.004 0.003

(0.60) (0.39)Target/Acquirer/Deal Controls

Yes Yes Yes Yes

Industry Controls Yes Yes Yes YesYear Controls Yes Yes Yes YesN 2,987 2,357 2,608 2,010R2 0.087 0.091 0.089 0.092Adj. R2 0.061 0.059 0.060 0.055

Shared Auditors and Bid Completion(SDC Bid Data)

Dependent Variable = Deal Completion IndicatorAll Deals All Deals Big N Deals Big N Deals

Shared Auditor 0.042*** 0.035***

(3.43) (2.73)Shared Auditor Office 0.101*** 0.086***

(6.13) (4.50)Target/Acquirer/Deal Controls

Yes Yes Yes Yes

Industry Controls Yes Yes Yes YesYear Controls Yes Yes Yes YesN 3,598 2,866 3,121 2,428Pseudo R2 0.258 0.258 0.269 0.266

Controlling For Selection BiasPremium Premium

Target CAR

Target CAR

Acquirer CAR

Acquirer CAR Completed Completed

Shared Auditor -4.386** -0.015 0.006* 0.191***

(-2.48) (-1.37) (1.89) (2.58)

Shared Auditor Office -11.430** -0.085*** -0.007 0.477**

(-2.57) (-3.89) (-0.89) (2.51)

Inverse Mills Ratio 127.835*** 156.852*** 0.378 0.342 -0.154** -0.123(3.14) (3.39) (1.59) (1.28) (-2.04) (-1.52)

Target/Acquirer/Deal Controls

Yes Yes Yes Yes Yes Yes Yes Yes

Industry Controls Yes Yes Yes Yes Yes Yes Yes Yes

Year Controls Yes Yes Yes Yes Yes Yes Yes Yes

N 2,803 2,214 2,541 1,998 2,605 2,038 3,248 3,248

R2 0.146 0.148 0.135 0.136 0.094 0.101

Adj. R2 0.120 0.114 0.105 0.098 0.065 0.063

Rho -.040 .004

LR Test Chi2 (p-value)

0.904 0.990

Premiums, Shared Auditors, and SOXDependent Variable = Deal Premium

All Deals All Deals Big N Deals Big N Deals

Shared Auditor * Pre-SOX -4.216* -4.453**

(-1.91) (-2.08)

Shared Auditor * Post-SOX -3.049 -4.314

(-1.10) (-1.49)

Shared Auditor Office * Pre-SOX -11.018* -11.696**

(-1.72) (-2.01)

Shared Auditor Office * Post-SOX -9.953* -10.195**

(-1.84) (-2.24)

Deal Controls Yes Yes Yes YesIndustry Controls Yes Yes Yes YesN 3,332 2,651 2,923 2,272R2 0.140 0.135 0.151 0.145Adj. R2 0.117 0.106 0.125 0.112

Completion, Shared Auditors, and SOXDependent Variable = Indicator for Deal Completion

All Deals All Deals Big N Deals Big N Deals

Same Auditor Parent X Pre-SOX 0.043*** 0.033**

(3.11) (2.30)

Same Auditor Parent X Post-SOX 0.008 0.000(0.34) (0.02)

Same Auditor Local Office X Pre-SOX 0.099*** 0.086***

(5.27) (4.13)

Same Auditor Local Office X Post-SOX 0.091*** 0.052(2.62) (0.95)

Deal Controls Yes Yes Yes Yes

Industry Controls Yes Yes Yes Yes

N 3,598 2,866 3,121 2,428

Pseudo R2 0.241 0.242 0.253 0.253