Abstract

http://ssrn.com/abstract=2271394
 
 

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The Use of Escrow Contracts in Acquisition Agreements


Sanjai Bhagat


University of Colorado at Boulder - Department of Finance

Sandy Klasa


University of Arizona - Department of Finance

Lubomir P. Litov


University of Arizona - Department of Finance; University of Pennsylvania - Wharton Financial Institutions Center

June 14, 2014


Abstract:     
A large fraction of private stand-alone firm and subsidiary acquisition deals make use of an escrow contract, whereby a fraction of the total sale proceeds is placed in an escrow account. These contracts give the bidder the opportunity to lay claim on these funds subsequent to the acquisition if the seller fails to meet specific terms of the acquisition agreement or it is found that negative information about the target was hidden from the bidder. We hypothesize that escrow contracts are an efficient contracting mechanism that helps buyers and sellers to manage acquisition-related transaction risk and that the use of these contracts reduces bidder acquisition-related costs and consequently leads to a creation of real value. Supporting our hypothesis, we show that the likelihood an escrow contract is used in a private stand-alone firm or subsidiary acquisition is higher when buyer or seller transaction risk is larger. Further, we document that escrow contracts enable sellers to obtain a higher sale price and that the use of these contracts positively impacts the extent to which private firm and subsidiary acquisitions result in an increase in bidder firm shareholder value.

Number of Pages in PDF File: 54

Keywords: mergers and acquisitions, escrow contracts, financial contracting

JEL Classification: G34

working papers series





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Date posted: May 29, 2013 ; Last revised: July 22, 2014

Suggested Citation

Bhagat, Sanjai and Klasa, Sandy and Litov, Lubomir P., The Use of Escrow Contracts in Acquisition Agreements (June 14, 2014). Available at SSRN: http://ssrn.com/abstract=2271394 or http://dx.doi.org/10.2139/ssrn.2271394

Contact Information

Sanjai Bhagat (Contact Author)
University of Colorado at Boulder - Department of Finance ( email )
Campus Box 419
Boulder, CO 80309
United States
303-492-7821 (Phone)
Sandy Klasa
University of Arizona - Department of Finance ( email )
McClelland Hall
P.O. Box 210108
Tucson, AZ 85721-0108
United States
520-621-8761 (Phone)
Lubomir P. Litov
University of Arizona - Department of Finance ( email )
McClelland Hall
P.O. Box 210108
Tucson, AZ 85721-0108
United States
520-621-3794 (Phone)
University of Pennsylvania - Wharton Financial Institutions Center
2306 Steinberg Hall-Dietrich Hall
3620 Locust Walk
Philadelphia, PA 19104
United States

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