The Effect of Target-Firm Accounting Quality on Valuation in Acquisitions

Abstract

We examine whether acquisitions are more profitable for acquirers when the firms they target disclose higher-quality accounting information. If accounting information reduces uncertainty in the value of the target firm by facilitating a more precise valuation, we predict that managers of the acquiring firm are able to bid more effectively and pay less to acquire a target firm that has high-quality accounting information. Using a large sample of acquisitions of public firms over the period 1990-2009, we find evidence consistent with our prediction. Specifically, when target firms have higher-quality accounting information, acquirer returns around the acquisition announcement are higher and target returns are lower — consistent with acquirers capturing a greater portion of acquisition gains by paying less for target firms. These findings, which are robust to a variety of controls and alternative measures of uncertainty and accounting quality, suggest that higher-quality accounting information leads to better bidding decisions in acquisitions.

Keywords: accounting quality; valuation; mergers and acquisitions

JEL Classification: M41, G34