Capital Market Concerns and Specific Investments in Business Alliances

Abstract

We study the effects of the capital market concerns of a publicly traded firm that works closely with a privately owned partner in a business alliance. The firms each undertake a relation-specific investment and then bargain over the joint surplus generated by the collaboration. The public firm's market concerns make it a more aggressive bargainer and increase its ability to obtain a higher share of the joint surplus. When the public firm's investment is sufficiently more important for the collaboration than the private firm's, both firms invest more and benefit from with the public firm's market concerns. On the contrary, when the private firm's investment is more important, both firms invest less, and suffer as a result of the market concerns. From the perspective of the whole business alliance, the public firm's market concerns could mitigate or exacerbate the hold-up problem between the two firms and thus could be either beneficial or detrimental. In an extension, we also discuss the potential scenario of integration as well as the case of two symmetric firms that are both publicly traded.

Keywords: hold-up, specific investment incentives, capital market valuation, supply chain

JEL Classification: M40, M21, M11, G30