Myopic Capital Market Concerns and Investment Incentives in Business Alliances

Abstract

We study a publicly traded firm that cares about its stock market performance, while collaborating with a privately owned firm in a business alliance. The firms each undertake a relation-specific investment and then bargain over the allocation of the joint surplus generated by the alliance. The public firm's market concerns affect both the total size of the surplus and how the surplus is divided by the firms. While the public firm always becomes more aggressive and obtains a higher portion of the surplus, the total size of the surplus may become larger or smaller due to the effect of market concerns on the firms' investment incentives. We establish conditions under which the investment and the value of each firm increase or decrease with market concerns. The market concerns could
mitigate or exacerbate the hold-up problem between the two firms and thus could be either beneficial or detrimental for the whole business alliance. We also study two extensions with (i) the two investments being substitutes instead of complements, and (ii) both firms being publicly listed. In both cases, the insights from our main model still hold true.

Keywords: Business alliance, capital market concerns, holdup problem, investment spillover, specific investment, supply chain

JEL Classification: M40, M21, M11, G30