Bilateral Investment Treaties and Cross-Border M&As: Understanding through Legal Origins

Abstract

Do bilateral investment treaties (BITs) play a role as intended in providing a secure environment for foreign investors and thereby promoting cross-border mergers and acquisitions (M&As)? To answer this question, we develop a two-country model with heterogeneous firms, incomplete contracts, and a court system. The model predicts that BIT fosters cross-border M&As by resolving contractual problems inherent in investment across borders. Such effects are most pronounced when a target firm belongs to a civil law system, where property rights are less secure and contracts are weakly enforced. By leveraging comprehensive M&A transaction deals between 1990 and 2019, combined with a generalized difference-in-difference strategy, we find supporting evidence of the model predictions. The results are robust to difference-in-differences estimators with multiple time periods and an instrumental variable strategy.

Keywords: Bilateral investment treaties, Civil law, Common law, Foreign direct investment, Incomplete contract, Legal origins, Mergers and acquisitions

JEL Classification: D86, F13, F23, G34, K15