Group No: 4907

NANYANG BUSINESS SCHOOL ACADEMIC YEAR 2010/2011

ANTECEDENTS OF WITHDRAWING FROM ANNOUNCED ACQUISITIONS

081629B51 088890G51 081643G51

A/P Kang Soon Lee, Eugene

Applied Research Project submitted to the Nanyang Business School, Nanyang Technological University in partial fulfillment for the degree of Bachelor of Business.

Antecedents of Withdrawing from Announced Acquisitions ACKNOWLEDGEMENT We would like to express our heartfelt gratitude to Assistant Professor Kang Soon Lee, Eugene, for his guidance and patience throughout the whole course of this project. This project will not have been possible if not for his valuable advice and insights on the topic.

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ABSTRACT This paper investigates the impact of board characteristics and CEO hubris on the withdrawal of acquisitions, an event less extensively investigated. Prior research indicates that board characteristics are associated with a firms financial performance, which is a direct consequence of the firms strategic decisions. Furthermore, executive hubris is found to influence corporate investment decisions such as acquisitions. Hence, we posit that board characteristics and executive hubris should have an effect on strategic decisions, specifically, acquisitions and their subsequent withdrawals. Using a conditional logistic model, we carried out the study on publicly traded U.S. firms. The results suggest a positive relationship between presence of a strategic committee and the likelihood of withdrawal from announced acquisitions. We also found a negative relationship between CEO hubris of acquirer and target firms with the likelihood of withdrawal. We conclude by discussing the implications of this study for practice and suggesting avenues for future research.

Keywords: withdrawal from acquisitions, strategic committees, CEO-directors, strategic persistence, hubris acquirer CEO, hubris target CEO

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CONTENTS

ABSTRACT ................................................................................................................................ 2 1. INTRODUCTION ............................................................................................................... 5 1.1. 1.2. 2. Research Motivation .................................................................................................... 5 Research Objectives ..................................................................................................... 5

LITERATURE REVIEW ................................................................................................... 7 2.1. 2.2. 2.3. Strategic Actions .......................................................................................................... 7 Board Characteristics ................................................................................................... 8 Hubris ......................................................................................................................... 10

3.

THEORETICAL DEVELOPMENT ................................................................................ 13 3.1. 3.2. 3.3. 3.4. Proportion of CEO-directors ..................................................................................... 13 Strategic committee ................................................................................................... 15 Hubris of Acquirer CEO............................................................................................ 17 Hubris of Target CEO................................................................................................ 21

4.

METHODOLOGY ............................................................................................................ 23 4.1. 4.2. Sample ........................................................................................................................ 23 Dependent Variable ................................................................................................... 23 Withdrawal ......................................................................................................... 23

4.2.1. 4.3.

Independent Variables ............................................................................................... 24 Presence of Strategic Committee ...................................................................... 24 Proportion of CEO-directors ............................................................................. 24 Hubris of CEO of Acquirer................................................................................ 24 Hubris of CEO of Target ................................................................................... 25

4.3.1. 4.3.2. 4.3.3. 4.3.4. 4.4. 4.5. 5. 6.

Control Variables ....................................................................................................... 25 Conditional Logistic Regression ............................................................................... 27

RESULTS .......................................................................................................................... 28 DISCUSSION AND CONCLUSION .............................................................................. 33 6.1. Discussion................................................................................................................... 33

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6.2. 6.3. 7.

Implications ................................................................................................................ 34 Limitations and Future Research .............................................................................. 35

REFERENCES .................................................................................................................. 37

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1. INTRODUCTION 1.1. Research Motivation

An acquisition represents a major strategic action that is undertaken by a firm and will necessitate a huge commitment on the part of the firm (Porter, 1987). It is mandatory under the federal law of the United States of America to file and to announce acquisition intent (SEC, 1934). Some scholars have examined the strategic persistence to an acquisition decision even though it may lead to unfavorable outcomes for the firm (Hayward et al., 2006). However, firms may also recognize a previously announced acquisition to be a poor decision. The executives of these firms may then choose to withdraw their acquisition intent before the transaction is completed. Most studies have concentrated on factors leading to a divestiture after the completion of the acquisition (Shimizu, 2007). However, we believe that studies focused on events leading up to the acquisition could yield more benefits. This is because even though firms can choose to divest a recently acquired unit due to poor performance, costs to acquire and integrate the unit would have been incurred. If a firm withdraws from an announced acquisition, it will be able to save on such additional costs that will be incurred should the deal proceed. 1.2. Research Objectives

This study investigates certain factors influencing a firms withdrawal from an announced acquisition. Specifically, this paper addresses two questions. Firstly, what is the influence

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of a firms board characteristics on the likelihood of withdrawal from an announced acquisition? Second, what is the influence of CEO hubris of both the acquirer and target companies on the likelihood of withdrawal from an announced acquisition? This research adds to the existing literature on strategic persistence, specifically, on the influence of board characteristics and CEO hubris in relation to acquisition withdrawal decisions. This will aid our understanding of why firms choose to renege on a significant strategic act previously communicated. The study makes use of firm-level data on publicly traded firms in the United States.

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2. LITERATURE REVIEW 2.1. Strategic Actions

Decisions on a firms merger and acquisition activities are highly critical to its strategic success. Such activities require the acquiring firm to make significant investments and the outcome may not necessarily be favorable (Porter, 1987). Hence, due diligence needs to be conducted by management before the firm continues in its endeavor of acquiring another firm (Pautler, 2003). Therefore, in typical decision-making processes, top management teams initiate and execute strategic actions whilst the board of directors ratifies the decisions made (Carpenter et al., 2001). Acquisition decisions impact various stakeholders. In particular, they are perceived to reduce shareholder wealth (Porter, 1987). Hence, acquiring firms generally post negative cumulative abnormal returns following acquisition announcements (Byrd et al., 1992; Pautler, 2003). Despite this apparent signal to management to convey shareholders disagreement over the proposed acquisition, many firms will choose to continue with their acquisitions on the belief that the acquired units will be able to increase their competitive edge. The loss context arising from acquisition announcements may exert pressure on the actors of a firm and influence their choice of subsequent strategic actions. Prior research has focused mainly on the performance of the post-acquisition entity and results showed that these entities have failure rates of about 50% (Saxton et al., 2004). The high failure rate demonstrates the difficulty of successfully integrating acquired entities into firms. Firms can choose to divest the acquired unit that is performing poorly or they
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can withdraw the acquisition bid if it is discovered that the target was no longer viable before the transaction has been completed. Should a proposed acquisition be unviable, the latter course of action will allow the acquiring firm to avoid the high sunk costs necessary to acquire and integrate the acquired entity into its corporate structure. Hence, studying the factors influencing the likelihood of withdrawal from announced acquisitions will greatly benefit firms in their merger and acquisitions decisions. To the best of our knowledge, the act of withdrawing from an announced acquisition has not been studied. Extant studies have only studied corrective actions after the acquisition has been finalized (Hayward et al., 2006). 2.2. Board Characteristics

Board characteristics comprise of the structure of the board and the characteristics of the individual directors of the board. Boards of directors were established to resolve agency issues. Agency theory asserts that agents entrusted to look after the interests of their principal, may use the authorities and powers granted to them for their personal benefit. Similarly, the separation of ownership and control in a firm results in conflicting interests between shareholders and management. As a result, the traditional role of the board is primarily of a monitoring nature. Their duties include managing the compensation of top management and auditing major financial transactions of the firm (Fama et al., 1983). Corporate governance is the set of mechanisms used to audit the decisions made by management due to the separation of ownership and control (Larcker et al., 2007). The purpose of establishing a code of corporate governance is to provide some assurance that
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decisions undertaken by a firms management are properly monitored and evaluated by the board (Holm et al., 2010). Research has established that corporate governance influences strategic decisions (Larcker et al., 2007), which encompass mergers and acquisitions. Certain theories have suggested how corporate governance might influence corporate strategy, such as the upper echelon theory (Cannella et al., 1997). Upper echelon theory suggests that there is a significant relationship between the strategic preferences of corporate board members and their demographic characteristics (Hambrick et al., 1984; McDonald et al., 2008; Wiersema et al., 1992). In relation to this study, researchers have suggested that CEOs are more likely to undertake acquisition activities (Avery et al., 1998). This phenomenon is due to CEOs belief that higher number of acquisition bids will improve their prestige and competence in the business community (Rao et al., 1999). Thus, it is useful to investigate whether CEOs, who are serving on the board of directors (or CEO-directors), will exhibit any influence on the firms strategic actions, in particular, acquisition activities. Corporate governance has come under intense scrutiny with the passing of the Sarbanes-Oxley Act. However, the Sarbanes-Oxley Act only focuses on the monitoring nature of the board of directors (Akhigbe et al., 2008). In recent years, other functions of the board have received greater attention, such as providing strategic advice and direction to top executives (Chalhoub, 2009; Pugliese et al., 2009). Corporate boards in a modern firm also bring business expertise and contacts that are potentially valuable to the firm. However, the combination of monitoring and strategic roles for corporate boards may result in a paradox of approaches to corporate governance (Sundaramurthy et al., 2003). It
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remains difficult to identify what is the optimum level of control and collaboration that is required by the board of directors. In order to make decision-making a more rigorous process, some companies have set up strategic committees specifically for the ratification of strategic decisions. Various studies have established the relationship between board composition and characteristics with a firms financial performance (see Dalton et al. (1998) for a meta analysis). However, there is a lack of research investigating the corporate governancerelated reasons which encourage or discourage withdrawals from an announced acquisition. In particular, it will be useful to study whether the proportion of CEO-directors on the board and the presence of strategic committees influence a firms withdrawal from acquisitions. 2.3. Hubris

Past research has established that the majority of consummated acquisitions result in an eventual loss of value (Berkovitch et al., 1993; Bradley et al., 1988). Despite such findings, mergers and acquisitions are still undertaken by acquiring firms. Research has established three main underlying reasons for the decline in value, namely, ineffective management of target firm, lack of synergistic gains and hubris (Berkovitch et al., 1993; Hayward et al., 1997). As the first two motives linked to strategic considerations are insufficient to explain the phenomenon, a third factor, hubris was proposed. Roll (1986) established the hubris hypothesis to explain the phenomenon whereby acquisitions are consummated despite
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bidders having knowledge that there are no actual gains because of the bidders hubris and overbearing presumptions that their valuations are accurate. In particular, CEO hubris plays an integral role in the acquisitions undertaken by an acquiring firm (Haspeslagh et al., 1991). Hambrick and Hayward (1997) found that CEO hubris is positively correlated to acquisition premiums which are used to measure what acquiring firms perceive to be the additional value that can be realized. Hence, this finding suggests that CEOs with higher hubris believe in their competence and abilities to extract greater value from the acquisition, hence this may potentially affect the likelihood of withdrawal from an acquisition. While current studies have looked into how hubris affects the likelihood of acquisition initiation and the premiums paid, there is a lack of research investigating its impact on withdrawals from an announced acquisition. Examining whether hubris plays a role in the likelihood of withdrawing an announced acquisition thus provides an interesting research endeavor. The construct of CEO hubris is also relevant because scholars have observed seemingly irrational behavior of pursuing inappropriate strategies or decisions, i.e., strategic persistence (Westphal et al., 2005a). Hubris results in overconfident individuals overestimating their abilities, resulting in a higher tendency to engage in perceptive biasing, escalation of commitment or other irrational behaviors, known collectively as strategic persistence. Strategic persistence has been explored via two streams of research, escalation of commitment (Lant et al., 1992) and perils of excellence (Miller, 1997). Escalation of commitment refers to the fact that individuals base their decisions either on their past actions or the need to justify an action done in the past (Staw, 1981). Actors of a firm who have invested a significant amount of time and effort into a particular acquisition will find
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themselves persisting in a particular course of action though evidence points to the loss of viability of the strategy for the firm. Conversely, perils of excellence refer to the sense of self efficacy developed by the manager based on his past successes (Miller, 1994). Executives who have successfully concluded numerous deals are likely to be boosted by their perceived success and lead the firm to persist in the current acquisition intent. Hence, it will be useful to study how hubris, related to strategic persistence, influences the likelihood of withdrawal of acquisitions.

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3. THEORETICAL DEVELOPMENT 3.1. Proportion of CEO-directors

CEO-directors are directors who concurrently serve on the board and hold CEO positions at other firms. There are a few schools of thought with regards to how the proportion of CEOdirectors on the board may affect the likelihood of withdrawing from an announced acquisition. Extant studies suggest that corporate leaders share similar characteristics (Hambrick et al., 1984; McDonald et al., 2008; Wiersema et al., 1992), such as similar informal access to information through personal networks. CEO-directors are likely to receive additional information and insights on an ongoing acquisition, more so than nonCEO-directors. The additional access to market intelligence renders CEO-directors more sensitive to market changes, and hence strategically, more astute. When the viability of an announced acquisition decreases during the execution phase, CEO-directors are more likely to spot the rot and hit the brakes. The argument that corporate boards demographically filled with more CEOs are more likely to withdraw from an announced acquisition is consistent with the upper echelon perspective. In addition, CEO-directors are often seen as accomplished business people expected to guide the firms strategic direction. Therefore, CEO-directors are expected to exercise strategic prudence in upholding their reputation as good monitors of the company and competent business people (Fama et al., 1983). With their business reputation on the line, CEO-directors are less likely to stay committed to an acquisition that is no longer viable (Simonson et al., 1992). This is consistent with the loss aversion attitude (Tversky et al.,
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1991) supported by the regret theory (Boyce et al., 1992; Loomes et al., 1982). The theory suggests that an individual, in anticipation of a negative outcome, will adopt a course of action that minimizes the potential downside. In the context of an announced acquisition, a withdrawal effectively sidesteps the potential pitfalls of an unviable announced acquisition. Hence, the upper echelon and regret theories suggest that the higher the proportion of CEOdirectors on the board, the higher the probability of withdrawal from an announced acquisition. The opposing school of thought argues that all human beings have limited attention (Gladstones et al., 1989) and CEO-directors are no different. As leaders of their own corporations, CEO-directors generally have limited time and attention available to the board they are serving on than non-CEO-directors, ceteris paribus. Since it will take a substantial amount of effort to challenge an agreed-upon strategic decision (Westphal et al., 2005b), CEO-directors are more likely to allow an ongoing acquisition to continue. Therefore, based on this argument, a higher proportion of CEO-directors should be associated with a lower likelihood of acquisition withdrawal. However, selection of board directors today is a rigorous process (Shivdasani et al., 1999). In addition to their experience and expertise, new board members are expected to demonstrate their commitment to the firm. Regardless of whether they are CEO-directors, most legal jurisdictions require directors to devote sufficient time and energy to their board duties. As fiduciaries of a firm, directors are expected to commit their resources in ensuring the firms optimal growth and development. Therefore, with stringent selection procedures and regulatory controls in place, CEO-directors are not expected to commit less time and
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attention than their non-CEO counterparts. Hence, we do not expect a higher proportion of CEO-directors to result in a lower likelihood of withdrawing from an acquisition. In other words, we expect the arguments of the upper echelon and regret theories to hold Hypothesis 1: Firms with a higher proportion of CEO-directors on the board are more likely to withdraw from an announced acquisition. 3.2. Strategic committee

A strategic committee is a board subcommittee that is formed by virtue of a firms code of corporate governance. The main responsibility of the committee is to ratify the strategic direction that a firm will take. Executive decision to undertake an acquisition usually lies with the CEO and top management during the strategic formulation stage of the decision making process. For proper control, an acquisition decision proposed by top executives should be ratified by the entire board at the ratification stage of the process. However, this two-stage process limits top executives from leveraging on the expertise of the board during the strategic formulation stage. If the entire board were involved in the strategic formulation stage with the top executives, then cognitive biases such as self-serving bias, may prevent the board from reneging on an earlier decision during the ratification stage. Thus, to better balance collaboration and control for acquisition decisions, a strategic committee should be established to allow a clearer segregation of duties. This reduces the boards cognitive biases, thereby increasing the likelihood of walking away from an unviable acquisition when needed.

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Another function of the strategic committee is to act as an independent thinking unit from the rest of the board so as to minimize the occurrences of groupthink. Groupthink refers to a mode of thinking that people who are deeply involved in a cohesive in-group engage in, when the members strive for unanimity overrides their motivation to appraise alternative courses of action (Whyte, 1989). The segregation of duties reduces the incentive of conforming to the initial decision by top executives since there are two separate groups responsible for the entire strategic action. As a result, groupthink is reduced and it is more likely for the firm to walk away from strategic actions unbeneficial to the firm. Board members have a personal and professional incentive to maintain their reputations as good monitors of the company and competent business people (Fama et al., 1983). Since the strategic committee may be held accountable personally for strategic decisions ratified and are likely to be evaluated on the basis of these decisions, they will be less willing to escalate their commitment to poor quality decisions (Simonson et al., 1992). This results in less strategic persistence. This is consistent with the regret theory, which states that an individual will choose a less negative course of action when they consider the anticipated regret of different alternative courses of action. The continuation of an acquisition that may no longer be viable may incur huge costs for the firm, thus they are more likely to adopt the less negative course of action, which is to withdraw from the announced acquisition. The loss aversion effect of prospect theory may also be applied to explain the likelihood of withdrawals. The loss aversion effect suggests that, the psychological impact of losses are twice that of gains and an individual will strongly prefer avoiding losses than
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acquiring gains of the same magnitude (Brenner et al., 2007; Tversky et al., 1991). Given that acquisition announcements generally result in negative abnormal returns, corporate boards make subsequent decisions in a loss context and are thus under pressure to abort these acquisitions. As directors in a strategic committee are more personally invested in the decision-making process, this may lead to cognitive biases distorting their objective judgment. Comparatively, directors who are not members of the strategic committee are less likely to escalate their commitment and undertake risks. Hence, they are more likely to halt the acquisition process to avert losses. Hypothesis 2: Firms with strategic board committees are more likely to withdraw from announced acquisitions. 3.3. Hubris of Acquirer CEO

Hubris is the exaggerated pride, self-confidence or arrogance of an individual (Hayward et al., 1997). Managerial behaviours reflecting hubris include undertaking overvalued acquisitions or growth initiatives for the sake of merely growing the firm size (Kroll et al., 2000). CEOs may be overconfident in their abilities to derive synergistic gains from acquisitions, though in practice, synergy is often difficult to attain (Davis, 1985; Hartley, 1994; Haugen et al., 1975). These overconfident CEOs may wish to exhibit mastery through successful acquisitions, resulting in an underweight of potential risks and difficulties, and an overweight of their capabilities (Rovenpor, 1993). Furthermore, takeovers occur as acquiring managers perceive themselves as superior (Hambrick et al., 1993). Despite their overconfidence, Hambrick and Hayward (1997) found no evidence that
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executives with high hubris were superior to those without, in terms of recovering the high premiums paid. Having the belief that their decisions are correct, overconfident managers unconsciously turn away from negative signals pertaining to potential consequences of their decisions (Hayward et al., 1997). Consistently, Duhaime and Schwenk (1985) argued that executives with an illusion of control undertake vertical integration and unrelated acquisitions deals. Hence, it can be posited that overconfident CEOs tend to overestimate their competencies, thus reducing the likelihood of walking away from an acquisition. CEO hubris may result in greater escalation of commitment towards a losing course of action, such as an acquisition deal. Since CEOs play a pivotal role in acquisition deals (Haspeslagh et al., 1991), they are likely to feel personally responsible for the negative consequences of their actions, which is a pre-condition necessary for perceptual biases to occur, resulting in escalation of commitment (Staw, 1976). Overconfident CEOs who initiated or self-endorsed acquisitions which subsequently lose value are likely to experience ego-defense mechanisms, in a bid to regulate their strong self-esteem (Banaji et al., 1994; Brown, 1997). Hence, it is likely that overconfident CEOs have a greater probability to engage in self-justification processes such as denial and rationalization, thus escalating their commitment in a value-destroying acquisition, thereby decreasing the likelihood of their ability to walk away from unprofitable acquisitions. Furthermore, once the acquiring firms initial bid has been accepted, the acquirer is allowed to conduct additional due diligence. However, CEOs may suffer from judgment biases such as anchoring on a set number (Tversky et al., 1974) and sunk cost fallacy due to their hubris. In an acquisition, it is postulated that the initial valuation may be treated as an
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anchor and overconfident executives are unlikely to adjust the initial price adequately even in the face of new unfavourable information (Garbuio et al., 2010). Due to the sunk cost fallacy, it is likely that CEOs consider sunk costs incurred, instead of only prospective costs, in corporate investment decisions, leading to inefficient resource usage (Garbuio et al., 2010). Overconfident CEOs are likely to be entrapped by such judgment biases due to their psychological predispositions, which cloud their objective judgments. This thus diminishes their ability to walk away from the acquisition. A strong need for power and sense of superiority may also underlie CEOs desire to acquire. The need for power is referred by Winter (1987) as an individuals desire to obtain prestige and impact through the attainment of formal socialized power and rash acts, such as taking extreme risks. It is likely that CEOs who enter into expensive acquisitions share this need for power, desire prestige, and domination over others. It has been established by Rovenpor (1993) that the greater a CEOs need for power, the greater the firms merger and acquisition activities. Acquisitions may be made due to managerial desire to control and supervise more employees or build their reputation as aggressive managers, astute in identifying potentially good deals (Goldberg, 1983). Hence, this need for power underlying the acquisitive behaviours of CEOs infected with hubris may result in their reluctance to withdraw from acquisitions. Furthermore, there is a high propensity for leaders and CEOs to be credited with success even though the success may be attributed to external factors (Meindl et al., 1985). CEOs with higher hubris are more likely to credit these favourable attributions to their personal capabilities. Such favourable self-attributions in turn, lead to growth of prestige
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within the firm (D'Aveni, 1990), hence increasing the likelihood of management and other board members concurring with the CEOs actions without an objective and independent assessment. Hence, self attribution theory suggests that heightened hubris levels of the CEO may possibly result in an overly-optimistic and less objective assessment of an acquisitions potential, hence decreasing the probability of withdrawal of these acquisitions. This is consistent with the model of institutionalization of power (Boeker, 1989; Salancik et al., 1977). The boards confidence in the CEO grows after he proves his leadership competencies, which may lead to reduced board vigilance, thus increasing the CEOs discretionary power further (Lorsch et al., 1989). This is consistent with findings that the CEOs power becomes institutionalized within the company such that no one questions his decisions and authority (Ocasio, 1994). With no one to challenge his decisions, overconfident CEOs are thus less likely to walk away from an acquisition. Lastly, CEOs have been found to be motivated by personal incentives to see acquisitions through. Research has found that CEOs desire to undertake empire building has led to mergers and acquisitions. Empire building relates to the CEOs wish to expand their span of control and grow their firm size. CEOs derive personal benefits from their control over larger firms, such as higher remuneration, higher power and prestige enjoyed as well (Bliss et al., 2001; Jensen et al., 1990; Shleifer, 2003). Consistently, CEOs holding greater power enjoy higher bonuses and are inclined to enter larger acquisitions as compared to CEOs holding less power (Grinstein et al., 2004). To further build on the above argument, upper management of firms plagued with poor performance may feel threatened with regards to their job security, leading to personal
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incentives to go into new businesses that they possess stronger expertise over (Shleifer et al., 1988). This is consistent with management pursuing growth as a strategic means to ensure the survival of the company independently in the long run (Donaldson, 1984). CEOs with greater hubris seek to be at the helm of companies they control for as long as possible, hence entering acquisitions to entrench their managerial positions, leading to lower likelihood of withdrawal of acquisitions despite negative shareholder value creation prospects. Hypothesis 3: Acquirer firms whose CEOs have higher hubris are less likely to withdraw from announced acquisitions. 3.4. Hubris of Target CEO

The previous hypothesis examines the hubris of acquiring firms CEOs, hence similarly, we expect the hubris levels of target firms CEOs to also influence the likelihood of withdrawal from announced acquisitions. We posit that target CEOs who have high hubris tend to believe that they will be valued and retained should their companies be taken over. It has been found that the CEOs of target firms, who remain employed subsequent to an acquisition, experience increases in their salary, bonus and total compensation (Agrawal et al., 1994). Hence, this financial incentive coupled with the CEOs confidence in being retained, serves as a motivation for them to put the acquisition through. Further, it has been studied that CEOs of target firms, whose firms are acquired, are more likely to resurface in top leadership positions comparable to their previous positions (Park, 2007). Since they face no risks of unemployment, these CEOs stand to lose little
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despite the acquisition of their firms. The ease of finding a job of similar stature to their previous one will likely reaffirm the CEOs sense of self-importance. This leads to lower resistance and hence, likelihood of withdrawal from announced acquisitions. Hypothesis 4a: Target firms whose CEOs have higher hubris are less likely to be withdrawn from an announced acquisition. However, it can also be argued that CEOs with high hubris are too proud to allow their firms to be acquired. Research has shown that target CEOs experience high turnover rates at the time of the acquisition. However, for those who remain employed, they tend to remain employed for several years thereafter (Hartzell et al., 2004). The position of CEO is a symbol of power to those CEOs with high hubris. Losing their stature as the CEO will thus dent their self esteem and pride. Hence, these CEOs will be less likely to continue with an announced acquisition and are more likely to resist any acquisition offers. As mentioned earlier, a strong need for power and sense of superiority underlie the acquisitive behavior of overconfident CEOs (Winter, 1987). Faced with the risk of losing his controlling stake in the firm following an acquisition, a CEO infected with hubris is thus more likely to resist and reject any such acquisitions. Hypothesis 4b: Target firms whose CEOs have higher hubris are more likely to withdraw from announced acquisitions.

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4. METHODOLOGY 4.1. Sample

The initial sample size consisted of 341 publicly-listed U.S. firms that withdrew from a significant announced acquisition from 1998 to 2007. These firms were then matched with a control firm that did not withdraw from an announced acquisition to form a paired observation. We selected the control firm based on the following criteria; their industry codes, year of announcement of acquisition, form of acquisition, acquirer size and ratio of target size over acquirer size. After accounting for confounding announcements, such as announcements of new product offerings and earnings reports, and removing firms with incomplete data, we were left with 172 usable observations. 4.2. Dependent Variable

4.2.1. Withdrawal The dependent variable represents a dummy variable of withdrawal which is coded as 1 if the acquiring firm withdraws from an announced acquisition and 0 otherwise. This information was retrieved from the SDC database.

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4.3.

Independent Variables

4.3.1. Presence of Strategic Committee This is a dummy variable coded as 1 if a firm has a board committee that makes decisions on strategic issues and 0 otherwise. The information is retrieved from a firms proxy statements. 4.3.2. Proportion of CEO-directors This is a ratio of the number of outside directors who are active CEOs to the total number of directors on the board. The information is retrieved from a firms proxy statements. 4.3.3. Hubris of CEO of Acquirer This is obtained as a ratio of the total compensation received by the CEO of the acquirer firm to the total compensation received by the next highest paid executive (Hayward et al., 1997). One way to measure hubris is to quantify the compensation of the CEO relative to the next highest paid executive in the company. It is believed that the amount of compensation received by an executive reflects the skill sets and unique competencies possessed by the executive (Hayward et al., 1997). Hence, the CEO may use this relative compensation as a yardstick of the value of his capabilities. A CEOs hubris can thus be gauged through the compensation of the CEO relative to the next highest paid executive (Brenner, 1986). The information is retrieved from a firms proxy statements.

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4.3.4. Hubris of CEO of Target This is similarly measured as a ratio of the total compensation received by the CEO of the target firm to the total compensation received by the next highest paid executive. The information is retrieved from a firms proxy statements. 4.4. Control Variables

Several control variables were included so as to exclude alternative explanations. Firstly, the cumulative abnormal returns (CAR) from a financial-event study analysis were included as a measure of investor reactions to an announced acquisition. The abnormal stock return is computed after determining the normal return from the market model. The normal return is defined as the expected return if the event of interest (i.e., announced acquisition) had not taken place. The computation of the normal return requires an estimation window that is typically prior to and does not overlap with the event window (McWilliams et al., 1997). The estimation window was set at 200 trading days starting from 10 days prior to the event window and the CRSP Value-Weighted Index was used as the market portfolio in the market model. We computed the CAR for Day -1 (i.e., one day before acquisition announcement) to Day 0 (i.e., on the day of the acquisition announcement). The abnormal stock returns for each day in the event window is summed up to arrive at the CAR over the event window. To ensure that the financial-event study analysis only captures investors' reactions to an announced acquisition, confounding announcements one day before, on, and one day after the event date were excluded from

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the analyses (McWilliams et al., 1997). All stock price and index data for the study were extracted from CRSP. Second, various common corporate governance variables were included in the model. For example, we included the variable, Independent Chair, which is a dummy variable with a value of 1 if the chair is an independent director of the firm and 0 otherwise. Next, we included proportion of independent directors, which is measured as a ratio of independent directors over board size. In addition, we measured proportion of equity held by independent directors, which is a ratio of the shares owned by the independent directors over the total number of shares of the firm. We also measured proportion of equity held by inside directors, which is a ratio of the shares owned by the inside directors over the total number of shares of the firm. Data for these governance variables is extracted from the proxy statements. Certain characteristics of the transaction were also controlled for. Hostile acquisition is a dummy variable that has a value of 1 if the bid was unsolicited and 0 otherwise. Competing bid is a dummy variable that has a value of 1 if there were competing bids for the same target and 0 otherwise. These dummy variables were collected from the SDC databases. In order to control for firm size, we included the natural logarithm of the total assets of the firms. Profitability of the acquiring firm is controlled by including return on equity. These financial data are extracted from COMPUSTAT. Lastly, we included the year of withdrawal announcement and industry dummies as control variables. The year of announcement was extracted from the SDC database and verified via the LexisNexis Database. Industry dummies were computed from SIC codes in COMPUSTAT.
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4.5.

Conditional Logistic Regression

Conditional logistic regression was used to test our hypotheses for two reasons (Agresti, 2002; Hosmer et al., 2000). First, the dependent variable, Withdrawal, is binary as a matched-pairs design was employed, where each pair contained one firm that withdrew from an acquisition post-announcement and the other firm did not. Second, the matchedpairs design employed a conditional distribution, where the distribution of the dependent variable is fixed and subject-specific instead of marginally distributed and populationaveraged (O'Connor et al., 2006). The conditional logistic regression does not have an intercept term since having the term would interfere with the estimates of the other parameters (Agresti, 2002).

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5. RESULTS Table 1 shows the correlation matrix and the descriptive statistics used in the study. The proportion of CEO-directors is negatively correlated with the dependent variables (r=-0.16, p<0.05). Several control variables also have significant correlations with other variables in the model. This suggests that multicollinearity may be present in the empirical model. Variance Inflation Factor (VIF) is used to further determine if multicollinearity is an issue (Chatterjee et al., 2006). The VIF for the reported regression model ranged between 1.32 and 9.78, with a mean of 2.93, which suggests that multicollinearity is not a concern. Table 2 shows the results of the analysis. The overall model is significant and the pseudo R 2 value of 0.37 is significant, which suggests a good fit with the model (2=63.85, p<0.05). One tailed p-values are used to test the independent variables while two tailed pvalues are used for the control variables. Hypothesis 1 states that a firm with a higher proportion of CEO-directors is more likely to withdraw from an announced acquisition. This hypothesis is not supported. The coefficient for proportion of CEO-directors is positive and not significant (b=0.22, p>0.1). Hypothesis 2 states that a firm with a strategic committee is more likely to withdraw from an announced acquisition. This hypothesis is marginally supported. The coefficient for strategic committee is positive and significant (b=1.59, p<0.1). Hypothesis 3 states that a CEO at the acquirer firm who has higher hubris is less likely to withdraw from an announced acquisition. This hypothesis is strongly supported.

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The coefficient for hubris of CEO from the acquirer is negative and significant (b=-0.39, p<0.01). Hypothesis 4a states that a CEO at the target firm who has higher hubris is less likely to withdraw from an announced acquisition. This hypothesis is supported. The coefficient for hubris of CEO from target is negative and significant (b=-0.26, p<0.05). Hence, hypothesis 4b which states that a CEO at the target firm who has higher hubris is more likely to withdraw from an announced acquisition is not supported.

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Table 1 Descriptive statistics and correlations among study variables Variable Withdrawal Proportion of CEO-Directors Strategic Committee Hubris of Acquirer CEO Hubris of Target CEO Abnormal Returns of Announced Acquisition Independent Chair of Acquirer Proportion of Independent Directors Proportion of Equity Ownership by Independent Directors Proportion of Equity Ownership by Inside Directors Hostile Acquisition Competing Bids Natural Logarithm of Firm Size Return on Equity of Acquirer *p < .05; **p < .01; ***p < .001 Mean 0.50 0.12 0.04 2.00 1.83 -0.02 0.13 0.70 0.03 0.01 0.06 0.19 7.18 -0.15 S.d. 0.50 0.13 0.19 1.57 2.01 0.08 0.34 0.16 0.07 0.06 0.24 0.39 2.03 2.44 1 -0.16* 0.05 -0.05 -0.06 -0.06 0.01 -0.12 0.17* 0.01 0.18** 0.30*** -0.20** -0.08 2 3 4 5 6

1 2 3 4 5 6 7 8 9 10 11 12 13 14

0.13 0.16* -0.01 -0.05 -0.02 0.27*** -0.11 -0.16* 0.06 0.09 0.31*** 0.08

-0.04 0.02 -0.08 0.15* 0.15* -0.02 -0.05 -0.05 0.03 0.14* 0.02

-0.09 -0.10 0.01 -0.17* -0.05 -0.13 0.10 0.05 0.09 -0.05

-0.10 -0.10 -0.03 -0.08 -0.02 -0.03 0.06 -0.04 -0.03

-0.04 -0.01 0.10 0.01 0.06 0.05 0.01 -0.20*

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8 9 10 11 12 13

Variable Proportion of Independent Directors Proportion of Equity Ownership by Independent Directors Proportion of Equity Ownership by Inside Directors Hostile Acquisition Competing Bids Natural Logarithm of Firm Size

7 8 0.28*** 0.15* -0.09 -0.03 -0.03 0.03 0.03 0.13* 0.31*** -0.10 0.14* 0.27*** 0.14

10

11

12

13

0.03 -0.03 0.03 0.15* 0.02 -0.03 -0.02 -0.32*** -0.06

0.18** 0.06 -0.00 0.03 0.04 0.25***

14 Return on Equity of Acquirer *p < .05; **p < .01; ***p < .001

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Antecedents of Withdrawing from Announced Acquisitions Table 2 Conditional Logistic Regression Results Model 1 Robust Standard Coefficient Error 4.40 0.81 1.90 8.44

Variable

Abnormal Returns of Announced Acquisition -0.51 Independent Chair -0.09 Proportion of Independent Directors -5.80 Proportion of Equity Ownership by Independent Directors 16.19 Proportion of Equity Ownership by Inside Directors -12.35 Hostile Acquisition 3.77 Competing Bids 4.00 Natural Logarithm of Firm Size -0.42 Return on Equity -1.41 Year of Acquisition Announcement dummies Included Industry Dummies Included Proportion of CEO-Directors 0.22 Strategic Committee 1.59 Hubris of Acquirer CEO -0.39 Hubris of Target CEO -0.26 Number of observations 172 Wald (df) 63.85 (45) * Pseudo R 0.37 p < .10; *p < .05; **p < .01; ***p < .001 z-tests are one-tailed for the independent variables and two-tailed otherwise.

**

4.64 ** 1.50 * 0.89 *** 0.18 * 0.99

2.35 1.05 0.15 ** 0.13 *

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6. DISCUSSION AND CONCLUSION 6.1. Discussion

For hypothesis 1, the results showed that there is a non-significant relation between the proportion of CEO-directors and probability of withdrawal. The result is unexpected based on theoretical corollaries drawn from the upper echelon and regret theories. One possible explanation is that CEO-directors in general do not play as significant a role in the completion of an announced acquisition as compared to other directors with designated positions. Since a previously announced acquisition was a decision made by the entire board, only directors with specific designations, such as CEO and strategic committee members, hold sufficient power and authority to subsequently change the acquisition decision. Hypothesis 2 is supported as, the results showed a significant positive association between the presence of a strategic committee and the likelihood of withdrawal from an announced acquisition. This is largely consistent with the hypothesis developed earlier. The segregation of duties reduces the influence of cognitive biases on the decision ratification process of the board and thus increases the likelihood of the firm reneging on its previous decision. Moreover, outside directors not members of the strategic committee are less involved in the strategic decision making process and less committed to the strategy, thus increasing the ease of withdrawal. Firms may consider segregating the responsibilities in the board of directors to better structure the decision making and decision control responsibilities of the board. The segregation of duties may help firms reduce potential costs due to poor acquisitions or strategic persistence tendencies of corporate boards.
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For hypothesis 3, the hubris of acquirer CEOs showed a negative association with the likelihood of withdrawing from an announced acquisition. Consistent with the hypothesis developed earlier, the results support that CEO hubris may lead to overconfidence in personal abilities to derive synergistic gains, as well as, escalation of commitment and perceptive biases against withdrawals of announced acquisitions. Judgment biases such as anchoring and sunk costs fallacy may also kick in. In addition, CEOs with high hubris are likely to possess a strong need for power and domination, leading to acquisitive behavioral tendencies. Lastly, personal incentives, such as empire building and self-entrenchment may also prevent the withdrawal from an announced acquisition. Lastly, hypothesis 4a is supported (i.e. Hypothesis 4b is not supported). The hubris of target CEOs has a significant negative association with the likelihood of withdrawing from an announced acquisition. As earlier explained, it is hypothesized that the hubris of target CEOs results in them being overconfident, thereby leading them to believe that they will be retained even after their firms have been taken over. Hence, they are less likely to oppose an acquisition by another firm. 6.2. Implications

The results of our study have several implications relating to the influence of the board and CEOs on the outcome of announced acquisitions. Firstly, CEO-directors are found to be insignificant in influencing the completion of an announced acquisition, while strategic committees seem to play a more significant role
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in reviewing ongoing strategic activities. This implies that the specific designation of a director on the board tends to have an overriding effect on the external background of the director. Firms should thus establish strategic committees in their corporate boards in order in improve the firms strategic decision-making process, and thus the performance of the firm. Furthermore, high-hubris CEOs may be less prudent in making acquisition decisions, as they have been found empirically to be less likely to withdraw from announced acquisitions than their lower-hubris counterparts. High-hubris CEOs are also less resistant to takeover bids. Depending on the nature and objectives of the company, such propensity could make or break the business. This implies that shareholders and nominating committees should consider the hubris level of individuals when selecting their ideal corporate leaders. 6.3. Limitations and Future Research

One limitation of this paper is that it focuses solely on firms in the United States. Hence, some of the recommendations in this paper may not be fully applicable universally. More research can be carried out on firms from other countries and regions to determine if these results remain substantively similar. Second, more research may be carried out to investigate whether there are other factors that will contribute to the withdrawal of an announced acquisition. Third, the hubris variable was measured using the relative compensation of the CEOs to the next highest paid executive. However, other hubris proxies such as media praise can be examined as well. Fourth, future research can also
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investigate whether other characteristics of both the target and acquirer firms boards have a discernible effect on the results of this study. Finally, future research can examine the sources of CEO hubris. CEO hubris has not been widely researched upon. It has been suggested that CEO overconfidence can be traced to self-attribution bias. CEOs attribute success of past acquisitions to their own capabilities, developing their overconfidence to derive gains, hence leading to more acquisitions, even value-destructive ones (Billett et al., 2008). Furthermore, CEOs have been found to increase their equity holdings in the firm preceding acquisitions that eventually had negative wealth effects, which displays their overconfidence in future firm prospects due to self-attribution (Billett et al., 2008). While the current paper looks into the relation of CEO hubris of acquiring firms with the likelihood of withdrawal, a potential area of research would be to investigate the sources of CEO hubris, in particular, the number of past successful acquisitions consummated. Such specific findings will provide deeper insight into the sources leading to CEO hubris, hence allowing firms to take actions to identify and mitigate potential issues in advance.

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