According to Miles and Huberman (1994), conceptual framework focuses on explaining narratively or graphically the key factors, variables and concepts in a study, and the relationships presumed to exist amongst them. Therefore, in line with the existing literature, the following conceptual framework Figure 4.1 below was put forward to assist in formulating the research hypotheses and their testing to better explain the relationship between the variables that the study seeks to investigate.
Source: Author’s own construction developed from extant literature Figure 4.1: Conceptual Model
It can be observed from Figure 4.1 above that, working capital represents the independent variable while M&As and types of M&As are dependent variables. Figure 4.1 also shows other control variables like Returns on Assets (ROAs), Tobin’s Q, Total Assets (TAs), Financial leverage (FINLEV) that have influence on both M&As and its types.
Working Capital
A. M&As
B. TYPES OF MERGERS
Horizontal Mergers
Vertical Mergers
Conglomerate Mergers
Control Variables
ROAs
TOBIN`S Q
Financial Leverage
Total Assets
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It can be observed from the framework that, working capital drives M&As and Types of M&As. This, therefore, means that, firms’ working capital positions are likely to influence them to undertake investment activities such as M&As or pursue a particular type of M&As.
Liquidity and working capital management theory as discussed in the theoretical review section indicate that firms with excess working capital reserves or having higher cash holdings are potentially likely to execute investment activities even if these investments have a negative net present value.
In this framework, working capital refers to a company’s investments in both current assets and net working capital and is computed as the company’s current assets minus its current liabilities. when a business entity or firm’s working capital is more than what is generally considered prudent for its operations or activities. M&As refer to mergers and acquisitions, where a merger is defined as an activity in which a company combines with one or two other companies to form a completely new entity through the loss of their separate legal entities in a process known as “Consolidation” (Ashfaq et al., 2014).
Regarding acquisitions, it involves the transfer of control of the assets, operations and management of a company to another, making that company a unit of the purchaser (Wright
& Elenkov, 2002). The type of mergers considered in this framework are horizontal, vertical and conglomerate. Based on the above conceptual framework discussed, the following hypotheses were proposed to be tested in this study.
4.5.1 Justification and Hypotheses of the Variables
4.5.1.1 Relationship between Working Capital Position and M&As
Working capital denotes current assets and current liabilities which can be calculated by subtracting a firm’s current liabilities from its current assets. Liquidity in the form of working capital can help firms to execute acquisitions, because it can serve as a direct measure of payment or may be applied to settle interest on debt finance. This means that an increase in working capital should boost acquisition activities of firms. According to Shleifer and Vishny (1992), high cash reserves have motivated global merger transactions over the years, and that firms having large free cash holding regularly undertake acquisition transactions even if they would destroy the value of shareholders.
H4.1: Working capital positions of acquirers from the emerging markets are more likely to motivate them to undertake M&As.
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4.5.1.2 Relationship between Working Capital Position and Type of M&As
According to Gongming (1997), firms in search of higher economic benefits by means of internationalisation can do so through horizontal, vertical and conglomerate types of mergers.
A study conducted by Schleifer and Vishny (1991) states that, due to free cash flow, managers invest in conglomerate mergers leading to negative performance for the bidding shareholders in the long run. Also, firms become interested in pursuing different types of M&As deals by acquiring firms from related or unrelated sector or industries based on their goals and objectives, strength and availability of resources to finance these deals.
H4.2: Working capital positions of acquirers from the emerging markets are more likely to motivate them to undertake either a horizontal or vertical type of M&As.
4.5.1.3 Relationship of the Control Variables used and M&As
4.5.1.4 Relationship between Returns on Assets (ROA) and M&As
Returns on assets (ROAs) were added as a measure for firms’ performance in terms of their profitability levels. It refers to the ratio of operating income before depreciation to total book assets at the fiscal year-end immediately prior to the merger announcement date or ROA is calculated as a ratio of net income and total assets (Lee, Mauer & Xu, 2018). Firms experiencing higher returns on their assets are expected to be in a good position to raise enough more in security markets, since they provide prospects for good returns on the firm’s investments such as M&As (Boubakri & Cosset, 1998). The ratio of returns on assets provide a direct assessment of the ability of the management to use assets in a more efficient manner through investment in mergers and acquisitions transactions. The study expects ROAs positions of acquirers from the emerging markets to influence them to undertake M&As.
4.5.1.4 Relationship between the Firms’ growth opportunities (Tobin’s Q) and M&As
According to the theory of market for corporate control, companies that are underperforming are more likely to become targets and have their assets transferred to more capable hands, unless they are able to acquire assets to improve on the level of their profitability.
The inference from this suggestion is that, financially strong and healthy companies are more likely to be active acquirers while the underperforming ones would be potential targets.
Growth is considered a significant factor for a successful firm (Kouser et al., 2012). It is an
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important variable that assesses the growth capabilities or opportunities that acquirer firms have when they get involved in mergers and acquisitions. Firms have popularly adopted growth through M&As to achieve corporate growth and other corporate objectives (Thanos &
Papadakis, 2012). Dickerson et al. (1997) suggest that each type of growth has different effects on firms’ profitability, pointing out that “if a firm doubles its growth rate internally, the firm’s profitability increases by almost 6.9% compared to only a 0.2% increase if its growth is through acquisitions”. Growth by means of M&As allows the acquirer firm to derive immediate returns after acquisition investment, since the target is in operation already.
According to Gaughan (2005), one quick way a firm can achieve growth is through M&As.
However, pursuing growth is not always considered appropriate since certain firms may have reached the sizes that make them very efficient. Such M&A transactions may affect the efficiency levels of such acquirers which may adversely affect the operational performance of these firms.
The potential growth opportunities were measured using the Tobin’s q, which was calculated as total market value of firm divided by the total asset value of firm. The Tobin’s q is used as a proxy for firms’ performance similar to what is suggested in the literature by several scholars. For example, previous researches that have employed Tobin’s q to evaluate performance and value creation for firms in M&As include Bris, Brisley, and Cabolis (2008), Kammler and Alves (2010), Delcoure and Hunsader (2006) and Adams and Mehran (2008).
Firms with low Tobin’s q have low potential to grow and so do not performed well compared to their counterparts and potentially end up as targets. Another indication could be that, a firm will be operating below its expected value and so more attractive to be acquired. We expect the growth expectations of acquirers from the emerging markets to influence them to undertake M&As.
4.5.1.5 Relationship between Financial Leverage (FINLEV) and M&As
According to Iqbal et al. (2013), leverage, refers to the use of fixed cost of capital to increase firms’ profitability levels. It is calculated as total liabilities to total assets and this study uses as another control variable. Leverage is linked to M&As because these expensive strategies are sometimes externally financed because additional resources may be required beyond what is generated from normal business activities to support these M&A transactions (Harrison, Hart & Oler, 2014; Kumar, 1985). According to Harrison et al. (2014), there is a negative
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effect of leverage on acquirers’ post-acquisition performances, where this negative effect is usually clustered in firms which are already having large amounts of debt. They conclude that M&As have a substantial and persistent effect on the acquirers’ capital structure, causing a continuous increase in average debt-to-assets of acquirers in post-acquisition periods of up to five years. We expect the financial leverage positions of acquirers from the emerging markets to motivate them to undertake M&As.
4.5.1.6 Relationship between Firms’ Sizes (proxied by Total Assets) and M&As
For firms’ sizes, evidence from Klimek (2014) regarding financial effects of M&As on acquirers in Poland shows that, growth in firm size is negatively correlated with operating performance. However, Moeller et al. (2004) identify that, size of firms significantly affects profitability positively according to the findings of Dickerson, Gibson and Tsakalotos (1997).
This study expects sizes of acquirer firms from the emerging market to encourage them to undertake M&As.