A hostage theory of joint ventures: why do Japanese investors choose partial over full acquisitions to enter the United States?

Abstract

Focusing on a subset of international joint ventures formed through partial acquisitions of existing firms (vs. those started through split ownership of new entities), this study proposes a hostage theory to explain why foreign investors take over partial equity of an existing local firm and thereby enter a joint-venture relationship with its current owner. The starting point is that investors making acquisitions abroad must incur a cost to inspect the targets and enforce the contracts. Partial acquisitions can create a hostage effect that facilitates ex ante screening of targets and ex post enforcement of contracts. Accordingly, foreign investors will be more likely to take a partial stake in existing local firms when acquisitions are costlier to negotiate and contract, and will be more inclined to make full acquisitions when they are better equipped to execute them. Empirical findings obtained from a sample of Japanese acquisitions in the United States support the theory.