An Empirical Examination of Investment Banking Merger Fee Contracts

Abstract

Investment banking firms have traditionally occupied an important position in U.S. capital markets. The financial services which they provide (underwriting, market making, advice on capital structure, dividend policy, mergers, acquisitions, and divestitures) no doubt enhance the liquidity and informational efficiency of the primary and secondary markets. While other financial institutions can provide some of these same services, investment banking firms appear to have a significant comparative advantage due to their specialization and expertise in corporate financial matters and their ability to gather and process capital market information quickly and at low cost.' Thus, one would expect the fundamental benefit of financial intermediation, i.e., the reduction in transactions costs, to extend to the market for corporate control. In spite of the benefits which investment bankers can bestow on merger markets, their involvement in the mergers market has come under increased criticism in recent years. This criticism has been aimed at the fees charged for providing merger services. The disenchantment expressed by corporate executives has grown in parallel with the size of investment banking merger fees at the leading Wall Street firms. In fact, it is reported that some major corporations are seeking to by-pass investment bankers as merger intermediaries altogether in favor of a do-it-yourself approach.2