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COLLABORATION DECISIONS IN PRIVATE EQUITY INVESTMENTS

Anantha Krishna Divakaruni

Introduction

Unlike venture capital (VC) firms that invest in risky, early-stage companies, private equity (PE) firms tend to invest in mature companies that have stable and recurring cash flows which can be used to repay the debt taken on the leveraged buyout (LBO) over time (Kaplan & Strömberg, 2009). The literature states that problems of asymmetric information and adverse selection are key issues that banks consider when evaluating prospective borrowers and determining the terms of lending (Petersen & Rajan, 1994; Boot & Thakor, 2000). Previous studies on buyouts have shown that PE firms and targets address these challenges by developing strong relationships with banks, which help them obtain LBO loans on cheaper terms (Ivashina & Kovner, 2011; Shivdasani & Wang, 2011; Fang et al., 2013). However, these findings do not recognize that bank-borrower relationships are characterized by power differentials in which borrowers could have more or less bargaining power over their relationship banks depending on their access to alternative sources of financing. Since LBOs are financed largely with debt, the power differentials between PE firms and their relationship banks, and between targets and their relationship banks, could have important implications on their decision to collaborate in the LBO and on their ability to negotiate financing terms of the transaction.

In addition, the LBO market consists of strong syndication networks among banks that facilitate the flow of information and capital. These syndication networks could be vital for resolving adverse selection and moral hazard problems with prospective borrowers and syndicate members. However, the implications of these bank syndication networks on the LBO deal structuring process are not well understood. The goal of this chapter is to contribute to our understanding of these aspects of the PE industry.

PE firms leading a buyout deal typically attempt to finance anywhere between 60% to 90% of the purchase price using external debt (Officer et al., 2010). For this purpose, the PE firm appoints one or more lead banks depending on the deal size and other considerations to arrange the debt financing. Typically, lead banks arrange these loans through syndication by inviting other banks within their network to participate, and can be seen as intermediaries between the demand side represented by LBO borrowers (i.e., PE firms and their targets), and the supply side represented by the participating banks. Since lead banks essentially 279control the flow of information and capital between the parties involved, they play a very important role in the LBO investment process.

Collaboration decisions in PE investments

Although the PE industry has grown in size and complexity, research on collaboration decisions in LBO transactions and their implications on deal financing is still very limited. Collaboration has been studied more extensively in other forms of financing including relationship lending, loan syndication, and VC syndication (Berger & Udell, 1998; Lockett & Wright, 1999; Sorenson & Stuart, 2001; Wright & Lockett, 2003; Elsas, 2005; Sørensen, 2007). The complexities associated with LBO deal structuring can be understood more accurately by examining each distinct form of collaboration between limited partners, targets, PE firms, and banks individually.

PE firms and limited partners

Since PE firms use the capital raised from their institutional investors (such as pension funds, endowments, and family offices) to invest in buyout opportunities, partnerships formed between PE firms and their investors are an important form of collaboration. PE firms typically raise capital through funds that are structured as limited partnerships and have a fixed term (usually 10−12 years). While there is a growing literature on the performance of PE funds and how it helps the PE firms raise follow-on capital (Kaplan & Schoar, 2005; Balboa & Marti, 2007; Metrick & Yasuda, 2010), there are no specific studies on the collaboration process between PE firms and investors or the basis on which investors commit capital to PE firms over successive funds. This limitation stems mainly from the lack of publicly available data on individual funds and their investors.

Table 15.1 provides an overview of studies that explore PE fundraising and performance.

PE firms and targets

Collaboration decisions between PE firms and targets are also particularly interesting because buyouts are essentially complex investments in targets that are informationally opaque. This is contrary to firms that are relatively transparent and obtain funding from the public equity and debt markets under contracts that are highly standardized and generic (Berger & Udell, 1998). Literature notes that PE firms address the information asymmetries associated with potential targets through screening and due diligence, which involves collecting information from the target and evaluating its business lines, market segments, assets that can be used as collateral for new loans, historical cash flows, and debt burden, and the quality of incumbent owners and management (Kaplan & Strömberg, 2009; Acharya et al., 2013; Gompers et al., 2016). PE firms use these details to value the target and establish contractual terms for the acquisition based on the financial characteristics and information problems associated with the target, as well as prospects for value improvement post-buyout. These terms are either negotiated directly with current owners/management or submitted in the form of a bid if the target is to be acquired through an auction (Boone & Mulherin, 2011). Targets with high free cash flows and assets that are mostly tangible are considered low-risk and can be acquired by the PE firm using large amounts of external debt. On the other hand, targets with high capital expenditures or intangible assets are less likely to attract debt financing, implying that the PE firm can either finance the entire deal using its own capital and face the prospect of lower returns or abandon the transaction altogether (Opler & Titman, 1993; Axelson et al., 2009; Axelson et al., 2013). PE firms also collaborate with their targets post-buyout in order to monitor new management and implement the intended operational changes to improve firm value. In order to exert such control, PE firms usually take substantial positions on the boards of their targets and actively participate in their decision-making processes (Guo et al., 2011; Acharya et al., 2013).

280Table 15.1      Collaboration between PE firms and limited partners

281Table 15.2 shows some studies that investigate the major aspects of collaboration between PE firms and targets.

Table 15.2      Collaboration between PE firms and targets

282

283

284

PE firms and other PE firms

Collaboration also features prominently in PE syndicates where two or more PE firms co-invest in a given target to share risks and receive a joint payoff. Syndication is a popular form of collaboration where lead investors look for certain characteristics in the selection of non-lead partners. Syndication is very common in early-stage VC (Sorenson & Stuart, 2001; Manigart et al., 2006; Hochberg et al., 2007) and the phenomenon has become popular in later-stage buyouts through so-called club deals. Recent studies have identified a number of motives for why PE firms syndicate their deals. While the diversification of large or risky deals is certainly an important consideration, syndicates are also established when PE firms face capital constraints or need access to complementary skills and information (Bailey, 2007; Meuleman et al., 2010; Metrick & Yasuda, 2011). Syndication may also be a strategy to signal deal quality and raise loans on favorable terms, since it is much easier to obtain debt financing if several PE firms participate and attach their reputation to the deal (Officer et al., 2010). So far, studies have shown that PE syndicates are faced with at least two different types of agency problems. First, the collaboration of multiple investors and challenges of joint decision-making raise the issue of horizontal agency problems within the syndicate. Second, problems associated with information asymmetry and ex post 285monitoring of investments can lead to vertical agency problems with the target. Since trust among syndicate partners is key to resolving these issues, lead PE firms prefer investors with whom they have past interactions and who have a good track record. In addition, PE firms with proven experience in the target industry and having similar status and reputation as the lead PE firm are likely to be invited to join the syndicate (Meuleman et al., 2010; Huyghebaert & Priem, 2015).

Table 15.3 provides an overview of studies that focus on syndication among PE firms.

Table 15.3      Collaboration between PE firms and other PE firms (syndication)

286

287PE firms and banks

Research on collaboration in buyouts has mostly emphasized PE firms, the problems of adverse selection and moral hazard that PE firms confront when evaluating prospective targets, and the nature of contracts between PE firms and the targets they invest in. However, a common source of value creation in buyouts is the use of substantial debt in their financing structure. While it is known that the debt used in these leveraged buyouts boosts returns for PE investors through the tax deductibility of interest (Axelson et al., 2009; Guo et al., 2011), the mechanisms through which PE firms collaborate with banks to raise these LBOs were largely ignored until recently. A study of US LBOs by Demiroglu and James (2010) shows that PE firms with stronger reputation are able to borrow on more favorable terms (lower interest rate spreads, longer maturities, less covenant restrictions, etc.), and are better at timing their deal activity with conditions in the market. Similarly, Ivashina and Kovner (2011) argue that repeated interactions between PE firms and banks lower information asymmetries and create an environment of trust and reciprocity between them. Their evidence suggests that PE firms with strong bank relationships are able to acquire targets using debt that is both cheaper and contains less-restrictive covenants. A study by Fang et al. (2013) found that banks having strong past relationships with targets issue larger and cheaper loans to finance their acquisition via LBOs. These findings are consistent with the relationship lending literature which states that banks demand higher rates and collateral early in the relationship and ease the terms in later transactions depending on the quality of the borrower over the course of the relationship (Petersen & Rajan, 1994; Degryse & Van Cayseele, 2000; Elsas, 2005). The general conclusion in these studies is that strong relationships enhance collaboration between banks and borrowers by mitigating adverse selection and moral hazard problems and increasing the availability of loans.

Details of studies on collaboration decisions between PE firms, banks, and targets are available in Table 15.4.

Table 15.4      Collaboration between banks, PE firms, and targets

288

289

290International aspects of collaboration

PE has become a global phenomenon since the early 2000s as it has become a popular form of investment across Europe, Asia, and Australia, with Western Europe (including the UK) accounting for 48% of all transactions worldwide between 2000 and 2012. This suggests that PE is no longer a US-centric phenomenon since there has been more buyout activity outside the US in recent years.

An emerging strand of literature notes that the ongoing internationalization of PE has been driven in part by macro-economic factors and also due to gradual institutional reforms in various countries. Among the various institutional factors that could potentially affect a country’s buyout market, legal institutions that define the quality of local corporate governance, ownership rights, and contractual enforcement have been identified as being of primary concern for investors (Globerman & Shapiro, 2003; Hernández & Nieto, 2015). For instance, Lerner and Schoar (2005) note that PE firms in countries with effective legal systems are less risk averse and invest using flexible contracts that shift control rights according to the performance of the target. On the other hand, PE firms in countries with weaker legal systems were found to demand greater control rights and majority ownership to compensate for the lack of effective legal enforcement. In a more elaborate study, Aizenman and Kendall (2008) find that cultural factors such as common language or past colonial ties foster greater institutional similarity and trust between countries, thereby encouraging greater cross-border flows of buyout capital between such countries. In addition, investments by foreign PE firms are greater into countries with better business and socio-economic environments. Other studies, such as Meuleman and Wright (2011), have sought to understand the strategies adopted by PE firms when entering foreign buyout markets. They find that PE firms initially rely on local PE firms to navigate the challenges associated with a foreign institutional environment, but gradually reduce their dependence on such local partnerships as they gain more operational experience in those environments.

Table 15.5 contains an overview of articles that explore PE investments at the international level.

Despite these important findings, academic research on PE investments outside the US has been limited mainly due to the scarcity of public data on such transactions. Consequently, the factors that facilitate such internationalization and influence the investment decisions of PE firms and banks in foreign buyout targets remain poorly understood.

Impact of collaboration on performance

While there is extensive literature on the performance of PE firms (both at the fund and firm levels), research attributing the performance of PE firms, banks, and targets to the collaboration decisions taken during deal structuring is generally lacking.

One of the earliest studies to investigate these effects is Groh and Gottschalg (2011), who compare the deal-specific risks borne by PE firms and banks and how these affect their performance. They find that PE firms are able to earn higher returns if they manage to transfer substantial parts of their risk to the banks that finance their deals or if they are able to reduce operational risks through superior monitoring. In addition, Groh and Gottschalg (2011) find that the systematic risk in LBOs changes over the holding period from high to low depending on how the debt is repaid gradually over time.

In another study of US LBOs, Guo et al. (2011) look at the effectiveness with which PE firms have been able to raise debt from banks over time. They observe that PE firms raised less leverage during the late 1990s and 2000s in comparison to deals completed during the 1980s. Guo et al. (2011) attribute these trends to the growing difficulty in raising leverage as the industry has matured since the late 1990s with new entrants and more competition among incumbent PE firms. They further note that PE firms are able to improve the performance and valuation of targets through operational improvements and/or acquisitions. In addition, they find evidence that the use of leverage provides generous tax shields which can be used to boost profitability and increase the cash flows available to PE firms and banks.

291Table 15.5      Collaboration in international buyouts (covers both non-US and cross-border deals)

292

293

294

Table 15.6 provides additional details on studies related to this topic.

Emerging issues in collaboration and new evidence

Our review of the extant literature indicates that collaboration has received considerable attention both in domestic as well as cross-border LBO settings. Much of the theoretical and empirical evidence in this literature has emphasized that collaboration and investment decisions in the PE industry are driven by existing relationships among actors and their experience and reputation in the market. Relationships based on past interactions reduce information asymmetries and uncertainty between partners, resulting in a higher chance for collaboration between (i) PE firms and investors during fundraising, (ii) PE firms and targets during deal selection, (iii) PE firms during deal syndication, and (iv) PE firms and banks when arranging debt financing for the LBOs. While previous research offers interesting insights on the challenges, mechanisms, and outcomes of collaboration in LBO investments, there are major limitations in our understanding of the underlying mechanisms. We identify three areas in particular where emerging research contributes to our understanding of collaboration decisions in LBO financing.

295Table 15.6      Implications of collaboration on ex post performance

296

The role of power differentials among prospective buyout participants

Understanding collaboration decisions on the basis of past relationships is lacking because traditional agency theory does not consider the influence of relative power of participants over each other. A power differential exists in the relationship if either of the actors depends more on the other or vice versa. Alternatively, the actors are in a state of balanced power if they are equally dependent on each other, and have no power over each other if they did not interact previously (Finkelstein, 1992; Hill & Jones, 1992; Chandler, 2015). Power differentials feature prominently in bank-borrower relationships and are important in the LBO context as both PE firms and targets often develop strong banking relationships. Since LBOs are financed mostly with debt, the extant power differentials between PE firms and their relationship banks, and between targets and their relationship banks, could have important implications on the LBO deal structuring process and its financing terms.

297In general, bank-borrower relationships are characterized by power differentials due to several factors. While consistent borrowing from a single bank may strengthen the relationship, it also allows the bank to accumulate information on the borrower over the course of the relationship. Thus, the bank arguably has some power over the borrower given its exclusive access to information gained from the relationship that is unavailable to competing banks. The bank can use this information monopoly or hold-up to exploit the borrower and extract higher rents from the relationship (Petersen & Rajan, 1994; Berger & Udell, 1995). Moreover, inefficiencies and limited competition in the market imply that banks also derive power from considerable switching costs that make it expensive for a borrower to leave the relationship (Hill & Jones, 1992; Houston & James, 2001). Studies show that borrowers try to prevent such appropriation and maintain their bargaining power by engaging in multiple banking relationships (Diamond, 1991; Petersen & Rajan, 1995; Berger et al., 2008). Dependence on a single banking relationship is also risky as refusal of credit may send negative signals about the borrower to other banks in the market (Gopalan et al., 2011). To avoid such problems and ensure loan availability for future needs, firms typically maintain multiple banking relationships. In fact, firms with sufficient bargaining power may demand concessions on their loans or choose not to borrow from a given bank if they do not perceive such benefits in the relationship. Thus, power advantage on either side of a lending relationship can lead to appropriation of the less dependent actor.

While power differentials are easier to analyze under dyadic agency settings, they are far more complex in multiple agency settings such as LBOs that are essentially collaborative contracts between PE firms, banks, and targets. Multiple agency theory captures conflicts of interest between multiple principal-agent (PA) and principal-principal (PP) groups and resolves discrepancies over which principal’s interests receive priority (Arthurs et al., 2008). The LBO deal structuring process represents a multiple agency setting comprising vertical PA ties between the target and investors (i.e., the PE firm and bank) and horizontal PP ties between the PE firm and bank. The presence of these multiple PA/PP dyads points towards a more complex power structure where each potential participant in the LBO may have varying levels of power advantage (or disadvantage) over other potential participants. This raises an important question whether these power differentials play a role in the deal structuring process, and whether participants use their power to appropriate each other when negotiating deal terms.

Analysis by Divakaruni et al. (2017) using US data shows that LBO financing costs are affected by whether banks hold a power advantage over PE firms and targets prior to a given transaction. They find that banks charge higher rates on LBO loans depending on the extent to which the PE firm and target involved in the transaction are dependent on that bank for their financing needs. In fact, banks seem to exploit their power even further by charging marginally higher rates when they hold a simultaneous power advantage over both participants. In addition, a bank’s ability to exploit power depends on the degree to which the PE firm and target are locked into a borrowing relationship with that bank. LBO loan rates are marginally higher when the PE firms and targets are firmly entrenched to the bank, and marginally cheaper when it is difficult for banks to appropriate dependent borrowers that are less entrenched to the borrowing relationship. However, banks are forced to provide rate discounts in exchange for being able to finance an LBO when they do not have such power advantage over incumbent PE firms and targets. These discounts increase marginally depending on how committed the bank is to the PE firm and target based on past borrowing relationships between them.

298Examining power differentials among prospective LBO participants and how they can be used by participants to negotiate the financing costs of the transaction highlight the importance of power not just in dyadic agency settings, but more importantly, in settings characterized by multiple agency among several stakeholders. Divakaruni et al.’s (2017) results show how multiple sources of power in these settings trade off against each other such that an actor’s power over participants in one or more dyads may turn out to be inconsequential given its lack of power in other dyads within the setting.

The role of bank syndication networks

Agency theory which argues that prior relationships produce trust and limit adverse selection problems which might constrain opportunistic behavior among actors in subsequent partnerships, has been used to explain collaboration and partner selection decisions in buyouts. For instance, it is easier for PE firms to raise loans from banks with whom they have successfully collaborated in the past. Similarly, to restrict moral hazard problems within the syndicate, lead PE firms might seek investment partners with whom they have collaborated previously. However, relationships do not completely explain the mechanisms of collaboration in LBOs since such deals are formed even when these characteristics are weak or non-existent. This suggests that there could be other mechanisms of collaboration influencing the LBO deal structuring process that is not captured by relationships.

Most LBOs are financed with syndicated loans granted by a pool of lenders (Shivdasani & Wang, 2011). The syndication of LBO loans has become extremely popular given the benefits it provides to both lenders (risk diversification and access to deal flow) and borrowers (lower borrowing costs compared to loans from single lenders or public debt markets). Recent academic research attributes the formation of these syndicates to the experience and reputation of lead banks in the LBO market. Indeed, when a bank with a strong reputation decides to arrange financing for an LBO, then the bank’s reputation serves as a strong signal to potential syndicate participants about the quality of the deal (Fang et al., 2013). Moreover, since lead banks are responsible for due diligence, loan allocation to syndicate members, and ex post monitoring of the target, participants will rely on the lead bank’s reputation to decide whether to join the syndicate (Ross, 2010; Godlewski et al., 2012). Thus, banks with sufficient reputation and experience can reduce agency costs through better screening and monitoring of targets and by showcasing the merits of the deal to potential syndicate participants, which should result in better loan terms.

A bank’s reputation in the LBO market could be influenced by its network of relationships within the market due to several reasons. First, the bank’s reputation is closely related to the trust and reciprocity it develops with other banks in the market through repeated interactions. As the bank’s network of relationships grows stronger and wider, so too does the likelihood that the bank will be able to invite others, or be invited, to join future syndicates. This is because banks place more trust on the monitoring and screening capabilities of fellow banks within their network (Sufi, 2007; Gadanecz et al., 2012). Second, banks with a large network of syndicate partners and those associated with more central partners might have better access to information about new investment opportunities that flows through the network (Godlewski et al., 2012). Third, banks that are more connected have high a reputation since they occupy prominent network positions in the LBO market. Such well-connected banks could be invited more often to join LBO loan syndicates since they provide legitimacy to the target, PE firm, and other banks associated with the deal. This 299certification effect might therefore be useful to signal the quality of LBO targets that are often informationally opaque and lack sufficient banking relationships.

These arguments suggest that bank syndication networks in the LBO market might be an important channel for reducing agency costs during deal formation. The position of a bank within these networks (centrality) signals not only its reputation and experience to potential syndicate members, but also its competence in screening potential targets (and PE firms) and in monitoring while the loan is outstanding. Since banks monitor each other’s performance, the network position of a bank also signals its ability to form syndicates and lower agency conflicts among participants. This could have a direct influence on the efficiency of the syndication process and ultimately affect the costs and other financing terms of the LBO.

However, the role of bank syndication networks in LBO financing has received little academic interest even though these networks could play a crucial role in the entire loan syndication process. Differences in the network centralities of banks could have important implications for LBO financing for at least two potentially endogenous reasons. First, PE firms and targets may choose their lead bank based on the latter’s network position. Second, the choice of lead bank and its network position could have a direct influence on the terms under which the LBO debt is issued.

Recent work by Alperovych et al. (2017) analyzing the impact of banks’ network position on the choice of lead bank and on LBO loan terms suggests that banks that are well-connected within the syndicated LBO market are more likely to be selected as lead arrangers of LBOs. More central banks are preferred because this ultimately benefits PE firms and targets by granting them access to cheaper LBO debt with less collateral requirements. These findings suggest that bank syndication networks affect the asymmetric information among prospective LBO participants in at least three distinct ways. First, banks can use their syndication networks to access information on PE firms and targets and determine the quality and risks associated with a potential LBO investment. Second, well-connected banks are more capable of attracting participants to their loan syndicates and resolving ex post agency conflicts among syndicate members. Third, the presence of a well-connected bank as lead arranger sends a strong positive signal regarding the quality of the LBO deal to other banks in the market, thus attracting more participants and helping in the formation of syndicates more efficiently. Since relationship building and syndication are part of an active strategy pursued by both PE firms and banks, these networks seem likely to become more cohesive and sophisticated in the coming years and to continue to have a profound influence on the LBO deal structuring process.

The role of legal institutions and investor protection

Despite the growing internationalization of PE through cross-border LBOs, the mechanisms through which PE firms and banks invest in foreign LBO targets and gain experience and reputation in foreign buyout markets remain poorly understood.

The literature on cross-border acquisitions refers to the extent of similarity or dissimilarity of institutions between countries as a particular challenge to cross-border investments and ownership (Kostova, 1996; Meuleman & Wright, 2011). Since a country’s legal institutions that define corporate governance, disclosure practices, and contract enforcement are of primary concern for foreign investors (Globerman & Shapiro, 2003), cross-country differences in legal investor protection have a strong influence on cross-border investments and collaboration between investors and targets (Mian, 2006; Bell et al., 2012; Cumming et al., 3002016). This suggests that investments by PE firms and banks in foreign LBO opportunities might be driven by differences in shareholder and creditor rights between their home and target countries (Bris & Cabolis, 2008; Bae & Goyal, 2009; Kang & Kim, 2010; Cumming et al., 2016).

However, the literature on cross-border investments suffers from two major problems. First, studies suggest that investing over large institutional distances is risky and expensive due to the difficulties in monitoring and controlling distant targets (Xu & Shenkar, 2002; Li et al., 2014; Tykvová & Schertler, 2014). A major problem with this argument is that institutional distance is typically measured in absolute terms, implying that prospects for cross-border investments between two countries are similar in either direction. However, investor protection in a target country may be better, similar, or worse than the investor’s home country (Shenkar, 2001; Zaheer et al., 2012). For instance, while the US and China share the same legal distance¹ under the classical approach, US PE firms face far more risks in China due to its weak legal environment and are less likely to invest in Chinese LBO targets than Chinese PE firms investing in the US where legal investor protection is far superior. This illustrates that legal distance can have asymmetric effects on cross-border investments depending on whether the investor seeks to invest in a country with better or worse legal protection than its origin. Second, many studies have examined the quality of legal investor protection in different countries and its role in attracting foreign capital (Bris & Cabolis, 2008; Ferreira et al., 2009; Taussig & Delios, 2015), but have ignored the extent to which the target country legal system makes investors better or worse off relative to their home country. This is an important consideration since the decision to invest in a given country might be determined by the relative gain or loss in legal protection that is perceived by foreign investors.

These issues raise an important question whether differences in legal investor protection exert an asymmetric effect on the cross-border investment preferences of PE firms and banks. Cumming et al. (2017) hypothesize and show that both PE firms and banks prefer to invest in LBOs in countries with stronger legal investor protection than their origin, and are less likely to invest in countries that have weaker investor laws. These effects increase with the distance between investor and target countries, indicating that the relative gain or loss in legal protection for investors with respect to a target country plays a key role in cross-border LBO investment decisions. They also show that while cross-border experience acquired through repeat investments in foreign countries improves the scope for overseas LBO investments, PE firms and banks seem to use their cross-border experience in distinct ways. While PE firms continue to prefer target countries that offer better shareholder protection, banks seem less affected by the gain or loss in creditor protection as they gain more experience in the local buyout markets of other countries.

Cumming et al.’s (2017) findings address the “illusion of symmetry” that has been identified as an erroneous assumption in the treatment of institutional distance in past literature (Xu & Shenkar, 2002; Zaheer et al., 2012). By focusing on legal protection that is a key concern among foreign investors, they show that cross-country differences in legal protection have asymmetric effects on cross-border LBO investments depending on the relative change in legal protection experienced by PE firms and banks with respect to their home countries.

Conclusions: avenues for future research

This chapter presents some studies that explore collaboration decisions among participants and their outcomes in PE investments. Although the role played by PE firms as financial 301intermediaries and their ties to targets have been widely studied, research on the mechanisms that allow PE firms to raise equity capital from limited partners and debt capital from banks is quite lacking. More research is thus needed to fill the gaps in our current understanding of how buyouts are structured and how they perform.

Prior literature on PE and bank lending has argued that firms develop relationships with their capital providers with the prime purpose of establishing mutual trust and reciprocity. However, this ignores the reality that such relationships are also pursued with the objective of acquiring power and influence over each other. In addition, prior studies have focused mostly on dyadic relationships and how they influence agency costs, but have ignored the fact that buyouts often represent a multiple agency setting that depend on successful collaboration between two or more participants (e.g., multiple PE firms in club deals, banks investing in LBOs through loan syndication, and the joint provision of equity and debt financing by PE firms and banks (in LBOs), respectively). In fact, multiple agency settings are common in other interorganizational contexts such as joint ventures, VC syndicates, and IPOs. We therefore emphasize the use of more comprehensive frameworks in future studies that can delineate collaboration and interaction between multiple actors and determine their individual effects on LBO financing outcomes.

Lastly, unlike previous studies that use cross-sectional methods to explain how PE firms and banks invest (and co-invest) in certain LBO targets, it would be interesting to see how the dynamics of their interaction evolve during the post-LBO phase and over the course of multiple investments. Moreover, research on cross-border buyouts has been scarce despite the rapid internationalization of PE since the late 1990s. It would be interesting to see whether findings related to collaboration that are largely relevant to the Anglo-Saxon PE context would also apply to other regions such as Europe, Asia-Pacific, and the Middle East. Understanding the role of institutional and macro-economic factors on cross-border collaboration is highly necessary in this era of globalization wherein both PE firms and banks are looking to invest increasingly beyond their home markets.

Note

  1    Legal distance represents the difference in legal investor protection between two countries.

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