Playing at Acquisitions: Behavioral Option Games

215 Pages·2015·3.612 MB·English

by  Han T.J. Smit, Thras Moraitis

PLAYING AT ACQUISITIONS

P L A Y I N G A T
A C Q U I S I T I O N S
B E H AV I O R A L
O P T I O N G A M E S
HAN SMIT AND THRAS MORAITIS
Princeton University Press
Princeton and Oxford
Copyright © 2015 by Han Smit and Thras Moraitis
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All Rights Reserved
ISBN 978-0-691-14000-1
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1 3 5 7 9 10 8 6 4 2
CONTENTS
LIST OF FIGURES
vii
LIST OF TABLES
ix
PREFACE
xi
About This Book xi
Who Should Read This Book? xii
A New Strategic Valuation Approach as a Bridge between
Theory and Practice xiv
Academic Contribution and Features xvi
A Guide through the Book xviii
CHAPTER 1. LEARNING TO SEE, TO ADAPT TO,
AND TO VALUE UNCERTAINTY
1
Learning to See Uncertainty 3
Learning to Adapt to Uncertainty 8
Learning to Value Uncertainty 11
Summary 15
PART I. LEARNING TO SEE UNCERTAINTY
17
CHAPTER 2. HOW TO DE-BIAS VALUATION
OVER THE CYCLE
19
Problem Diagnosis: Why Acquisitions Occur in
Go/No-Go Waves 20
Avoiding Irrational Infection of the Valuation Analysis 22
A Remedy for Uncertainty Neglect: Broaden Your Narrow View 25
Examples of Appropriate Real Options Thinking in Hot
and Cold Deal Markets 32
Conclusions 41
CHAPTER 3. PLAYING AT SERIAL ACQUISITIONS:
THE CASE OF VODAFONE
43
Six Potential Pitfalls in the Execution of a Serial
Acquisition Strategy 44
Can Rational Analysis Discipline Strategy? 57
Dual Valuation of Growth Option Value to Avoid
Irrational Infection 61
How to Use Option Games to Overcome Bidding Pitfalls 65
Conclusions 68
vi • Contents
PART II. LEARNING TO ADAPT TO UNCERTAINTY
73
CHAPTER 4. STRATEGY AS OPTIONS GAMES
75
Classifying Acquisition Options under Competition 78
Expressing a Buy-and-Build Strategy as an Option Portfolio 81
Competition in the Bidding Game 87
Play Poker against Rivals Who Overshoot or Fall Asleep 93
Conclusions 95
CHAPTER 5. DUAL REAL OPTIONS VALUATION:
THE XSTRATA CASE
101
Illustrative Example of the Dual Approach: Xstrata’s Journey 103
Bottom-Up Framework: Xstrata’s Serial Acquisitions 106
Top-Down Framework for Listed Companies: How Finance Can
Enlighten Strategy 112
General Implications and Limitations 117
Conclusions 118
PART III. LEARNING TO VALUE UNCERTAINTY
121
CHAPTER 6. OPTION GAMES VALUATION
123
Designing and Solving an Option Bidding Game 124
Quantifying the Optionality of the Falconbridge Episode 133
Conclusions: How Option Games Can Deliver Their Potential 147
CHAPTER 7. CONCLUSION AND IMPLICATIONS
151
Biases and Options Are Everywhere 152
The Problem: Selected Pitfalls in Acquisition Decision Making 154
The Solution: How Executives Can De-bias Their Acquisition
Decisions 158
Selected Implications to Deal Rationally with One’s Own Biases,
Financial Markets, and “Irrational” Rivals 163
Empirical Evidence 166
Promising Future Research Directions 169
Broaden Your View with Option Games 171
BIBLIOGRAPHY
173
INDEX
185
LIST OF FIGURES
Figure 1.1 The Ponzo Illusion: How Perspective Can Bias Vision 4
Figure 1.2 Perceived Uncertainty in the Payoff of Acquisitions
(Inner Distribution) Is Lower Than Actual Uncertainty
(Outer Distribution) 5
Figure 1.3 Learning to Adapt to Uncertainty: Optionality
Generates a Positively Skewed Distribution 10
Figure 1.4 Components of Company Value 11
Figure 2.1 A DCF Valuation That Derives a Significant Part
from Its Horizon or Terminal Value May Reinforce Hot and
Cold Deal Framing 23
Figure 2.2 A Real Options Analysis May Promote
Cautious Venturing 28
Figure 2.3 How a Real Options Approach Can Counter
Executive Framing Biases 33
Figure 2.4 Decision Tree for Offshore Oil Development 37
Figure 2.5 Restructuring a Business as a Portfolio of Options 40
Figure 3.1 Staged Decisions in Vodafone’s Buy-and-Build
Acquisition Strategy 59
Figure 4.1 The Real Options Approach to Classifying Acquisitions 80
Figure 4.2 Staged Decisions for a Buy-and-Build Strategy 85
Figure 4.3 Different Competitive Strategies Following “Buy”
or “Build” Expansion in a Value Enhancement or a Value
Capture Game 90
Figure 4.4 Timing Strategies Based on the Consolidator’s
Market Position 93
Figure 4.5 Executive Summary: Conceptual Implementation of
Bottom-Up Option Games 99
Figure 5.1 Xstrata’s Market Value as It Evolved into a Major
Mining Company 104
Figure 5.2 Xstrata’s Acquisition Paths as a Series of Platform
and Asset Options 111
Figure 5.3 Summary for Implementing Top Down Valuation 119
Figure 6.1 Simultaneous versus Sequential Bidding 141
Figure 6.2 Strategic Option Value of a Minority Stake 145
Figure 6.3 New Players Scramble for Global Mining Assets 146
Figure 7.1 Potential Biases, Pitfalls, and Solutions at Each Phase
of the Acquisition Process 155
Figure 7.2 Summary Scheme of Behavioral Option Games 159

LIST OF TABLES
Table 3.1 Biases That Affect Company Strategy 49
Table 3.2 Biases That Affect Company Valuation 52
Table 3.3 Biases That Affect Bidding 54
Table 3.4 Summary of How to Overcome Pitfalls in
Serial Acquisitions 69
Table 5.1 Xstrata’s Rapid Growth Trajectory through M&As
in Early Years 105
Table 5.2 Common Corporate Real Options in Acquisitions 108
Table 5.3 Global Diversifieds Have a Higher Proportion of
Growth Option Value (PVGO) to Equity 115
Table 6.1 Scenarios Influencing the Shared or Proprietary Nature
of the Option 140
Table 7.1 Industry Average of the Market Value of Growth
Opportunities, Modified Growth Opportunities, and Mispricing 167