How do taxes affect the location of international mergers and acquisitions?

The growth of international cross-border mergers and acquisitions over the last two decades is well documented. The percentage of all mergers and acquisitions accounted for by cross-border deals rose from 23% in 1998 to 45% in 2007. And the percentage of all foreign direct investment that took the form of cross-border mergers and acquisitions rose from 14% in 1991 to over 50% by 1999. This research examines one aspect of the determination of mergers and acquisitions: the choice of international location of the target company by an acquirer, and in particular, the role of tax in that choice. We show that, in principle, a higher tax rate in the target’s country could make an acquisition there more likely, less likely, or have no effect at all.

This research uses firm-level data combining financial and ownership data for companies in 2005 with domestic and crossborder acquisitions between 2006 and 2008 to analyse the determinants of choices made by 2,623 acquiring corporations from 47 countries across 19 possible locations of domestic and cross-border target corporations. We take into account other important factors  determining M&A activity, and also allow for the effects of taxation to differ depending on circumstances of the acquirer and target.

We find that the statutory tax rate in the target country has a negative impact on the probability of an acquisition in that country, with an average elasticity of around 1 – that is, a one percent reduction in the tax rate would imply approximately a one percent increase in the probability of a domestic company being acquired by a foreign acquirer. The size of the effect differs (i) between acquirers that were multinational or domestic in 2005; (ii) between domestic and cross-border acquisitions; and (iii) depending on whether the acquirer’s country has a worldwide or territorial tax system.

Wiji Arulampalam, Michael Devereux and Federica Liberini, Taxes and the location of targets, CBT Working Paper 12/13