Caveat emptor as an obstacle to business transfers: Effect of product line liability exceptions on acquisitions, entry, and exit

Research Summary: Being able to sell a business not only allows a firm to exit an industry but is also a motivation for entrepreneurial entry. Therefore, factors that make acquisitions less desirable for potential acquirers could not only affect the rate of acquisitions, but also entry and exit. We test this in the context of judicial adoptions of product line exceptions, which increased acquirer exposure to potential accumulated liabilities. We find that after adoption, and relative to nonmanufacturing establishments, acquisitions of manufacturing establishments decrease, while exits through closure increase. Relative entry of manufacturing establishments declines. These effects are higher in industries where resalability of physical capital is lower and for smaller entrants. Interestingly, while the likelihood of acquisitions declines for older establishments, it increases for younger ones. Managerial Summary: Making it harder to sell a business not only hinders business transfers but also affects business entry and exit. This is because entrepreneurs and businesses often exit by selling to other firms, not just through closures. Based on comprehensive data on US establishments, we provide evidence supporting this thesis. We find that after judicial adoption of a legal principle that holds acquirers accountable for the acquired firm's product line liabilities, the probability of manufacturing establishments (which are more likely to have such liabilities) being acquired decreases more than that of other establishments. Simultaneously, closures as a form of exit increase, and the relative entry of manufacturing establishments declines. These findings underscore the strategic importance of acquisition-driven exits for businesses and entrepreneurs.