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It is hard to accurately price a merger or acquisition, primarily as there are psychological factors that impact such pricing. As a result, it is hard for traditional financial models to accurately undertake valuations for merger or acquisition transactions. The purpose of this paper is to develop a two‐person merger and acquisition (M&A) game theoretic model that will analyse if the offer price provided by an acquirer should be equal to the mid‐point of the acquirer's offer and the target's bid price. It will also analyse if the acquirer will do better by being risk taking or risk averse and if the target will do better by optimistic or pessimistic in this model.

This paper analyses how an incomplete information game with prospect theory can be used to value M&A transaction more accurately by considering the impact of psychological factors on pricing.

It is found that acquirers do not always have to increase the offer price in order to successfully purchase the target firm. Based on the behavioural type of the acquirer and target, it could be possible that the acquirer could even lower the offer and the target firm would still be willing to successfully complete the M&A transaction.

The original aspect of this paper is that it links behavioural types to M&A valuation and the success of M&A transactions. Such a model has not been developed before and it shows that M&A transactions are not always completed by the acquirer increasing their offer price.