Corporate diversification: Can the observed diversification discount shed light on management’s choice to diversify or re-focus?

Garrett C.C. Smith, Jeffrey M. Coy

Research output: Contribution to journalArticlepeer-review

3 Scopus citations

Abstract

Purpose: The purpose of this study is to compare two theories that relate the proportion of diversified firms in the economy and the implied discount for diversified firms: the first is a real-options model predicting a positive relationship between the discount and management’s choice to operate a diversified firm; the second is based on catering theory, in which a negative relationship is predicted, as management is attentive to investor preference concerning diversified firms. Design/methodology/approach: This study proposes a new aggregate measure of the diversification discount. The authors’ measure allows for decomposition of the discount into firm-level mispricing, industry-level mispricing and long-run fundamental value components. Findings: Results support a catering theory of diversification. The discount appears to be the result of firm-level mispricing. Thus, providing an explanation for why, in light of the observed discount, a large number of diversified firms persist. Originality/value: To the authors’ knowledge, this is the first study to provide evidence that firm-level mispricing may drive the observed diversification discount.

Original languageEnglish (US)
Pages (from-to)405-424
Number of pages20
JournalReview of Accounting and Finance
Volume17
Issue number3
DOIs
StatePublished - Aug 13 2018

All Science Journal Classification (ASJC) codes

  • Accounting
  • Finance
  • Economics, Econometrics and Finance(all)

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