Working Paper: CEPR ID: DP3546
Authors: Joao Gomes; Dmitry Livdan
Abstract: We construct an equilibrium model of firm diversification to show that the main empirical findings about firm diversification and performance are consistent with the maximization of shareholder value. In our model, diversification allows a firm to explore better productive opportunities while taking advantage of synergies. By explicitly linking the diversification strategies of the firm to differences in size and productivity, our model provides a natural laboratory to quantitatively investigate several aspects of the relationship between diversification and performance. Specifically, we show that our model is able to rationalize both the evidence on the diversification discount (Lang and Stulz (1994)) and the observed relation between diversification and firm productivity (Schoar (2002)).
Keywords: diversification discount; firm diversification; Tobin's Q; total factor productivity
JEL Codes: D21; G32; G34
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| diversified firms (L29) | lower value of Tobin's Q (G19) |
| endogenous selection mechanism (D79) | lower value of Tobin's Q (G19) |
| diversification (G11) | productivity losses (J17) |
| adverse productivity shocks (O49) | diversification (G11) |
| self-selection of firms (L26) | diversified structures (L22) |
| productivity differentials (O49) | optimal diversification strategies (G11) |