Sheri Tice

Apples to Apples: The Economic Benefit of Corporate Diversification

Valuation differences between focused and diversified firms calculated in the conventional manner are misleading due to comparing smaller, younger, and more volatile focused firms with larger, older and less volatile diversified firms. The largest diversified firms are also the most valuable and as a consequence the value-weighted diversification “discount” is actually a premium. We highlight this issue by showing that diversified firms have a value-weighted average economy-wide gain of

Stock Returns and the Competitive Effects of Debt

644 billion annually relative to imputed firm values based on focused firms. Also diversified firms comprise 75% on average of the market value of the S&P 500, so among large firms, they are considered more valuable. We show that the diversification “discount” is an artifact of comparing focused and diversified firms that differ substantially on dimensions related to the uncertainty of their growth rates. After accounting for firm differences using both propensity score methods and coarsened exact matching, we show that diversified firms have higher or equal market values to similar focused firms. We construct a new excess value measure that controls directly for characteristics associated with growth rate uncertainty and show that under this measure there is no diversification discount.

Diversification and Internal Information Sharing: Evidence from Financial Conglomerates

Prior studies examine real firm behavior and show that high debt makes a firm vulnerable in the product market. In this study, we assess the economic magnitude of competitive effects of debt by examining stock returns. For identification, we use a double-layer of contrasts by conditioning our tests across the business cycle and varying product differentiation environments. Firms with high relative-to-industry debt experience significantly lower stock returns during recessions but similar returns during normal times compared to firms with low relative-to-industry debt. The results are driven by the sub-sample of firms with low product differentiation where the competitive effects of debt should be the strongest. Returns are 9% lower during recessions for firms with above industry median debt in this sub-sample. This finding is robust to alternative explanations such as endogeneity, mechanical leverage effects, business risk, debt overhang, and customer warranty concerns. We also link real effects to stock returns by showing that debt-induced sales growth is a significant determinant of stock returns. Our finding that the competitive effects of debt have an economically significant effect on stock returns is important to investment bankers who advise firms on capital structure decisions, chief financial officers, corporate treasurers, and equity money managers.

Stock market liquidity and firm value

A potential benefit of corporate diversification is internal information sharing among related business units which may mitigate information frictions and improve firm performance. We identify this benefit by examining the effect of diversification on bank valuation across countries with different external information reporting environments. If diversification enhances value through internal information sharing, the benefits should be larger in countries with less external information sharing or more information asymmetry. Using an international sample of banks, we find strong evidence supporting this hypothesis. Moreover, internal information sharing is more valuable for diversified banks with a large proportion of commercial banking (investment banking) activities when negative (positive) credit information is unavailable from external sources. We also find that internal information sharing reduces bank risk more when there is less external information sharing. Lastly, as would be predicted in equilibrium, banks are less diversified in countries with more developed credit reporting systems, since internal information sharing is less valuable in such countries.