Can Diversification Create Value? Evidence from the Electric Utility Industry
University of Arkansas - Sam M. Walton College of Business
Anil K. Makhija
Ohio State University (OSU) - Department of Finance
December 17, 2004
Charles A. Dice Center Working Paper No. 2005-7
Despite SEC and state-level resistance, and contrary to the trend pursued by other firms, many electric utilities have diversified into non-electric and unregulated businesses. Moreover, this failure to focus has been rewarded with higher firm values, again contrary to the discounts documented in the literature for other diversifying firms. Prior literature has questioned whether these premiums (or discounts) can be attributed to diversification per se. Rather, these premiums could arise from the characteristics of the diversifying firms, which have then endogenously chosen to diversify. In a new approach, where regulation can make the diversification decision largely exogenous, we examine the investment policies of the comparable electric-segments in the diversifying and non-diversifying utilities. We find that single-segment electric utilities over-invest compared to diversifying utilities, which explains their diversification premiums and implies that diversification can create value by opening up new investment opportunities.
Number of Pages in PDF File: 47
Keywords: Diversification, electric utilities, internal capital markets, regulation
JEL Classification: G31, G34, L94working papers series
Date posted: March 30, 2005
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