Strategic Cost of Diversification

Posted: 26 Jun 2008 Last revised: 19 Apr 2018


This paper proposes a new explanation for the large cross-sectional variation in the excess values of diversified firms. The model applies the idea of shareholders’ limited liability affecting firms’ output market strategies to the analysis of financial and operating choices of conglomerates. The inability of conglomerates to commit to unconstrained optimal operating strategies, following from the lack of flexibility in choosing their divisions’ capital structures, reduces their value. Thus, the model highlights a new type of inefficiency of the conglomerate organizational structure, which is suboptimal financing. The predictions of the model are generally supported by the data.

Keywords: diversified firms, excess values, conglomerate mergers, competitive interaction, capital structure

JEL Classification: G32, G34, L13

Suggested Citation

Lyandres, Evgeny, Strategic Cost of Diversification. The Review of Financial Studies, Vol. 20, Issue 6, pp. 1901-1940, 2007, Available at SSRN: or

Evgeny Lyandres (Contact Author)

Boston University ( email )

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Boston, MA 02215
United States
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