Diversification and the Value of Internal Capital Markets: The Case of Tracking Stock

38 Pages Posted: 5 Nov 1998

See all articles by Matthew T. Billett

Matthew T. Billett

Indiana University - Kelley School of Business - Department of Finance

David C. Mauer

affiliation not provided to SSRN

Date Written: October 1998

Abstract

Numerous studies document that diversified firms sell at a discount relative to comparable portfolios of stand-alone firms. One explanation is that these firms suboptimally invest by subsidizing poor performing business segments with resources from profitable business segments. On average, firms may indeed have internal capital markets that diminish firm value; however, it is also possible that internal capital markets add to firm value by relieving liquidity constraints. We examine the link between firm value and the value of internal capital markets using a relatively new form of corporate restructuring called tracking stock. We present a model that illustrates that the announcement effect of a tracking stock equity restructuring conveys information about the market's assessment of the value of a firm's internal capital market. We develop a direct measure of the profitability of the internal capital market, and we find a strong positive relation between it and tracking stock announcement effects, a finding consistent with our model.

JEL Classification: G31, G32, G34, L20

Suggested Citation

Billett, Matthew T. and Mauer, David C., Diversification and the Value of Internal Capital Markets: The Case of Tracking Stock (October 1998). Available at SSRN: https://ssrn.com/abstract=138008 or http://dx.doi.org/10.2139/ssrn.138008

Matthew T. Billett (Contact Author)

Indiana University - Kelley School of Business - Department of Finance ( email )

1309 E. 10th St.
Bloomington, IN 47405
United States
812-855-3366 (Phone)

David C. Mauer

affiliation not provided to SSRN

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