Diversification and Internal Information Sharing: Evidence from Financial Conglomerates

Abstract

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.

Keywords: Diversification, Information sharing, Credit bureaus

JEL Classification: G21, G24, F23