The Measurement of Relatedness: An Application to Corporate Diversification

Posted: 17 Apr 2000

See all articles by Joseph P. H. Fan

Joseph P. H. Fan

The Chinese University of Hong Kong (CUHK) - School of Accountancy

Larry H.P. Lang

The Chinese University of Hong Kong (CUHK) - Department of Finance

Abstract

Employing commodity flow data from input-output (IO) tables, we construct two IO-based relatedness measures to capture inter-industry and inter-segment vertical relatedness and complementarity. At the industry level, we demonstrate that the new IO-based measures outperform traditional measures based on SIC codes in describing relatedness. At the firm level, we report that firms increase their degree of vertical relatedness and complementarity over time. The increasing pattern is robust; it is not sensitive to accounting changes in segment definition, different weighting methods and different input-output data employed to construct the relatedness measures. As an application to corporate diversification, we find that vertical relatedness is associated with lower firm value. Complementarity increased firm value only in the 1970s and early 1980s. Its effect has been neutral in more recent periods. We further document that the valuation effects of relatedness can be attributed to firms with more than three business segments, suggesting that relatedness is more relevant to firms pursuing wide diversification strategies.

JEL Classification: L22

Suggested Citation

Fan, Po Hung Joseph P. H. and Lang, Hsien Ping Larry, The Measurement of Relatedness: An Application to Corporate Diversification. Journal of Business, Vol. 73, No. 4, October 2000. Available at SSRN: https://ssrn.com/abstract=217409

Po Hung Joseph P. H. Fan (Contact Author)

The Chinese University of Hong Kong (CUHK) - School of Accountancy ( email )

Shatin, N.T.
Hong Kong
(852) 26097839 (Phone)
(852) 26035114 (Fax)

Hsien Ping Larry Lang

The Chinese University of Hong Kong (CUHK) - Department of Finance ( email )

Shatin, N.T.
Hong Kong
+85 2 2609 7761 (Phone)
+85 2 2603 6586 (Fax)

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