The Measurement of Relatedness: An Application to Corporate Diversification
Posted: 17 Apr 2000
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
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