Disappearing Discounts: Hedge Fund Activism in Conglomerates

Abstract

Hedge fund activism reduces the diversification discount in targeted conglomerates. Associated with this reduction, targets increase investments in segments with better opportunities while alleviating divisional financial constraints. These improvements are stronger for financially constrained targets, and associated with subsequent increases in CEO replacements by outsiders or candidates without social ties with divisional managers, higher divisional manager turnovers, more incentive-based compensation for divisional managers, increased payout, and less low-specificity innovation. While some targets divest poorly performing segments post-targeting, the efficiency improvements are not driven by refocusing, indicating that activist hedge funds unlock value by optimizing internal capital markets in conglomerates.

Keywords: Conglomerates, Corporate Governance, Diversification, Hedge Fund Activism, Internal Capital Markets, Resource Allocation

JEL Classification: G23, G31, G32, G34