Stock Liquidity and Corporate Diversification: Evidence from China's Split Share Structure Reform

64 Pages Posted: 27 Jun 2018 Last revised: 3 Nov 2020

See all articles by Lifeng Gu

Lifeng Gu

The University of Hong Kong; University of Illinois at Urbana-Champaign

Yixin Wang

Independent

Wentao Yao

Xiamen University - School of Management

Yilin Zhang

Peking University - HSBC School of Business

Date Written: November 18, 2017

Abstract

We establish that stock liquidity is conducive to less corporate diversification. Two potential channels are identified: the financial constraint channel and the corporate governance channel. Specifically, we find that the negative effect of liquidity on diversification is stronger among financially-constrained firms, since higher liquidity helps firms improve external capital markets and thus reduces the need to broaden the internal capital markets through diversification. Moreover, we find that the effect of liquidity on diversification is strengthened among firms with severe information asymmetry, since enhanced price informativeness caused by increased liquidity promotes market monitoring on managers' decisions. Meanwhile, we rule out the alternative explanation that liquidity deters diversification by facilitating blockholder control. Our results suggest that stock liquidity plays a positive role in corporate decision making.

Keywords: Stock Liquidity, Corporate Diversification, Financial Constraint, Agency Problem, Corporate Governance, Share-Splitting Reform, China

JEL Classification: G14, L25, G30

Suggested Citation

Gu, Lifeng and Wang, Yixin and Yao, Wentao and Zhang, Yilin, Stock Liquidity and Corporate Diversification: Evidence from China's Split Share Structure Reform (November 18, 2017). Journal of Empirical Finance, Forthcoming, Available at SSRN: https://ssrn.com/abstract=3197512 or http://dx.doi.org/10.2139/ssrn.3197512

University of Illinois at Urbana-Champaign

1206 South Sixth Street
Champaign, IL 61820
United States

Yixin Wang

Independent ( email )

Wentao Yao

Xiamen University - School of Management ( email )

No.422 Siming Nan Road
Xiamen, Fujian 361005
China

Yilin Zhang

Peking University - HSBC School of Business ( email )

University Town
Shenzhen, 518055
China

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