Product Market Competition and the Value of Diversification

Abstract

I examine how industry concentration affects the value of diversification and explore the strategic value of agency problems for conglomerates that operate mainly in concentrated industries (concentrated conglomerates). I find that concentrated conglomerates have higher diversification values. Consistent with agency theories, agency problems, on average, cause greater diversification discount. In contrast, agency problems in concentrated conglomerates create strategic advantage and lead to higher valuations consistent with the notion that these conglomerates can credibly commit to their industries. Using tariff reductions as competitive shocks, I show that concentrated conglomerates experience significant valuation decline and respond aggressively to threats in less-competitive industries.

Keywords: diversification, diversification discount, product market competition, agency problems, tariff reduction

JEL Classification: D23, G18, G32, G34