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The Cost of Diversity: The Diversification Discount and Inefficient Investment
Author(s) -
Rajan Raghuram,
Servaes Henri,
Zingales Luigi
Publication year - 2000
Publication title -
the journal of finance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 18.151
H-Index - 299
eISSN - 1540-6261
pISSN - 0022-1082
DOI - 10.1111/0022-1082.00200
Subject(s) - diversification (marketing strategy) , diversity (politics) , investment (military) , business , economics , industrial organization , microeconomics , marketing , sociology , politics , anthropology , political science , law
We model the distortions that internal power struggles can generate in the allocation of resources between divisions of a diversified firm. The model predicts that if divisions are similar in the level of their resources and opportunities, funds will be transferred from divisions with poor opportunities to divisions with good opportunities. When diversity in resources and opportunities increases, however, resources can flow toward the most inefficient division, leading to more inefficient investment and less valuable firms. We test these predictions on a panel of diversified U.S. firms during the period from 1980 to 1993 and find evidence consistent with them.