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The Diversification Discount Puzzle: Evidence for a Transaction‐Cost Resolution
Author(s) -
Aggarwal Raj,
Zhao Shelly
Publication year - 2009
Publication title -
financial review
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.621
H-Index - 47
eISSN - 1540-6288
pISSN - 0732-8516
DOI - 10.1111/j.1540-6288.2008.00212.x
Subject(s) - transaction cost , diversification (marketing strategy) , agency cost , industrial organization , database transaction , economics , microeconomics , business , cost of capital , agency (philosophy) , monetary economics , finance , marketing , incentive , corporate governance , philosophy , epistemology , computer science , programming language , shareholder
The literature on the corporate diversification discount and the relative efficiency of internal versus external capital markets provides mixed results. We argue that transaction‐cost economics is useful in understanding this puzzle. According to transaction‐cost economics, diversified firms should outperform single segment firms in industries with higher external transaction costs (e.g., emergent industries) and under‐perform in industries with low external transaction costs and high agency and other internal costs (e.g., some mature industries). This paper provides evidence supporting these contentions.