Diversification and Delegation in Firms
AbstractThis paper is about the corporate structure, the organizational structure, and the financial structure of firms, and how they relate to each other. We show that separation of ownership and control may arise as a response to overload costs, although it involves agency costs, and that conglomerates can arise due to information problems in capital markets. In a context where entrepreneurs have the ability to run projects and to improve their future cash flow, there could be rationing of credit due to moral hazard between the entrepreneur and external investors. Diversification could mitigate the moral hazard problem. However for a single entrepreneur the running of many different projects might be increasingly costly due to overload, that is when, due to limited attention, the marginal effort becomes less effective. Delegating the running of projects to several managers can not only reduce overload costs, but also reduce the moral hazard problem of external financing. In this paper we show that delegation can be the only way to exploit gains from diversification when overload costs of diversification are high; delegation thus is the key ingredient to be able to diversify.
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Bibliographic InfoPaper provided by Sveriges Riksbank (Central Bank of Sweden) in its series Working Paper Series with number 131.
Length: 33 pages
Date of creation: 01 Dec 2001
Date of revision:
Conglomerates; Delegation; Diversification; Monitoring;
Other versions of this item:
- D23 - Microeconomics - - Production and Organizations - - - Organizational Behavior; Transaction Costs; Property Rights
- D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
- G20 - Financial Economics - - Financial Institutions and Services - - - General
- G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
- L22 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Firm Organization and Market Structure
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