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The Performance of Optimally Diversified Firms: Reconciling Theory and Evidence

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  • Gomes, Joao F
  • Livdan, Dmitry

Abstract

We construct an equilibrium model of firm diversification to show that the main empirical findings about firm diversification and performance are consistent with the maximization of shareholder value. In our model, diversification allows a firm to explore better productive opportunities while taking advantage of synergies. By explicitly linking the diversification strategies of the firm to differences in size and productivity, our model provides a natural laboratory to quantitatively investigate several aspects of the relationship between diversification and performance. Specifically, we show that our model is able to rationalize both the evidence on the diversification discount (Lang and Stulz (1994)) and the observed relation between diversification and firm productivity (Schoar (2002)).

Suggested Citation

  • Gomes, Joao F & Livdan, Dmitry, 2002. "The Performance of Optimally Diversified Firms: Reconciling Theory and Evidence," CEPR Discussion Papers 3546, C.E.P.R. Discussion Papers.
    • Handle: RePEc:cpr:ceprdp:3546
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    References listed on IDEAS

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    1. Gordon M Phillips & Vojislav Maksimovic, 1999. "Do Conglomerate Firms Allocate Resources Inefficiently?," Working Papers 99-11, Center for Economic Studies, U.S. Census Bureau.
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    More about this item

    Keywords

    Diversification Discount; firm diversification; Tobin's Q; Total Factor Productivity;

    JEL classification:

    • D21 - Microeconomics - - Production and Organizations - - - Firm Behavior: Theory
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance

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