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Patterns of Corporate Diversification in Canada: An Empirical Analysis

Listed author(s):
  • Baldwin, John R.
  • Beckstead, Desmond
  • Gellatly, Guy
  • Peters, Alice
  • Yates, Janice

Using a comprehensive micro-database of Canadian firms in conjunction with industry-level data on commodity flows, we develop a profile of corporate diversification within the Canadian economy. Our analysis has two major objectives. First, we decompose corporate diversification into horizontal and vertical components based on the degree to which industries are linked by inter-industry trade flows. Horizontal and vertical decompositions serve as useful proxies for the strategic factors that underlie diversification strategies. We find that over 80% of corporate diversification is horizontal in nature, occurring across industries that do not exhibit strong buyer/seller relationships. In the main, this suggests that many firms pursue diversification strategies in order to spread risk and to take advantage of special assets, more so than as a means of improving vertical efficiencies. Seventy-one percent of corporate diversification is also broad-spectrum, representing an expansion of corporate activities across (as opposed to within) 2-digit industry groups. Our second objective is to ascertain whether diversification patterns are closely associated with certain industry characteristics. Here we consider industry-level factors that are generally posited to affect the level of diversification (e.g., growth, concentration, knowledge-intensity) along with other variables designed to evaluate whether diversified ownership structures are associated with inter-industry commodity flows. Our regression analysis draws on three empirical measures of diversification: first, the amount of total entropy (i.e., diversification) within an industry; second, the average entropy per firm; and last, the percentage of firms within an industry that diversify. Within our sample of 132 commercial industries, total diversification is positively associated with the intensity of inter-industry trade flows. Hence, the more diversified an industry's buyer/seller linkages with other sectors, the greater the level of corporate diversification that one would expect to find. This provides some evidence that inter-industry trade intensity plays a significant role in explaining overall levels of corporate diversification, where this level is, in turn, determined by (i) the number of diversified firms, and (ii) the average level of diversification within these firms. This said, inter-industry trade flows are not related to the average level of diversification (the second of these effects), nor do they help explain the percentage of firms within an industry that become diversified. On these issues, we look to other factors for explanation. Industry concentration and average firm size are both positively associated with the amount of diversification per firm. This is consistent with the "constrained optimization" view of diversification - large firms in concentrated markets look to diversification strategies as a means of achieving growth, as the potential for fu

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Paper provided by Statistics Canada, Analytical Studies Branch in its series Analytical Studies Branch Research Paper Series with number 2000150e.

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Date of creation: 16 Jun 2000
Handle: RePEc:stc:stcp3e:2000150e
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  1. Sushil Vachani, 1991. "Distinguishing Between Related and Unrelated International Geographic Diversification: A Comprehensive Measure of Global Diversification," Journal of International Business Studies, Palgrave Macmillan;Academy of International Business, vol. 22(2), pages 307-322, June.
  2. Rhoades, Stephen A, 1974. "A Further Evaluation of the Effect of Diversification on Industry Profit Performance," The Review of Economics and Statistics, MIT Press, vol. 56(4), pages 557-559, November.
  3. Miller, Richard A, 1969. "Market Structure and Industrial Performance: Relation of Profit Rates to Concentration, Advertising Intensity, and Diversity," Journal of Industrial Economics, Wiley Blackwell, vol. 17(2), pages 104-118, April.
  4. Jacquemin, Alexis P & Berry, Charles H, 1979. "Entropy Measure of Diversification and Corporate Growth," Journal of Industrial Economics, Wiley Blackwell, vol. 27(4), pages 359-369, June.
  5. Clarke, R & Davies, S W, 1983. "Aggregate Concentration, Market Concentration and Diversification," Economic Journal, Royal Economic Society, vol. 93(369), pages 182-192, March.
  6. B. Espen Eckbo, 1986. "Mergers and the Market for Corporate Control: The Canadian Evidence," Canadian Journal of Economics, Canadian Economics Association, vol. 19(2), pages 236-260, May.
  7. Baldwin, John R. & Peters, Alice, 2001. "Innovation and Connectivity: The Nature of Market Linkages and Innovation Networks in Canadian Manufacturing Industries," Analytical Studies Branch Research Paper Series 2001165e, Statistics Canada, Analytical Studies Branch.
  8. Rhoades, Stephen A, 1973. "The Effect of Diversification on Industry Profit Performance in 241 Manufacturing Industries: 1963," The Review of Economics and Statistics, MIT Press, vol. 55(2), pages 146-155, May.
  9. Scherer, F M, 1988. "Corporate Takeovers: The Efficiency Arguments," Journal of Economic Perspectives, American Economic Association, vol. 2(1), pages 69-82, Winter.
  10. Maddigan, Ruth J, 1981. "The Measurement of Vertical Integration," The Review of Economics and Statistics, MIT Press, vol. 63(3), pages 328-335, August.
  11. Lecraw, Donald J, 1984. "Diversification Strategy and Performance," Journal of Industrial Economics, Wiley Blackwell, vol. 33(2), pages 179-198, December.
  12. Michael Gort, 1962. "Diversification and Integration in American Industry," NBER Books, National Bureau of Economic Research, Inc, number gort62-1.
  13. Gorecki, Paul K, 1975. "An Inter-Industry Analysis of Diversification in the U.K. Manufacturing Sector," Journal of Industrial Economics, Wiley Blackwell, vol. 24(2), pages 131-146, December.
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