Diversification

Question 1

Diversification Benefit:

Economies of Scale and Scope

Answer 1

Christensen: Economies of scale

Coase/Williamson - Transaction cost theory

Montgomery & Wernerfelt - Economies of scope, with P&G brand names

Question 2

Internal financial structure

Answer 2

Weston (1970)

• Internal financial resource allocation is liekly to be far more efficient.

Question 3

Increased bureaucracy complicates diversification

Answer 3

Grant et al. (1988)

• Growing strain on management to coordinate increasingly disparate firms under the same organisation.

Question 4

Diversification conceals poor performance

Answer 4

Montgomery (1994)

• Diversification is often the result of hubris, and the negative consequences will be masked via hedging

Question 5

Empirical studies on Diversification

Answer 5

Berger et al.

• There’s a 15% loss of value from diversification for all firms

Question 6

Inverted U hypothesis

Answer 6

Nippa et al.

looked at a number of empirical studies and concluded that the inverted U hypothesis has the most evidence backing it.

• You can find a firm that demonstrates the outcome you’re seeking, so empirical studies are limited