To understand that growth strategy is considered to be of crucial importance to the long-term performance of a firm. This paper examines the differences in market value between focus and diversification strategy. As a result, we find that the outperformance made by focused firms experience greater long-run stock performance (BHARs) than diversified firms, but not significant.
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Also, the highly diversified firms have significantly lower Q than focused firms.
This evidence shows strongly that highly diversified firms are consistently valued less than focused firms. The cross-sectional regression analyses also document a significantly negative relation between the degree of corporate diversification and Tobin’s Q, even after controlling for other determinants. Therefore, we conclude that there is a negative relationship between the degree of diversification and Q in our dataset, which is consistent with information asymmetry hypothesis.
We also provide evidence from the firms that change the number of segments they report in our sample period to 2. Firms that increase their number of segments have significantly lower Q's than firms that keep their number of segment constant.
Diversifying firms have lower Qs, and it is consistent with our previous results. One possible explanation for this tendency of diversifying firms to have lower Q's is that the firms that diversify have lower Q's because the market anticipates poorer performance to result from the diversification attempt.
Our evidence is supportive of the view that diversification is not a successful path to higher market values, but it is less definitive on the question if the extent to which diversification hurts market values.
Our results also suggest that a more detailed analysis of the benefits and costs of diversification that tests explicit models of these benefits and costs would be used since our evidence is not consistent with the view that some firms do gain from diversification.
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Appendix
Table 11 Cross-sectional Regressions of Q and teck dummy and controls
Variables for our sample of firms are from 2002-2004([t+1,t+3]) Compustat sample of Nasdaq Exchange firms.Focused stands for company with only one segment; diversified for more than two segments. Q stands for Tobin’s Q and its numerator is computed as book value of total assets and the market value of equity; the denominator is total assets. ln assets is the logarithm value of total assets. Liquidity is the ratio that cash and equivalents in a specific year divided by the book value of total assets in that same period. Sales Growth Rate is defined as the annual sales growth rate. Capex is the ratio of capital expenditures to total sales. Leverage is the ratio of debt to total assets. ROA means return on total assets and is the proxy of profitability. teck dummy for high-teck firms , which equals one if firm’ SIC code is categorized in high-tech industries 283, 357, 366, 367, 382, 384, and 737 with coverage in Compustat, otherwise equals to zero.( Brown, Fazzari, and Peterson, 2009).
Sign Model
(t-statiatics)
Intercept + 1.3384 *(1.76)
ln Assets[t+1,t+3] − −0.0730 (−0.60)
Liquidity[t+1,t+3] + 4.3829***(5.35)
Growth of Sales[t+1,t+3] + 0.4000**(2.20)
Capex[t+1,t+3] + 0.4358(1.02)
***,**,* statistically significant at the 1%, 5%, and 10% levels, respectively.
Table 11 displays the cross-sectional regression results, where the dependent variable is Q. Model includes the teck dummy variable. The teck dummy variable is equal to 1 if the firm’
SIC code is categorized in high-tech industries 283, 357, 366, 367, 382, 384, and 737 with coverage in Compustat, and is 0 otherwise.( Brown, Fazzari, and Peterson, 2009). The coefficient for this dummy variable is negative but not significant. And the adjusted is still much low, which means that high- or low-teck firms are not the key factor for the performance.