Effects of diversification and market power on firm value in the Asian emerging markets

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Effects of diversification and market power on firm value in the Asian emerging markets

 

Author: Wu, King-ha Thomas
Title: Effects of diversification and market power on firm value in the Asian emerging markets
Degree: D.B.A.
Year: 2005
Subject: Hong Kong Polytechnic University -- Dissertations
Investments, Foreign -- Asia
Diversification in industry -- Asia
Department: Graduate School of Business
Pages: 234 leaves : col. ill. ; 30 cm.
InnoPac Record: http://library.polyu.edu.hk/record=b1841504
URI: http://theses.lib.polyu.edu.hk/handle/200/5475
Abstract: The role of diversification in management and corporate finance has always tickled the minds of academia and CEOs alike. While U.S.-based studies have found that there is a diversification discount, recent research has provided some contradictory alternative explanations and findings. The benefits and costs of diversification and its role are even more opaque for the emerging markets. As globalization increases, there is a yearning for more in- depth knowledge on diversification as firms become more international in scope. While managers would like a better framework to analyze the effects of diversification, investors and shareholders would like a more formal and objective way to measure the value added through diversification in the emerging markets. The existence and use of market power have not received much academic interest due to its more subjective nature and the difficulty in objective measurement. Using a multiplier approach on 1,818 firms in 10 Asian emerging markets to evaluate the effects of diversification and market power on firm value, we found a v-shaped relationship between diversification and excess firm value; we also found positive relationship between excess firm value and the interactive term between diversification and market power.
For diversification, we found that single segment firms have higher excess firm values and all multi-segment firms are associated with lower excess firm values. We hypothesize that the strong and profitable firms remain focused while the less successful firms pursue diversification as strategic alternative. However, once firms diversify, the benefits of diversification outweigh its costs and the discount found is reduced as multi-segment firms increase their level of diversification. As a result, a skewed v-shape function between excess firm value and diversification is observed. For market power, we found positive relationship between excess firm value and the interactive term between diversification and market power. We hypothesize that while market power can be used by itself to increase firm value, its highest benefit comes from the leveraging of market power to new or other existing segments as firm diversify. This extension of market power to new segments can come in the form of tying arrangements, bundling, foreclosure from vertically integrating suppliers, or subsidize of one segment by another either as a predatory maneuver or as protection of an infant industry investment. We conclude that diversification and market power can be beneficial for firms in the emerging markets due to different institutional environments that firms face; in particular, they can help firms overcome market inefficiencies and failures that are prevalent in the emerging markets.

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