What Do We Know About Cross-subsidization? Evidence from Merging Firms

Judith Chevalier
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Judith Chevalier: Yale University

The B.E. Journal of Economic Analysis & Policy, 2004, vol. advances.4, issue 1

Abstract: A substantial empirical literature documents value-destroying “cross-subsidization” among the divisions of diversified firms. However, this literature relies upon two maintained hypotheses: that divisions of diversified firms are randomly allocated to their corporate parents and that the investment opportunities facing conglomerate divisions are identical to those of stand-alone firms in their industries. I examine the investment behavior prior to merger of a sample of firms that undertook diversifying mergers between 1980 and 1995. I show that, in my sample, investment patterns that the literature has attributed to cross-subsidization between divisions are apparent in the pairs of merging firms prior to their mergers. Thus, some of the cross-subsidization results in the literature may be attributable to selection bias. I also examine stock market responses to announcements of diversifying acquisitions. The event responses are largely independent of measures of the extent to which the merger is diversifying.

Keywords: diversification; investment (search for similar items in EconPapers)
JEL-codes: G31 G34 (search for similar items in EconPapers)
Date: 2004
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Persistent link: http://EconPapers.repec.org/RePEc:bpj:bejeap:v:advances.4:y:2004:i:1:n:3

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