Diversification

Question 1

Good diversification

Answer 1

If the combined business perform better than the sum of those business separately

Question 2

Diversification Tests

Answer 2

1. better off test

2. ownership test

Question 3

Better off test

Answer 3

Is the entity better off by being owned by the acquirer

Question 4

Ownership test

Answer 4

Do you need to own the entity? What would happen if you franchise it.

Question 5

Related Diversification

Answer 5

operational relatedness + corporate relatedness = economies of scope

economies of scope are where the value comes from

Question 6

Operational relatedness

Answer 6

share activities across businesses, this can be risk depending on how linked outcomes are between activities

Question 7

Corporate relatedness

Answer 7

How well skills / core competencies transfer amongst units

Question 8

Financial economies

Answer 8

cost savings realized through improved allocation of financial resources, product of unrelated diversification

two types:

1. efficient capital allocations
2. purchase other corporations and restructure their assets

Question 9

Value of unrelated diversification

Answer 9

GE divesting in unrelated business (deconglomerating), shows that some business are worth more alone than as part of a conglomerate

Question 10

Additional Incentives to Diversify

Answer 10

External: antitrust regulation, tax laws

Internal: low performance, uncertain future CFs, balancing synergy and firm risk

Question 11

Value-Reducing Diversification

Answer 11

Managerial motives to diversify (driven by CEO’s personal 
motives)
– Managerial risk reduction
– Desire for increased compensation
– Build personal performance reputation