Agent Problem, Diversification And Diversification Discount

Recently, the relationship between diversification and companies’value has attracted many researchers. But until now, they have not reached an agreement.Seeing from the Agent Problem point of view, there are two reasons why companies diversify:one is the agent problem between the management and the shareholders; the other is the agent problem between holding shareholders and minority shareholders. This report studies this problem based on the financial data of727listed companies in their IPO year. It uses both descriptive and regression statistical analysis. The logic of this report is:Agent Problem (reason)-diversification (behavior)-discount (result).This report draws four conclusions:Firstly, the size of board has negative relation with diversification. As an important corporate governance mechanism, directors can supervise managers’ behavior on behalf of shareholders, which can decrease the egoism behavior of managers and make them care more of shareholders’ benefit.Secondly, there is negative correlation between the proportion of independent directors in board and diversification. Independent directors do not have positions in companies, so they can make objective decisions. They can not only supervise managers’ behavior on behalf of shareholders, but also supervise the behavior of holding shareholders on behalf of minority shareholders.Thirdly, there is positive correlation between holding ratio of majority shareholders and diversification. Majority shareholders always get personal profit through related-party transaction, occupation of funds, paying too many cash dividends and so on. And diversification makes it more convenient for them to do so.Fourthly, there is positive correlation between the efficiency of companies’ internal markets and their value. Considering benefit of the whole group, diversified companies always transfer resource from more efficient divisions to less ones, which reduces the efficiency of resource. This may explain discount of diversified companies from another perspective. Last but not least, there is negative correlation between diversification and companies’value. Compared with specialized companies, diversified companies always have lower value. This is because agent problem and the inefficiency of internal capital markets. The empirical test of this report supports this conclusion.This report also proposes two suggestions:Firstly, companies should enlarge the size of boards and the proportion of independent directors;Secondly, the governance should improve related laws and strengthen the supervision to companies in order to protect minority shareholders.