conglomerate and firm boundaries
TRANSCRIPT
TITRE Sous-titre− Definition: − Horizontal
Some surveys
− Maksimovic, V., & Phillips, G. M. (2013). Conglomerate Firms, Internal Capital Markets, and the Theory of the Firm. Annual Review of Financial Economics, 5, 225– 244.
Tate, G., & Yang, L. (2015). The Bright Side of Corporate Diversification: Evidence from Internal Labor Markets. RFS
Matvos, G., Seru, A., & Silva, R. C. (2018). Financial market frictions and diversification. JFE
Some trends
Some trends
Qit = β Conglomerateit + FE
Why is value destroyed?
− Why diversifying in the first place? − Agency costs + managerial “biases” (Ubris, Roll 86; empire
building, Jensen, 86; overconfidence, Malmendier and Tate)
− Why is value destroyed? − Allocation problem across divisions
− Delegation problem
− ``One size fits all’’ problem: “If all you have is a hammer,
everything looks like a nail“ (Maslow)
11
Using M&A to measure project NPV: Do overconfident CEO make dummer acquisitions?
− U.S. firms spent more than $3.4 trillion on over 12,000 mergers during the last two decades
− Yet, acquiring shareholders lost over $220 billion at the announcement of merger bids from 1980 to 2001 !!
Who can decide to make such acquisitions?
12
− Malmendier, Ulrike, and Geoffrey Tate (2008): “Who makes acquisitions? CEO overconfidence and the market’s reaction.” Journal of Financial Economics
Who are the overconfident CEOs?
− 477 firms:1980-1999
− Overconfident CEOs: − Don’t exercise stock options vested and in the money
− Measure checked with outsiders perception: − Confident CEOs: confident, confidence, optimistic, optimism
− Cautious CEOs: cautious, reliable, practical, conservative, frugal,
steady, or negating one of the ‘‘Confident’’ terms
13
− Are overconfident CEOs more likely to make acquisitions?
14
abundant internal resources
What are the effects of being overconfident? (cont’d)
15
They are twice more likely to make diversified
acquisitons
Chart1
4.5
2.8
5
Pour redimensionner la plage de données, faites glisser le coin inférieur droit de la plage.
Why is value destroyed?
− Why diversifying in the first place? − Agency costs + managerial “biases” (Ubris, Roll 86; empire
building, Jensen, 86; overconfidence, Malmendier and Tate)
− Why is value destroyed? − Allocation problem across divisions
− Delegation problem
− ``One size fits all’’ problem: “If all you have is a hammer,
everything looks like a nail“ (Maslow)
16
− Size = quintile of asset why?
− Div = # segments in 2-digit sic
− Source of identification?
New plants
Old plants
Seru (2014, JFE): conglomerate and innovation
− In the x-section, business group innovate more (Belenzon and Berkovitz, 2010 MS)
− Interpretation?
− Problem?
− Seru: track innovative firms before and after they are acquired by a conglomerate diff-in-diff
− What problem does it remove?
− Which ones still present?
Dealing with non-randomness of M&A: “failed M&A”
− Relevant control group? − Could have been acquired but were not ≈ “RDD”
− Used elsewhere (Malmendier et al. 2015 JFE)
Data
24
− State, year applied, year granted, techno cat
− Citation: citing and cited patents track “knowledge flow”
− Inventors database − HBS
25
26
Specification
27
Results
28
Results
29
How to read After?
Channels: inventor-level evidence
− Extensive margin: good inventors leave the firm − Present = 1 if inventor around any time after the merger
− Intensive margin: people stay but innovate less − Avg-Patent = average patents for each inventor who stay
30
Channels: inventor-level evidence
− Data: IRI survey data (1994 – 2001) − 54 diversified firms
− Divisional = 1 if R&D conducted in division
− %HQ_Budget = % R&D budget coming from HQ
33
Only if R&D is done in divisions
Why is value destroyed?
− Why diversifying in the first place? − Agency costs + managerial “biases” (Ubris, Roll 86; empire
building, Jensen, 86; overconfidence, Malmendier and Tate)
− Why is value destroyed? − Allocation problem across divisions
− Delegation problem
− ``One size fits all’’ problem: “If all you have is a hammer,
everything looks like a nail“ (Maslow)
36
− Corp Finance 101: Modigliani-Miller − When computing project NPV, discount rate should
depend on the risk of this project, not firm-wide cost of capital
A=A1+A2+A3
Testing for Investment Distortions
If non-core discounted using core CAPM:
CAPMcore - CAPMdiv = (βdiv-βcore)x(rm-rf)
Computing beta
− Equity beta (βE): − Regress VW industry portfolio returns on VW CRSP index for
rolling windows of 60 months
− Asset beta (βA) : − Unlever: βA = βE x E/(E+D)
− Use aggregate industry capital structure
Investment result
Bounded rationality: results
− Firm’s divisions highly heterogenous (in beta)
− Higher CEO ownership
Estimating cost
− Compute CAPMbidder and CAPMtarget
The plan
− Upside of conglomerates: internal capital markets
− How does it affect product market competition? − Theory: Fudenberg and Tirole (1986)
49
Data
− Firm level data from administrative source
50
51
Entry rate in market i Cash holding incumbents in market i
Cash holding subsidiaries in other markets
Problem?
52
Expected?
− New firms from business groups enter more and survive longer
− Effect more important in more credit constrained industries
− Low vs high tangibility
− Young vs old industries
− Hortacu, A., & Syverson, C. (2007). Cementing Relationships: Vertical Integration, Foreclosure, Productivity, and Prices. Journal of Political Economy, 115(2), 250–301.
− Blonigen, B. A., & Pierce, J. R. (2016). Evidence for the Effects of Mergers on Market Power and Efficiency. NBER Working Paper, (22750)
− Cunningham, C., Ederer, F., & Ma, S. (2019). Killer Acquisitions. Working Paper
How?
− Solving contract incompleteness (allocation of inputs)
60
How?
− Solving contract incompleteness (allocation of inputs)
61
Literature
Silva (2013) Chevalier (1999), Maksimovic and Philips (2001)
and especially Matvos and Seru (2014), Kuppuswamy and
Villalonga (2012) and Almeida and Kim (2012).
− Formation of conglomerates: Coase (1937), Maksimovic and
Philips (2002), Almeida et al (2011)
− M&A and Financial Frictions: Almeida, Campello, and Hackbarth, (2011) and Erel, Yang and Weisbach (2014).
Lamont (1997): data construction
− Data: COMPUSTAT Segment files − Corporate segment >10% of total sales in ≠ industry reports
segment-level sales, profit and CAPX
− Sample selection:
− All firms with a segment in oil or gas extraction sector.
− Oil-dependent firms=at least 25% of cash-flows come from oil and gas extraction industry.
− Select firms with non-oil related segments (some industry screens (e.g., refining, supplier to oil industry, etc.)+ judgment)
− Exclude segments that mostly operate in oil-dependent regions.
− Delete small segments or those with missing data.
26 (!) oil conglomerates
Data construction (2)
− To be included in the sample, non-oil division must have non-missing data for 1985 (pre-oil shock) and 1986 (post-oil shock)
− Is this ok?
Cash-flow of non-oil division
Non-oil divisions could be in industries with cash-flows <0 correlated to oil prices. Another upward
bias to the <0 effect
Need a control group
Lamont: rise in performance consistent with agency cost explanation Conglomerate managers with no FCF squeeze out profits from non-oil
divisions / like in LBOs. But: Mechanical – even within industries, firms in conglomerates selected to have <0 correlation with oil prices (diversification).
“Net” effect?
− Maksimovic, V., & Phillips, G. (2002). Do Conglomerate Firms Allocate Resources Inefficiently Across Industries? Theory and Evidence. Journal of Finance, 57(2), 721– 767.
− Maksimovic, V., & Phillips, G. (2008). The Industry Life Cycle, Acquisitions and Investment: Does Firm Organization Matter? Journal of Finance, 63(2), 673– 708.
How?
− Solving contract incompleteness (allocation of inputs)
70
Tate, G., & Yang, L. (2015). The Bright Side of Corporate Diversification: Evidence from Internal Labor Markets. RFS
− Compare the earnings of workers in diversified vs non diversified firms when they change
− “A key identification concern is the endogeneity of job changes” Solution? Enough?
The goal:
− “Our main quantity of interest is the frequency with which the firm reallocates retained workers to new industries and how it depends on future opportunities in their existing and new industries”
How would you want to do that?
The answer among conglomerate
+
Interpretation?
Interpretation?
Testing the human capital acquisition story
− “We do not see significant differences between the wage changes of workers who make a switch to a spanned industry and who have or do not have prior experience in the SIC outside the diversified firm in any specification.”
− Conclusion?
How?
− Solving contract incompleteness (allocation of inputs)
78
− Atalay, E., Hortaçsu, A., & Syverson, C. (2014). Vertical Integration and Input Flows. American Economic Review, 104(4), 1120–1148
− Fresard, L., Hoberg, G., & Phillips, G. (2020). Innovation Activities and Integration through Vertical Acquisitions. Review of Financial Studies.
− Nunn, N. (2007). Relationship-Specificity, Incomplete Contracts, and the Pattern of Trade. Quarterly Journal of Economics, 122(2), 569–600.
− Nunn, N., & Trefler, D. (2013). Incomplete contracts and the boundaries of the multinational firm. Journal of Economic Behavior & Organization, 94(0), 330–344.
− Incomplete contracts + multiple stage innovation
− Unrealized (R&D) vs Realized innovation (patents)
− Prediction: − High R&D => less integration
− High patents => more integration
BEA Detailed Item Output Table
Text Based Approach
Text Based Approach
Some surveys
Tate, G., & Yang, L. (2015). The Bright Side of Corporate Diversification: Evidence from Internal Labor Markets. RFS
Matvos, G., Seru, A., & Silva, R. C. (2018). Financial market frictions and diversification. JFE
Some trends
Some trends
The plan
The plan
Why is value destroyed?
Using M&A to measure project NPV: Do overconfident CEO make dummer acquisitions?
Who are the overconfident CEOs?
What are the effects of being overconfident?
What are the effects of being overconfident? (cont’d)
Why is value destroyed?
Slide Number 18
Dealing with non-randomness of M&A: “failed M&A”
Data
Specification
Results
Results
Testing for Investment Distortions
Data
“Net” effect?
How?
Tate, G., & Yang, L. (2015). The Bright Side of Corporate Diversification: Evidence from Internal Labor Markets. RFS
The goal:
Testing the human capital acquisition story
How?
Text Based Approach
Text Based Approach
Some surveys
− Maksimovic, V., & Phillips, G. M. (2013). Conglomerate Firms, Internal Capital Markets, and the Theory of the Firm. Annual Review of Financial Economics, 5, 225– 244.
Tate, G., & Yang, L. (2015). The Bright Side of Corporate Diversification: Evidence from Internal Labor Markets. RFS
Matvos, G., Seru, A., & Silva, R. C. (2018). Financial market frictions and diversification. JFE
Some trends
Some trends
Qit = β Conglomerateit + FE
Why is value destroyed?
− Why diversifying in the first place? − Agency costs + managerial “biases” (Ubris, Roll 86; empire
building, Jensen, 86; overconfidence, Malmendier and Tate)
− Why is value destroyed? − Allocation problem across divisions
− Delegation problem
− ``One size fits all’’ problem: “If all you have is a hammer,
everything looks like a nail“ (Maslow)
11
Using M&A to measure project NPV: Do overconfident CEO make dummer acquisitions?
− U.S. firms spent more than $3.4 trillion on over 12,000 mergers during the last two decades
− Yet, acquiring shareholders lost over $220 billion at the announcement of merger bids from 1980 to 2001 !!
Who can decide to make such acquisitions?
12
− Malmendier, Ulrike, and Geoffrey Tate (2008): “Who makes acquisitions? CEO overconfidence and the market’s reaction.” Journal of Financial Economics
Who are the overconfident CEOs?
− 477 firms:1980-1999
− Overconfident CEOs: − Don’t exercise stock options vested and in the money
− Measure checked with outsiders perception: − Confident CEOs: confident, confidence, optimistic, optimism
− Cautious CEOs: cautious, reliable, practical, conservative, frugal,
steady, or negating one of the ‘‘Confident’’ terms
13
− Are overconfident CEOs more likely to make acquisitions?
14
abundant internal resources
What are the effects of being overconfident? (cont’d)
15
They are twice more likely to make diversified
acquisitons
Chart1
4.5
2.8
5
Pour redimensionner la plage de données, faites glisser le coin inférieur droit de la plage.
Why is value destroyed?
− Why diversifying in the first place? − Agency costs + managerial “biases” (Ubris, Roll 86; empire
building, Jensen, 86; overconfidence, Malmendier and Tate)
− Why is value destroyed? − Allocation problem across divisions
− Delegation problem
− ``One size fits all’’ problem: “If all you have is a hammer,
everything looks like a nail“ (Maslow)
16
− Size = quintile of asset why?
− Div = # segments in 2-digit sic
− Source of identification?
New plants
Old plants
Seru (2014, JFE): conglomerate and innovation
− In the x-section, business group innovate more (Belenzon and Berkovitz, 2010 MS)
− Interpretation?
− Problem?
− Seru: track innovative firms before and after they are acquired by a conglomerate diff-in-diff
− What problem does it remove?
− Which ones still present?
Dealing with non-randomness of M&A: “failed M&A”
− Relevant control group? − Could have been acquired but were not ≈ “RDD”
− Used elsewhere (Malmendier et al. 2015 JFE)
Data
24
− State, year applied, year granted, techno cat
− Citation: citing and cited patents track “knowledge flow”
− Inventors database − HBS
25
26
Specification
27
Results
28
Results
29
How to read After?
Channels: inventor-level evidence
− Extensive margin: good inventors leave the firm − Present = 1 if inventor around any time after the merger
− Intensive margin: people stay but innovate less − Avg-Patent = average patents for each inventor who stay
30
Channels: inventor-level evidence
− Data: IRI survey data (1994 – 2001) − 54 diversified firms
− Divisional = 1 if R&D conducted in division
− %HQ_Budget = % R&D budget coming from HQ
33
Only if R&D is done in divisions
Why is value destroyed?
− Why diversifying in the first place? − Agency costs + managerial “biases” (Ubris, Roll 86; empire
building, Jensen, 86; overconfidence, Malmendier and Tate)
− Why is value destroyed? − Allocation problem across divisions
− Delegation problem
− ``One size fits all’’ problem: “If all you have is a hammer,
everything looks like a nail“ (Maslow)
36
− Corp Finance 101: Modigliani-Miller − When computing project NPV, discount rate should
depend on the risk of this project, not firm-wide cost of capital
A=A1+A2+A3
Testing for Investment Distortions
If non-core discounted using core CAPM:
CAPMcore - CAPMdiv = (βdiv-βcore)x(rm-rf)
Computing beta
− Equity beta (βE): − Regress VW industry portfolio returns on VW CRSP index for
rolling windows of 60 months
− Asset beta (βA) : − Unlever: βA = βE x E/(E+D)
− Use aggregate industry capital structure
Investment result
Bounded rationality: results
− Firm’s divisions highly heterogenous (in beta)
− Higher CEO ownership
Estimating cost
− Compute CAPMbidder and CAPMtarget
The plan
− Upside of conglomerates: internal capital markets
− How does it affect product market competition? − Theory: Fudenberg and Tirole (1986)
49
Data
− Firm level data from administrative source
50
51
Entry rate in market i Cash holding incumbents in market i
Cash holding subsidiaries in other markets
Problem?
52
Expected?
− New firms from business groups enter more and survive longer
− Effect more important in more credit constrained industries
− Low vs high tangibility
− Young vs old industries
− Hortacu, A., & Syverson, C. (2007). Cementing Relationships: Vertical Integration, Foreclosure, Productivity, and Prices. Journal of Political Economy, 115(2), 250–301.
− Blonigen, B. A., & Pierce, J. R. (2016). Evidence for the Effects of Mergers on Market Power and Efficiency. NBER Working Paper, (22750)
− Cunningham, C., Ederer, F., & Ma, S. (2019). Killer Acquisitions. Working Paper
How?
− Solving contract incompleteness (allocation of inputs)
60
How?
− Solving contract incompleteness (allocation of inputs)
61
Literature
Silva (2013) Chevalier (1999), Maksimovic and Philips (2001)
and especially Matvos and Seru (2014), Kuppuswamy and
Villalonga (2012) and Almeida and Kim (2012).
− Formation of conglomerates: Coase (1937), Maksimovic and
Philips (2002), Almeida et al (2011)
− M&A and Financial Frictions: Almeida, Campello, and Hackbarth, (2011) and Erel, Yang and Weisbach (2014).
Lamont (1997): data construction
− Data: COMPUSTAT Segment files − Corporate segment >10% of total sales in ≠ industry reports
segment-level sales, profit and CAPX
− Sample selection:
− All firms with a segment in oil or gas extraction sector.
− Oil-dependent firms=at least 25% of cash-flows come from oil and gas extraction industry.
− Select firms with non-oil related segments (some industry screens (e.g., refining, supplier to oil industry, etc.)+ judgment)
− Exclude segments that mostly operate in oil-dependent regions.
− Delete small segments or those with missing data.
26 (!) oil conglomerates
Data construction (2)
− To be included in the sample, non-oil division must have non-missing data for 1985 (pre-oil shock) and 1986 (post-oil shock)
− Is this ok?
Cash-flow of non-oil division
Non-oil divisions could be in industries with cash-flows <0 correlated to oil prices. Another upward
bias to the <0 effect
Need a control group
Lamont: rise in performance consistent with agency cost explanation Conglomerate managers with no FCF squeeze out profits from non-oil
divisions / like in LBOs. But: Mechanical – even within industries, firms in conglomerates selected to have <0 correlation with oil prices (diversification).
“Net” effect?
− Maksimovic, V., & Phillips, G. (2002). Do Conglomerate Firms Allocate Resources Inefficiently Across Industries? Theory and Evidence. Journal of Finance, 57(2), 721– 767.
− Maksimovic, V., & Phillips, G. (2008). The Industry Life Cycle, Acquisitions and Investment: Does Firm Organization Matter? Journal of Finance, 63(2), 673– 708.
How?
− Solving contract incompleteness (allocation of inputs)
70
Tate, G., & Yang, L. (2015). The Bright Side of Corporate Diversification: Evidence from Internal Labor Markets. RFS
− Compare the earnings of workers in diversified vs non diversified firms when they change
− “A key identification concern is the endogeneity of job changes” Solution? Enough?
The goal:
− “Our main quantity of interest is the frequency with which the firm reallocates retained workers to new industries and how it depends on future opportunities in their existing and new industries”
How would you want to do that?
The answer among conglomerate
+
Interpretation?
Interpretation?
Testing the human capital acquisition story
− “We do not see significant differences between the wage changes of workers who make a switch to a spanned industry and who have or do not have prior experience in the SIC outside the diversified firm in any specification.”
− Conclusion?
How?
− Solving contract incompleteness (allocation of inputs)
78
− Atalay, E., Hortaçsu, A., & Syverson, C. (2014). Vertical Integration and Input Flows. American Economic Review, 104(4), 1120–1148
− Fresard, L., Hoberg, G., & Phillips, G. (2020). Innovation Activities and Integration through Vertical Acquisitions. Review of Financial Studies.
− Nunn, N. (2007). Relationship-Specificity, Incomplete Contracts, and the Pattern of Trade. Quarterly Journal of Economics, 122(2), 569–600.
− Nunn, N., & Trefler, D. (2013). Incomplete contracts and the boundaries of the multinational firm. Journal of Economic Behavior & Organization, 94(0), 330–344.
− Incomplete contracts + multiple stage innovation
− Unrealized (R&D) vs Realized innovation (patents)
− Prediction: − High R&D => less integration
− High patents => more integration
BEA Detailed Item Output Table
Text Based Approach
Text Based Approach
Some surveys
Tate, G., & Yang, L. (2015). The Bright Side of Corporate Diversification: Evidence from Internal Labor Markets. RFS
Matvos, G., Seru, A., & Silva, R. C. (2018). Financial market frictions and diversification. JFE
Some trends
Some trends
The plan
The plan
Why is value destroyed?
Using M&A to measure project NPV: Do overconfident CEO make dummer acquisitions?
Who are the overconfident CEOs?
What are the effects of being overconfident?
What are the effects of being overconfident? (cont’d)
Why is value destroyed?
Slide Number 18
Dealing with non-randomness of M&A: “failed M&A”
Data
Specification
Results
Results
Testing for Investment Distortions
Data
“Net” effect?
How?
Tate, G., & Yang, L. (2015). The Bright Side of Corporate Diversification: Evidence from Internal Labor Markets. RFS
The goal:
Testing the human capital acquisition story
How?
Text Based Approach
Text Based Approach