Hostname: page-component-78c5997874-xbtfd Total loading time: 0 Render date: 2024-11-15T20:41:10.229Z Has data issue: false hasContentIssue false
  • English
  • Français

Agency Costs of Debt in Conglomerate Firms

Published online by Cambridge University Press:  14 October 2021

Michela Altieri Open the ORCID record for Michela Altieri [Opens in a new window]
Michela Altieri*
Affiliation:
Luiss Guido Carli Department of Business and Management
*
maltieri@luiss.it
Rights & Permissions [Opens in a new window]

Abstract

Core share and HTML view are not available for this content. However, as you have access to this content, a full PDF is available via the ‘Save PDF’ action button.

I use an accounting reform to assess the agency cost of debt in diversified firms. Those firms that switch from single to multiple segments following the reform suffer a 12% increase in their bond spread when compared with their stand-alone peers. Consistent with lenders anticipating underinvestment and asset-substitution incentives, diversified firms with high cash-flow volatility across divisions suffer the highest increase in borrowing costs. I employ a novel approach that allows abstracting from unobservable characteristics that would otherwise influence the pricing of diversified firms’ debt.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 57 , Issue 8 , December 2022 , pp. 3048 - 3080
Creative Commons
Creative Common License - CCCreative Common License - BYCreative Common License - NCCreative Common License - ND
This is an Open Access article, distributed under the terms of the Creative Commons Attribution-NonCommercial-NoDerivatives licence (https://creativecommons.org/licenses/by-nc-nd/4.0/), which permits non-commercial re-use, distribution, and reproduction in any medium, provided the original work is unaltered and is properly cited. The written permission of Cambridge University Press must be obtained for commercial re-use or in order to create a derivative work.
Copyright
© The Author(s), 2021. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

Footnotes

I thank an anonymous referee and Paul H. Malatesta (the editor) for a careful and constructive review of the article. This article received useful comments by Tanja Artiga-Gonzales, Marc Deloof, Florian Heider, Elisabeth Kempf, Marie Lalanne, and Giovanna Nicodano. I also thank the participants in the finance seminars at SAFE (Goethe University), Tilburg University, Maastricht University, European Central Bank Financial Research Division, Vrije University Amsterdam, the University of Melbourne, and HEC-Montreal. I also thank the participants at the 2018 CICF conference, Ni Chenkai and Vojislav Maksimovic for acting as discussant, the participants at the 2017 EFA Annual Meeting, at the World Finance conference, and at the 2019 ESSFM (Corporate Finance Week) in Gernzensee. This research did not receive any specific grant from funding agencies in the public, commercial, or not-for-profit sectors. All errors are mine. The usual disclaimer applies.

References

Almeida, H., and Philippon, T.. “The Risk-Adjusted Cost of Financial Distress.” Journal of Finance, 62 (2007), 2557–2586.Google Scholar
Barton, J., and Simko, P. J.. “The Balance Sheet as an Earnings Management Constraint.” Accounting Review, 77 (2002), 1–27.CrossRefGoogle Scholar
Berger, P. G., and Hann, R.. “The Impact of SFAS No. 131 on Information and Monitoring.” Journal of Accounting Research, 41 (2003), 163–223.Google Scholar
Berger, P. G., and Hann, R.. “Segment Profitability and the Proprietary and Agency Costs of Disclosure.” Accounting Review, 82 (2007), 869–906.CrossRefGoogle Scholar
Berger, P. G., and Ofek, E.. “Diversification’s Effect on Firm Value.” Journal of Financial Economics, 37 (1995), 39–65.Google Scholar
Bessembinder, H.; Kahle, M. K.; Maxwell, W. F.; and Xu, D.. “Measuring Abnormal Bond Performance.” Review of Financial Studies, 44 (2009), 4219–4258.CrossRefGoogle Scholar
Billet, M. T.; King, T. H.; and Mauer, D.. “Growth Opportunities and the Choice of Leverage, Debt Maturity, and Covenants.” Journal of Finance, 62 (2007), 697–730.Google Scholar
Botosan, C. A., and Stanford, M.. “Managers’ Motives to Withhold Segment Disclosures and the Effect of SFAS No. 131 on Analysts’ Information Environment.” Accounting Review, 80 (2005), 751–771.Google Scholar
Burgstahler, D., and Dichev, I.. “Earnings Management to Avoid Earnings Decreases and Losses.” Journal of Accounting and Economics, 24 ( 1997), 99–126.Google Scholar
Burgstahler, D., and Eames, M.. “Management of Earnings and Analysts’ Forecasts to Achieve Zero and Small Positive Earnings Surprises.” Journal of Business Finance & Accounting, 33 (2006), 633–652.Google Scholar
Campa, J. M., and Kedia, S.. “Explaining the Diversification Discount.” Journal of Finance, 57 (2002), 1731–1762.CrossRefGoogle Scholar
Campello, M.; Graham, J. R.; and Campbell, R. H.. “The Real Effects of Financial Constraints: Evidence from a Financial Crisis.” Journal of Financial Economics, 97 (2010), 470–487.CrossRefGoogle Scholar
Cho, J. Y. “Segment Disclosure Transparency and Internal Capital Market Efficiency: Evidence from SFAS No. 131.” Journal of Accounting Reform, 53 (2015), 669–723.CrossRefGoogle Scholar
Coase, R. H. “The Nature of the Firm.” Economica, 4 (1937), 386–405.CrossRefGoogle Scholar
Collin-Dufresne, P., Goldstein, R., and Martin, J. S.. “The Determinants of Yield Spread Changes.” Journal of Finance, 56 (2001), 2177–2207.Google Scholar
Dechow, P.; Sloan, R. G.; and Sweeney, A. P.. “Detecting Earnings Management.” Accounting Review, 70 (1995), 193–225.Google Scholar
Duchin, R., and Sosyura, D.. “Divisional Managers and Internal Capital Markets.” Journal of Finance, 68 (2013), 387–429.CrossRefGoogle Scholar
Fama, E., and French, K.. “Common Risk Factors in the Returns on Stocks and Bonds.” Journal of Financial Economics, 33 (1993), 3–56.CrossRefGoogle Scholar
Flannery, M. J.; Houston, J. F.; and Venkataraman, S.. “Financing Multiple Investment Projects.” Financial Management, 22 (1993), 161–172.CrossRefGoogle Scholar
Franco, F.; Urcan, O.; and Vasvari, F. P.. “Corporate Diversification and the Cost of Debt: The Role of Segment Disclosures.” Accounting Review, 91 (2016), 1139–1165.CrossRefGoogle Scholar
Gahlon, J. M., and Stover, R. D.. “Diversification, Financial Leverage and Conglomerate Systematic Risk.” Journal of Financial and Quantitative Analysis, 14 (1979), 999–1013.Google Scholar
Gomes, J. F., and Livdan, D.. “Optimal Diversification: Reconciling Theory and Evidence.” Journal of Finance, 59 (2004), 507–535.Google Scholar
Gopalan, R.; Nanda, V.; and Seru, A.. “Affiliated Firms and Financial Support: Evidence from Indian Business Groups.” Journal of Financial Economics, 86 (2007), 759–795.Google Scholar
Hann, N.; Ogneva, M.; and Ozbas, O.. “Corporate Diversification and the Cost of Capital.” Journal of Finance, 68 (2013), 1961–1999.CrossRefGoogle Scholar
Harris, M. S. “The Association Between Competition and Managers’ Business Segment Reporting Decisions.” Journal of Accounting Research, 6 (1998). 111–128.CrossRefGoogle Scholar
Healy, P. M., and Palepu, K. G.. “Information Asymmetry, Corporate Disclosure, and the Capital Markets: A Review of the Empirical Disclosure Literature.” Journal of Accounting and Economics, 31 (2001), 405–440.CrossRefGoogle Scholar
Herrmann, D., and Wayne, T.. “An Analysis of Segment Disclosures Under SFAS No. 131 and SFAS No. 14.” Accounting Horizons, 14 (2000), 287–302.CrossRefGoogle Scholar
Hoang, D., and Ruckes, M. E.. “Informed Headquarters and Socialistic Internal Capital Markets.” Review of Finance, 19 (2015), 1105–1141.Google Scholar
Hoberg, G., and Phillips, G.. “Product Market Synergies and Competition in Mergers and Acquisitions: A Text-Based Analysis.” Review of Financial Studies, 23 (2010), 3773–3811.CrossRefGoogle Scholar
Irani, R. M., and Oesch, D.. “Analyst Coverage and Real Earnings Management: Quasi-Experimental Evidence.” Journal of Financial and Quantitative Analysis, 51 (2016), 589–627.Google Scholar
Jensen, M. C. “Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers.” American Economic Review, 76 (1986), 323–329.Google Scholar
Jensen, M. C., and Meckling, W. H.. “Theory of the Firm: Managerial Behavior, Agency Costs and Ownership Structure.” Journal of Financial Economics, 3 (1976), 305–360.CrossRefGoogle Scholar
Jones, J. J. “Earnings Management During Import Relief Investigations.” Journal of Accounting Research, 29 (1991), 193–228.Google Scholar
Kim, B.-H.; Kim, H.; and Lee, B.-S.. “Spillover Effects of the U.S. Financial Crisis on Financial Markets in Emerging Asian Countries.” International Review of Economics & Finance, 39 (2015), 192–210.CrossRefGoogle Scholar
Kim, E. A., and McConnell, J. J. “Corporate Mergers and the Co-Insurance of Corporate Debt.” Journal of Finance, 32 (1977), 349–365.CrossRefGoogle Scholar
Kolasinski, A. C. “Subsidiary Debt, Capital Structure and Internal Capital Markets.” Journal of Financial Economics, 94 (2009), 327–343.CrossRefGoogle Scholar
Kuppuswamy, V., and Villalonga, B.. “Does Diversification Create Value in the Presence of External Financing Constraints? Evidence from the 2007–2009 Financial Crisis.” Management Science, 62 (2015), 905–923.CrossRefGoogle Scholar
Lambert, R. A. “Income Smoothing as Rational Equilibrium Behavior.” Accounting Review, 59 (1984), 604–18.Google Scholar
Lang, H. P., and Stulz, R.. “Tobin’s Q, Corporate Diversification and Firm Performance.” Journal of Political Economy, 102 (1994), 1248–1280.Google Scholar
Lewellen, W. G. “A Pure Financial Rationale for the Diversified Firm Merger.” Journal of Finance, 26 (1971), 521–537.Google Scholar
Maksimovic, V., and Phillips, G. M.. “Conglomerate Firms, Internal Capital Markets, and the Theory of the Firm.” Annual Review of Financial Economics, 5 (2013), 225–244.CrossRefGoogle Scholar
Myers, S. “Determinants of Corporate Borrowing.” Journal of Financial Economics, 5 (1977), 147–175.CrossRefGoogle Scholar
Nagar, V.; Nanda, D.; and Wysocki, P.. “Discretionary Disclosures and Stock-Based Incentives.” Journal of Accounting and Economics, 34 (2003), 283–309.CrossRefGoogle Scholar
Rajan, R.; Servaes, H.; and Zingales, L.. “The Cost of Diversity: The Diversification Discount and Inefficient Investment.” Journal of Finance, 55 (2000), 35–80.CrossRefGoogle Scholar
Scharfstein, D., and Stein, J.. “The Dark Side of Internal Capital Markets: Operating Company Rent-Seeking and Inefficient Investments.” Journal of Finance, 55 (2002), 2537–2564.CrossRefGoogle Scholar
Stulz, R. “Managerial Discretion and Optimal Financing Policies.” Journal of Financial Economics, 26 (1990), 3–27.CrossRefGoogle Scholar
Villalonga, B. “Diversification Discount or Premium? New Evidence from the Business Information Tracking Series.” Journal of Finance, 59 (2004a), 479–506.CrossRefGoogle Scholar
Villalonga, B. “Does Diversification Cause the Diversification Discount?” Financial Management, 10 (2004b), 5–29.Google Scholar
Whited, T. M. “Is It Inefficient Investment That Causes the Diversification Discount?” Journal of Finance, 56 (2001), 1667–1692.CrossRefGoogle Scholar
Whited, T. M., and Wu, G.. “Financial Constraints Risk.” Review of Financial Studies, 19 (2006), 531–559.CrossRefGoogle Scholar
Supplementary material: PDF

Altieri supplementary material

Altieri supplementary material

Download Altieri supplementary material(PDF)
PDF 298.6 KB