The Effect of Industrial Diversification on Firm Taxes

Abstract

This study investigates whether there is an empirical basis for one predicted benefit from industrial diversification: whether conglomerate firms obtain greater tax savings than single industry firms. The results suggest that, on average, firms operating in multiple industries incur lower tax liabilities than stand-alone firms. However, whether a firm obtains these benefits is affected by the type of industry-based tax positions available to the firm, the firm’s demand for debt, and its overall risk strategy. For identification, the study uses a triple difference model based on two temporary tax law changes and an instrumental variables analysis from the diversification discount literature. Results from these tests are consistent with a tax advantage from diversification. Overall, the results in the study inform recurring debates in the media and between management and shareholders over the costs and benefits of diversification as a business strategy.