The impact of firm diversification and focus: The Japanese experience

Abstract

This paper examines the reaction of Japanese and American firms to the initial public announcement of international mergers, acquisitions, and joint ventures between Japanese and American firms. We study a sample of 111 initial announcements of these events during the period 1980–1991. In addition, of the Japanese firms included in our sample, 60 were members of a Keiretsu. We find that on average both the Japanese and American firms showed a significant positive reaction to the initial public announcement of the event. We also find the reaction of American firms to focused events to be much larger than to non-focused events, 6.2% on the announcement day vs. 1.3%. In contrast, we find that while the overall reaction of Japanese firms to the announcement was positive, the reaction of Japanese firms to focused events was negative and insignificant while the reaction to non-focused events was significant and positive. Upon further examination it is found that non-focus combinations were only significant and positive for Keiretsu firms. The interpretation of these results is that the relationship between Keiretsus and the Japanese firms serves to repress investment in negative net present value projects and subsidization of poorly performing business units, while offsetting the increased cost of information that occurs as a firm diversifies. Moreover, as diversification opens up a larger universe of possible projects and mergers, unfocused mergers and acquisitions may be of more value, provided non-focus agency costs can be controlled.