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Corporate Governance and Firm Diversification
Financial Management (Financial Management Association), Spring, 2000 by Ronald C. Anderson, Thomas W. Bates, John M. Bizjak, Michael L. Lemmon
To provide additional evidence on the efficacy of corporate governance in diversified firms, Table V presents results from logistic regressions relating the effects of firm performance on CEO turnover across single and multi-segment firms. The dependent variable in each model is an indicator variable equal to one if the CEO left the firm in that year. Independent variables include a multi-segment dummy variable equal to one if the firm has more than one business segment, the firm's stock returns over the prior year, and the interaction of prior year stock returns with the multi-segment dummy variable. Stock returns are included to account for the previously documented relationship between poor performance and CEO turnover (Warner, Watts, and Wruck, 1988; and Weisbach, 1988). The coefficient on the interaction term measures the marginal impact of performance on turnover in diversified firms. If managers in diversified firms are more entrenched than their counterparts in focused firms then we expect to find a positive coefficient on this interaction term indicating that turnover is less sensitive to performance in diversified firms. We also include a dummy variable equal to one if the CEO is 64 or older to control for the effects of retirement and succession not associated with performance.
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Excluding the multi-segment dummy, Model 1 demonstrates that, similar to other studies, turnover is negatively related to prior year stock returns. When we include the multi-segment dummy and interact that variable with prior year stock returns in Model 2, we find that the coefficient on the interaction term is positive but not statistically significant (p-value=0.664). This finding suggests that turnover is no less sensitive to firm performance in multi-segment firms. In addition, after controlling for the effect of performance, the significant positive coefficient estimate on the multi-segment dummy (p-value=0.075) indicates that turnover is, on average, more likely in diversified firms. These findings are not consistent with the view that managers in diversified firms are more entrenched than their counterparts in more focused firms.
B. Ownership Structure and Board Composition
Table VI presents results from Fama-Macbeth regressions examining the association between diversification and the non-compensation components of governance including ownership structure, blockholdings, and the size and makeup of the board of directors. To capture the effects of diversification on corporate governance, in each model specification we include a dummy variable equal to one if the firm reports more than a single business segment. We also include firm size (measured as the log of total assets), R&D expenditures, a regulation dummy, and CEO tenure as independent control variables.
Model 1 documents the relation between diversification and the structure of equity ownership. As in Denis, Denis, and Sam (1997), we find that CEO equity ownership is negatively related to diversification. Our results indicate, however, that the coefficient estimates on the equity holdings of the CEO are sensitive to the model specification. When CEO tenure is not included (Model 1), diversification lowers CEO ownership by about 3% (p-value = 0.00). Including CEO tenure (Model 2) reduces this diversification effect by nearly one-half. The effect of tenure on ownership is consistent with our earlier finding that the rate of CEO turnover is higher in diversified firms and with the fact that new CEOs generally have lower stock holdings than experienced CEOs. Our findings corroborate the previous evidence that diversification is associated with lower inside holdings, but suggests that the differences may not be as large as previously documented.
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