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Diversification and delegation in firms

Cerasi, Vittoria and Daltung, Sonja (2002) Diversification and delegation in firms. Discussion paper, 403. Financial Markets Group, London School of Economics and Political Science, London, UK.

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Abstract

This paper shows how separation of ownership and control may arise as a response to overload costs, despite agency costs, and how conglomerates arise as solution to information asymmetries in capital markets. In a context where entrepreneurs have the ability to run projects and improve their future cash flow, there could be rationing of credit due to moral hazard between entrepreneurs and investors. Diversification could mitigate the moral hazard problem. However for a single entrepreneur running many different projects might be increasingly costly due to overload costs. Delegating the running of projects to several managers can not only reduce overload costs, but also the moral hazard problem of external financing. In this paper we show that delegation can be the only way to exploit the gains from diversification when overload costs of diversification are high; delegation thus is the key ingredient to be able to diversify.

Item Type: Monograph (Discussion Paper)
Official URL: http://fmg.lse.ac.uk
Additional Information: © 2002 The Authors
Library of Congress subject classification: H Social Sciences > HF Commerce
H Social Sciences > HG Finance
H Social Sciences > HB Economic Theory
Journal of Economic Literature Classification System: L - Industrial Organization > L2 - Firm Objectives, Organization, and Behavior > L22 - Firm Organization and Market Structure: Markets vs. Hierarchies; Vertical Integration; Conglomerates; Subsidiaries
D - Microeconomics > D8 - Information, Knowledge, and Uncertainty > D82 - Asymmetric and Private Information
D - Microeconomics > D2 - Production and Organizations > D23 - Organizational Behavior; Transaction Costs; Property Rights
G - Financial Economics > G3 - Corporate Finance and Governance > G32 - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure
G - Financial Economics > G2 - Financial Institutions and Services > G20 - General
Sets: Research centres and groups > Financial Markets Group (FMG)
Collections > Economists Online
Collections > LSE Financial Markets Group (FMG) Working Papers
Rights: http://www.lse.ac.uk/library/usingTheLibrary/academicSupport/OA/depositYourResearch.aspx
Identification Number: 403
Date Deposited: 19 Aug 2009 11:36
URL: http://eprints.lse.ac.uk/24907/

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