7-5 Diversification and Value Additivity ​
Diversification reduces risk and therefore makes sense for investors. But does it also make sense for the firm? Is a diversified firm more attractive to investors than an undiversified one?
If investors were not able to hold a large number of securities, then they might want firms to diversify for them. But investors can diversify. They can do those in many more ways and easier ways than firms can do.
Investors can invest in the steel industry this week and pull out next week. A firm is not capable of doing this, because the firm would have to acquire a steel company or to start up a new steel making operation.
If investors can diversify on their own account, they will not pay extra for firms that diversify.
Also, the investors have plenty of options to invest non-diversified so they also won't pay less because they are unable to invest seperately.
In countries with large and competitive capital markets, diversification does not add to a firm's value or substract from it. -> total value of a firm is the sum of its parts.