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Cash Holdings and Corporate Diversification

Authors

  • RAN DUCHIN

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    • Ran Duchin is at Ross School of Business, University of Michigan. I am grateful for very helpful comments from Harry DeAngelo, John Graham, Campbell Harvey, Gareth James, John Matsusaka, Micah Officer, Oguzhan Ozbas, Breno Schmidt, Berk Sensoy, René Stulz, the associate editor, two anonymous referees, and seminar participants at Arizona State University, Hebrew University, University of Arizona, University of Florida, University of Illinois, University of Michigan, University of North Carolina, University of Oregon, University of Pittsburgh, University of Rochester, University of Washington, Vanderbilt, Virginia Tech, and Yale.


ABSTRACT

This paper studies the relation between corporate liquidity and diversification. The key finding is that multidivision firms hold significantly less cash than stand-alone firms because they are diversified in their investment opportunities. Lower cross-divisional correlations in investment opportunity and higher correlations between investment opportunity and cash flow correspond to lower cash holdings, even after controlling for cash flow volatility. The effects are strongest in financially constrained firms and in well-governed firms, and correspond to efficient fund transfers from low- to high-productivity divisions. Taken together, these results bring forth an efficient link between diversification and corporate liquidity.

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