Can Diversification Create Value? Evidence from the Electric Utility Industry


  • We are grateful to Alexander Triantis (Editor), and an anonymous referee for helpful comments and suggestions. The article has also benefited from valuable comments from Murillo Campello, Jonathan Clarke, Craig Doidge, David Hirschleifer, Doug Jones, Simi Kedia, Bernadette Minton, René Stulz, Ralph Walkling, and Karen Wruck. We would also like to acknowledge help from Robert Burns of The National Regulatory Research Institute regarding data on the diversification practices of the electric utility industry. We appreciate research assistance provided by Angie Low and Ming Dong. Tomas Jandik would like to thank the Summer Research Grant Program at the Walton College of Business for support to undertake this research.


Despite SEC and state-level resistance, and contrary to the trend pursued by other firms, many electric utilities have diversified into non-electric and unregulated businesses. Moreover, this failure to focus has been rewarded with higher firm values, again contrary to the discounts documented in the literature for other diversifying firms. Prior literature has questioned whether these premiums (or discounts) can be attributed to diversification per se. Rather, these premiums could arise from the characteristics of the diversifying firms, which have then endogenously chosen to diversify. In a new approach, where regulation can make the diversification decision largely exogenous, we examine the investment policies of the comparable electric-segments in the diversifying and non-diversifying utilities. We find that single-segment electric utilities over-invest compared to diversifying utilities, which explains their diversification premiums and implies that diversification can create value by opening up new investment opportunities.