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The role of diversification in the financial sector--论文代写范文

2016-04-25 来源: 51Due教员组类别: 更多范文

51Due论文代写网精选代写范文:“The role of diversification in the financial sector”。多元化经营是指企业加入市场，产品，服务或生产阶段的现有业务，以扩大其业务的战略。多元化的目的是为了让公司进入属于他们的正常经营不同业务线。本文要介绍的就是多元化经营在金融领域的作用。

Diversification is a strategy used by firms to expand their operations by adding markets, products, services, or stages of production to the existing business. The aim of diversification is to allow a company entering lines of business that are different from their normal operations.

Diversification commonly refered as "entering new market with new products" as per Ansoff (1957,1958). However, Rumelt (1974) relates diversification strategy as a firms "commitment to diversity perse, together with the strengths, skills or purpose that span this diversity, shown by the way in which business activities are related to one another'. In an agency point of view, managers diversify mainly through acquisition and this will increase their compensation, job security, or span of control (Amihud and lev (1981); Born, Eisenbeis, and Harn’s (1988)). In an efficiency point of view, diversification will allow firms to reduce specific risk by holding a wider variety of assets and services. (Saunders, Strock, and Travlos (1998)). Manganelli S. and Popov A. (2010) defines diversification as the set of allocations of aggregate output across sectors which minimise the economy’s long term volatility for a given level of long term growth.

However, the interpretation of this empirical finding has been that “diversification destroys value.” Among many other reasons discussed in the literature, Martin and Sayrak (2003), this value destruction could be due to inefficient internal capital markets (Stulz, (1990)) or to influence costs that arise as a result of internal power struggles (Rajan, Servaes, and Zingales (2000)).

1.1 Diversification in the Financial Sector

The most important feature in the diversification strategy of firms in the financial sector is the triple contribution of the commercial banking, investment banking and insurance business, (Insill Yi, 2005). The latter also developed the concept of universal banking which is defined as financial companies offering a wide range of financial products which includes; deposits, loans, foreign exchange transaction, brokerage and issurance of bonds, insurances and asset management among others.

The phenomenon of diversification can be considered as a natural development process of the financial sector and this can be reflected by the transformation of the structure of these firms. Similarly, the Financial Services Modernization Act of 1999 (FSM) made provision for strengthening the overall financial services sector by allowing financial firms to diversify across industries within the financial sector.

1.2 Transformation in the financial sector

Since the mid 1990s huge changes has been encountered in the financial services industry. The impact of, amongst other things, information technology, deregulation and liberalisation has changed and reshaped the financial landscape forever, (Ruding H. O. 2002). Apart from the conventional economic and population growth, banks and insurance firms now fight fiercely for market share and resort to diversification to grow their portfolios.

It may also be argued that the convergence in the financial sector can be considered as an example of diversification.

1.3Drivers leading firms to diversify

Thomas Egan and Chong Ng (1992) stated that the retail financial services industry is facing major changes. That is, traditional retail financial services providers’ such as bank and security firms are prodded with new and unique techniques. The latter stated that domestic banks, traditional providers of financial services, have adopted new competitive strategies. The primary objective is to promote growth. This is usually achieved by increasing market share, searching for new revenue streams by entering into new markets and acquisitions or through joint ventures, simultaneously reducing their operating costs and also diversify risks.

This transformation is mainly driven by technological innovation; also a deregulation of financial services at national level to open to international level competition. Equally, important change takes place in corporate behavior, such as growing disintermediation and increased emphasis on shareholder value.

Hence, the financial services industry is rapidly reshaping itself so as ‘to look for new opportunities for growth outside conventional business lines.’ Some of the most important drivers leading the financial services industry to diversify and adopt new strategies are mentioned below.

Technological innovations have fostered an extensive expansion of the financial sector worldwide since the last decade. Barth et al. (2004) stated that this has lead to the economic growth of this sector and hence provide greater efficiency in foreign banking markets, improving the accessibility of foreign individuals and firms to financial goods and services, and providing foreign counties greater access to international capital.similarly, Petersenand Rajan (2002), considers that Competition has intensified with the advent of new technology since more firms are entering the traditional market space. Hence, as per Stewart (2000) and Egan et Al (1992), to be able to cope with the dynamic financial world, firms need to invest massively in new technology like, E-banking, sms banking, automated teller machines among other to remain competitive.

Globalisation has been the buzzword of economics today (Hudson G.). This has lead to the liberalization of the global market and more flexible regulation has been established to promote the movement of firms worldwide. As stated by Ansoff (1979), these firms have been able to provide a wider range of products and services and will be able to further diversify their business activity. As a consequence, firms have been more competitive and efficient (Aarcis, 1980). However, due to the recent financial crisis, new legal framework and control will be set up to monitor the transaction occurring in the financial sector overall.

1.4 Types of diversification

When the new venture is strategically related to the existing lines of business, it is called concentric diversification. Conglomerate diversification occurs when there is no common thread of strategic fit or relationship between the new and old lines of business; the new and old businesses are unrelated.

Five types of diversification:

Single-business

Dominant-business

Related-constrained

Related-linked

Unrelated

1.5Related and unrelated diversification

Concerning the conditions under which diversification is likely to create value, confusion has promoted empirical inquiry of specifics forms of diversification. For example, various scholars such as Rumelt (1982); Beths and Mahajain (1985); Maskides and Willamsons (1994); Robins and Wiorsema (1995); Palich, Cardinal and Miller (2000) found that more value is created by related diversification rather than unrelated diversification.

However, even if, on average related diversification may be creating more value than unrelated diversification, some firms may actually be destroying value from related diversification while others are creating value from unrelated diversification. Similarly, Acemoglu and Zilibotti (1997), claim that diversification occurs endogenously as a result of the agents’ decisions to invest in a range of imperfectly correlated projects. Hence, on this basis as well, it becomes difficult to generate from average effects.

To conclude, like many phenomena in the field of strategy, diversification makes a different effect on each and every firm depending on the firm’s unique position, resources and capabilities.

1.6 Reasons for diversification

Diversification strategies to enhance or increase the strategic competitiveness of the overall organization may be implemented by companies. The value of the business increase when they are successful. Both related and unrelated diversification can create value if the strategies enable the company’s mix of business to increase revenues and/or decrease costs when their respective business-level strategies are implemented.

To obtain market power, relative to their competitors, companies may also implement a diversification strategy, which is either value neutral, or results in their devaluation. This diversification may neutralize a competitor’s market power or reduce manager’s employment risk (that is, when a dominant-business company fails as compared to this risk when a single business fails but is only part of a diversified company, there is the risk of the CEO being unemployed) or to increase managerial compensation because diversification is positively related to company size and compensation.

Corporate strategies has thus, been found to expand scope of operations through diversification into new businesses. Assuming of an efficient market, there is yet no evident rational for the company to acquire another, particularly less efficient or unrelated business.

1.7 Advantages of Diversification strategy

Economies of scale and scope (synergy) through activity-sharing and transfer core competencies (Chandler 1977; Teece 1982; Berlin 1999)

Merging two companies producing similar products allow a firm to poll production and attaining a lower operating cost. The company may come from reduced overhead or the ability to have a larger production amount over lower (consolidated) fixed costs. Differential management capabilities may also take place such that a less efficient firm may be acquired by a more efficiently managed one to bring a better management to the business. Through pooled financial resources or simply pooled risk, efficiencies may also be gained.

Market power motives(related diversification) by vertical integration or blocking competitors through multipoint competition (Montgomery 1994)

A firm’s market share can be increased by mergers and acquisitions when both firms are in the same business. However, market share does not necessarily translate to higher profits or greater value for owners unless sit substantially reduces market rivalry. Then, the problem is the prospect of anti-trust action by the Justice Department.

Profit stability

Variations in corporate profits can be reduced by the acquisition of the new business by expanding the corporation’s lines of business. This typically occurs when sales of the core business are seasonal or cylindrical. For instance, farmers ensure year-round income from scale of products by planting a spring crop and a fall crop.

Diversification also makes sense when the core product market is uncertain. Hence, diversification strategies also apply to general cases of spreading market risks. This is to say: adding products to existing lines of business can be considered as being analogous to an investor investing in multiple stocks to ‘spread the risks’.

Financial theorists argue that the corporation due to the impact of diversified business portfolios has replaced the traditional role of the investor in picking winners and losers in the industry investments for corporations. This has given rise to the agency problem: why should investors protect management from market risks by funding of the firm-the risk minimization benefit accrues to the manager in terms of job security.

Improve financial performance-financial economies motives to improve efficiency of capital allocation through an internal capital or by destructing the portfolio of business

Large firms can invest the cash generated in other ventures. The firm acts as a banker of an internal capital market. Moreover, core business can sustain itself on its money making ventures, using this cash flow to generate additional profits in new ventures.

Growth

Some authorities cite diversification as being the main reason for growth. Contrary to neutral growth (in which a longer period is required for planning, developing and implementing a new project), an acquisition or merger can be achieved quite quickly with staff, technology, systems and experience immediately available. Merger and acquisition is also a way to increase growth.

1.8 Diversification in the Banking sector

The 21st century has been a complete transformation in the banking system. The major banks in the banking industry has become more complex and they offer a wider variety of products and services to international markets and control billions of dollars in cash and assets. Being implemented by the latest technology, banks are now looking for new opportunities in new business, to develop personalize service to customers, to implement innovative strategies and to capture new market opportunities. Moreover, with the globalization reaching more and more countries, the financial sectors worldwide will be more diversified. Although, there has been two different type system, i.e. commercial and investment banking, since the recent decade a convergence between the activities of the commercial and investment banking has been observed. This is again mainly due to the deregulation in the financial sector. Today, both type of banking institutions can compete to each other in the money market operations, private placements, projects, project finance, bonds underwriting and financial advisory work.

Moreover, in the new era of modernization, banking industry has brought greater business diversification. Some banks have entered into investments, underwriting of securities, portfolio management and the insurance businesses. Hence, these changes have made banks an even more competitive.

As stated by Rumelt, (1974) Banks adopt diversification move as a part of growth strategy and they may choose to expand their busniess via diversifying geographically or/and via product market diversification. That is by adding new products and business lines.

1.9 Diversification in the Insurance sector

Insurance companies can be considered as one of the major types of financial intermediaries. They collect premiums from investors and funds from the government. Previously insurance companies were only operating in only life, health and general insurance. However, with modernisation and increasing competitions from other firms, they have to diversify into new fields. Now they are engaged in pension schemes, mutual funds, asset management etc.

In 2008, the worldwide insurance premiums were to have increased to US$ 4,270bn: US$ 2,490 bn for life insurance premiums and US$ 1,779 bn for non-life. Since 1980, it was the first time that premiums declined in real terms: life decreased by 3.5% while non-life fell by 0.8%.

For both life and non-life insurance business, Africa contributed to 1.3% of the total world premium. Mauritius contributed 0.8% to the African insurance market. Also, being on the 84th rank worldwide, Mauritius contributed 0.01% to the world total premium volumes. [1]

Vittas D. (2003) stated in report that if the insurance companies are to remain efficient, their main challenges will lie in strengthening the effective supervision and modernizing the legal and regulatory framework.

1.10The Concept of Diversification and other variables

Diversification and Growth

G. J. Thomas considers diversification is a form of growth strategy which involves a significant increase in performance objectives like sales or market share beyond past levels of performance. Bosworth et al, 1997 stated that management preferences may promote forms growth or other objective rather than profitability, since diversification allows for faster growth than is possible by increasing market share, or benefiting from demand increase, in a single market.

Diversification and risk

Ines Kahloul and Slaheddine Hallara (2000), stated that risk and its component increases with level of diversification. However martinet (2006) considers that the concept of diversification is used to distribute the risk. Amihud and Lev, (1981); Wright and al, (2007) also consider that diversification is a mean for the reduction of risk. As per Sethi J. and Bhatia N. (2007) there is a possibility of reducing risk though diversifying in universal financial services.

Diversification and profitability

Roger (2001) stated that more focused firms are more profitable because low profitable firms diversify in search of higher profits. Moreover, since some firms consider diversification as a means to reduce risk and they readily accept a lower margin of profit.

Rumelt (1974) found that corporate profitability differed significantly across groups of firms following different 'strategies' of diversification. Hence, the highest levels of profitability were firms having a strategy of diversifying primarily into those areas of the same line of business.

Diversification and firm’s value

Over the last two decades, empirical evidence published on the wealth effects of corporate diversification has created lot of divergence of opinion. Before the mid 1980s, Jensen and Ruback, (1983) and Bradley, Desai, and Kim, (1988), stated that diversifying acquisition was normally associated with a small positive impact on the shareholders wealth. More recently in the 21st century, Billett and Mauer (2000a, b) and Hadlock, Ryngaert, and Thomas (2001) provide evidence to suggest that diversification may enhance firm value. However researchers like Lang and Stulz, (1994); Servaes, (1996); and Berger and Ofek, (1995), (1999), suggested that diversification may decrease shareholder wealth.

1.11 New diversifying opportunities in the financial sector

Scholtens and Wensveen (1999) state that; for financial institutions to remain competitive in the international market, they need to implement their portfolio of products and services and look for new financial innovations. The is mainly due to the increasing competition encountered by the banking and insurance firms because of the emergence of non banking institutions like mutual funds, credit union, shariah compliant institutions, and financial services firms etc.

Bancassurance and Assurfinance

Bancassurance is one of the major developments in the financial services sector since the recent few years. Banking and insurance firm consider bancassurance to be an attractive and profitable way to supplement their existing activities.

According to the Life Insurance Marketing and Research Association’s (LIMRA’s) insurance dictionary bancassurance can be define as “the provision of Life insurance services by banks and building societies”. Similarly, (Alan Leach, 2000) describes bancassurance as “the involvement of banks, savings banks and building societies in the manufacturing, marketing or distribution of insurance products”. According to the report of the Munich Re Group on Bancassurance, it is defined as follows “Bancassurance is the provision of insurance and banking products and services through a common distribution channel and/or to the same client base.”

The following reasons have made the success of Bancassurance:

Banks have used their existing outlets to sell insurance.

Promote one to one contact with client

Tailor made products will be made available to customers at one-stop-shopping convenience.

Bancassurance is considered to be much more cost efficient compared to the traditional insurance selling.

However, Insurers has reacted positively to the emergence of bancassurance. They have consequently strengthened and improved their existing distribution network. Furthermore, financial products offered by insurance companies were upgraded. Consequently, they have come up with the concept of Assurfinance, whereby insurance companies have started trading in other financial products apart from conventional insurance policy.

Islamic Finance

Since, the beginning of the millennium, we have witness a fast development in Islamic finance products. Professional bankers and Shari’ah specialists have been breathlessly racing to invent new Islamic financial products that mimic or replace every single interest-based contract that comes in the conventional market in a rushing attempt to fill in all gaps and satisfy every financing need that may be thought of (Monzer Kahf 2006).

The main principles of Islamic finance include:

Prohibition of taking or receiving interest;

capital must have a social and ethical purpose beyond pure, unregulated return;

investments in businesses dealing with items like (alcohol, gambling, drugs, etc) that the Shari’ah considers unlawful are deemed undesirable and prohibited;

a prohibition on transactions involving masir that is, speculation or gambling; and

a prohibition on gharar, or uncertainty about the subject-matter and terms of contracts – this includes a prohibition on selling something that one does not own.

Khan and Ahmad(2003) argued that Islamic banks not only face the type of risks that conventional banks face but they are also confronted with “new and unique risks as a result of their unique asset and liability structures.” They also stated that, this new type of risks is an immediate outcome of their compliance with the Shari’ah requirement and this nature of risk which does not require collateral of asset (Errico and Farahbaksh,1998) are different from conventional banks risk.

Pension funds

(Davis 1995a) defines pension fund as forms of institutional investor, which collect and invest funds contributed by sponsors and beneficiaries to provide for the future pension entitlements of beneficiaries. Hence, pension fund provide an individual the facility to make saving during their working life and to finance their consumption needs in retirement, either by means of a lump sum or by provision of an annuity, while also supplying funds to end-users such as corporations, other households or governments for investment or consumption. Pension funds have encountered a positive growth since the new decade in developed as well as developing countries. Moreover, pension funds have an important indirect role to play in boosting the efficiency of the financial systems, by influencing the structure of securities markets. As per (Bodie 1990b, 1999), pensions funds may act as institutions investors and can therefore make the use of derivatives and other means of risk control and may also trade in financial innovation products to cater the demand of the public.

Characteristics of pension:

risk pooling for small investors, providing a better spread of risk

a premium on diversification is obtained by both holding a spread of domestic and international investment;

Provides more liquidity, and hence for large and liquid capital markets, which trade standard or 'commoditised' instruments;

pension funds rely on public information rather than private, which links strongly to their desire for liquidity;

2. Empirical Review

2.1 Relationship between Diversification and Firm Performance

According to Palish and al. (2000), the theme of the diversification- performance relation is far from being exhausted. This is so, as each researcher has a different point of view about the concept of diversification.

Kahloul and Hallara (2000) carried out a study between the relationship between the level of diversification and the firm performance. Longitudinal data of sample of 69 firms were used to analyse the performance of the company. Return on Assets (ROA) was the proxy to access the level of performance of the firms and GROWTH was the explanatory factor for firm performance. Consequently, a non linear relationship was obtained and (Kahloul and Haallara 2000) have suggested an intermediary strategy between diversification and specialization.

Similarly, Rogers (2001), investigate the role of diversification on firm performance, and find out that in case where there is intense competition, no relationship can be expected diversification and performance.

Pandya and Rao (1998) conducted a study on the relationship between firm diversification and its performance. The result obtain indicated that on average highly diversified firms tend to perform better as compared to undiversified firms on the risk and return. The variables used to evaluate the firm and managerial performance are as follows; ROE, ROI, ROA, ROC and ROS.

The reason for using these measures is to evaluate managerial performance and how well is a firm's management using the assets to generate accounting returns on investment, assets or sales. Since accounting conventions make these variables unreliable, financial economists prefer to use market returns or discounted cash flows as measures of performance. Hence, the following variable can be used.

Return on equity (ROE) is normally used in judging top management performance, and for making executive compensation decisions. It is also used to calculate the average return on equity (AROE) across firms.

ROE (return on Equity) =net income divided /stockholders equity.

ROA (Return on asset) is the most frequently used performance measure in previous studies.

ROA= net income / divided by the book value of total assets.

Some studies suggest that diversifying in related product will generate higher returns as compared to unrelated product and also stated that less diversified firms perform better than highly diversified firms (Christensen and Montgomery 1981, Keats 1990, Michel and Shaked 1984, Rumelt 1974, 1982, 1986).

Likewise, apart from diversification types and the industry structure, Simmonds (1990), Lamont and Anderson (1985) have found those related diversified firms perform better than unrelated diversified firms.

However some claims that the economies in integrating operations and core skills obtained in related diversification outweigh the costs of internal capital markets and the smaller variances in sales revenues generated by unrelated diversification (Datta, Rajagopolan and Rasheed 1991). Prahalad and Bettis (1986) agreed that related strategy is better than unrelated, and they stated that the insight and the vision of the top managers in choosing the right strategy is derteminent.

Rumelt P. (1982) studied the effect of diversification strategy and profitability. The latter selected a target population of 273 of firms from 1949 to 1974. The firms degree of diversification was evaluated as follows:

Single business

Dominant vertical

Dominant constrained

Dominant Linked- unrelated

Related constrained

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The role of diversification in the financial sector--论文代写范文