Breaking up Conglomerates is NOT Simply Financial Alchemy!

The most recent "Deal Professor" column on the New York Times' website chronicles the rise and fall of conglomerates, and it describes break-ups of these giants as "financial alchemy." Steven Davidoff, a UConn law professor and former corporate attorney, writes this interesting blog. While I enjoy reading the column, I strongly disagree with the premise of this recent article. The article suggests that the demise of conglomerates may be a fad, much in the way that tracking stocks were a fad during the internet boom. While I agree that trading stocks were a passing fad and perhaps did resemble financial alchemy, I don't think the same holds true for break-ups.

Is there another explanation for the rise and fall of conglomerates, one that would make the case for the efficiency of breaking up these unrelated diversifiers? Of course! Most corporate strategy scholars would argue that conglomerates made more sense in decades past when product, labor, and capital markets were less efficient than they are now. Thus, the corporate parent in one of these conglomerates perhaps could move money and people around more effectively than would otherwise happen if the divisions were completely separate. However, over time, external markets became more and more efficient. Thus, it became hard to justify the notion that the corporate parent could allocate resources more efficiently than the external markets. Moreover, the complexity of these conglomerates, and insufficient transparency, made it very difficult for investors to properly value them. Thus, we have seen the decline of unrelated diversifiers over time. Yet, in emerging markets, conglomerates still exist, and many do quite well. Scholars have argued that it may be because markets are not efficient in those countries, resembling conditions from decades past here in the United States.