Ch. 8: Conglomerate Firms and Internal Capital Markets 457
He also computes the firm’s imputed use of external capital: for each of the diversified
firms’ divisions he computes the external capital that would have been raised by the been
the median single-segment firm in the same 3-digit SIC code as the division. These
estimates are then weighted by divisional sales to obtain the firm’s imputed net external
capital need. The firm’s excess net external capital (EEC) raised by the diversified firm
is then computed as
EEC=Net external capital used−Imputed net external capital used
Lagged book value of assets.
Peyer estimates the following regression:EEC=αi+βi+γ 1 (ICM size)i,t+γ 2 (ICM efficiency)i,t− 1
+γ 3 (Informational asymmetry)i,t− 1
+γ 4 (Informational asymmetry×ICM efficiency)i,t− 1
+γ 5 (Capital need)i,t+γ 6 (Relative value)i,t− 1 +γ 7 (Firm size)i,t− 1.
Motivated byStein (1997), Peyer uses the inverse of the Herfindahl index and the
coefficient of variation inqacross the firm’s divisions as measures of Internal Capital
Market (ICM) size.^30
As a measure of ICM efficiency use RSZ’s Relative Value Added by Allocation
(RVA), where RVA is defined as
RVAj=∑nk= 1BAjk
BAj(qjk− ̄qj)×IAIjk,where BAjis the book value of assets of firmj,BAjkis the book value of assets of
segmentkandIAI is a measure of the excess investment in segmentk.^31
RVA has the following interpretation: IAI is given a positive weight when the division
has relatively good investment opportunities(qj− ̄q> 0 )and a negative weight when
the firm has relatively bad investment opportunities (qj− ̄q<0). Thus a positive RVA
indicates that the ICM is efficient because additional investment in being channeled into
segments with better than average (for the firm) investment opportunities.
Peyer uses several measures of informational asymmetry: the ratio of intangible to
tangible assets, residual variance of daily stock returns and the dispersion in analysts’
forecasts. He also computes two additional variables. Excess capital need is measured
by Excess internal cash flow=(internal cash flow−imputed internal cash flow)/lagged
book value of assets. Relative firm valuation (to control for the propensity of firms to
(^30) Peyer also uses diversity as a measure in one of his runs. FollowingRajan, Servaes and Zingales (2000)
diversity is defined as the standard deviation of the segment asset-weighted imputedqdivided by the equally
weighted average imputed segment q. As noted above, RSZ predict a negative relation between diversity and
ICM efficiency.
(^31) We discuss the IAI below. Other measures of excess investment used by Peyer perform similarly.