The Impact of International and Industrial Diversification Strategies on Firms’ Overinvestment of Free Cash Flow

Abstract

We examine the quarterly data of Compustat’s all active and research firms from the first quarter of 1999 to the fourth quarter of 2005. Using a dataset that includes more than 79,000 firm quarters, we look at the impact of diversification on the firms' tendency to over-invest their free cash flow. Our fixed-effects regressions show positive and significant effect of the interaction between industrial diversification and free cash flow on the degree of over-investment. That is, firms tend to over-invest their free cash flow as they become more industrially diversified.