ABSTRACT
The study examines the role of the coinsurance effect in explaining the diversification discount while explicitly considering risk contamination. Single-segment firms that add business segments from 1984 to 2019 are studied since the coinsurance effect should exist only when diversification changes. Potential risk contamination is addressed by dividing firms into two groups based on whether firm risk increases or decreases when business segments are added. The sample is divided into risk categories based on market value and accounting measures. Consistent with previous studies, excess values for single-segment firms are initially positive but become negative for both risk-based groups when new business segments are added. To determine if the change in excess value is related to the coinsurance effect, an interactive term related to both risk and leverage serves as the coinsurance proxy in fixed-effect regressions. The results reveal a negative coefficient for the interactive term for firms with lower risk and a positive coefficient for the interactive term for firms with higher risk. However, since neither coefficient is statistically significant, the results do not support the coinsurance effect.
Keywords
Diversification discount, coinsurance effect, risk contamination