Guofu Tan and Lasheng Yuan

"Strategic incentives of divestitures of competing conglomerates "
JEL codes: L10, L22, L40
Keywords: complement, substitute, divestitute, divisionalization, externality

Abstract: In this paper, we provide an alternative theory of divestiture that relies on product-line complementarities and product market competition. We consider a simple environment in which there are two firms, each supplying a group of complementary products, with theproducts across groups being imperfect substitutes. The firms' choices of divesting and pricing are modelled as a two-stage game. The duopolists simultaneously choose their divestiture strategies in the first stage of the game and the independent divisions compete by setting prices in the second. We show that in equilibrium both firms have incentives to divest. Such divestitures increase both the produces of all the products and the profits of the parent firms, but reduce social welfare. Moreover, the degree of divestitures increases as the number of firms increases, suggesting that exogenous factors such as deregulation, trade liberalization and ease of entry may trigger divestiture activities. We further show that if the firms are able to coordinate their divestiture strategies, monopoly prices and profits can be achieved via a non-cooperative pricing game.
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