Corporate Diversification and Earnings Quality

The following chapter addresses the accounting implications of corporate diversification by examining the relationship between the coinsurance effect of diversification and earnings quality. In general, coinsurance arises through the combination of imperfectly correlated earnings (cash flows) within a diversified firm and can be beneficial through the reduction of bankruptcy risk (costs), financial constraints or even systematic risk (e.g., Lewellen 1971; Leland 2007; Duchin 2010; Hann et al. 2013). While prior studies find that more severe agency problems of diversified firms reduce the quality of accounting information, I provide an alternative approach to explain how coinsurance benefits affect a firm’s earnings quality.