The Structure and Formation of Business Groups: Evidence from Korean Chaebols

Heitor Almeida, Sang Yong Park, Marti Subrahmanyam, Daniel Wolfenzon

NBER Working Paper No. 14983
Issued in May 2009
NBER Program(s):Corporate Finance

In this paper we study the determinants of business groups' ownership structure using unique panel data on Korean chaebols. In particular, we attempt to understand how pyramids form over time. We find that chaebols grow vertically (that is, pyramidally) as the family uses well-established group firms ("central firms") to set up and acquire younger firms that have low profitability and high capital requirements. Chaebols grow horizontally (that is, using direct family ownership) when the family acquires firms that are highly profitable and require less capital. Our evidence suggests that the (previously documented) lower profitability of pyramidal firms is partly due to a selection effect (e.g., the family optimally places low profitability firms in pyramids). To show this, we examine instances of large changes in the ownership structure of group firms. Specifically, we find that poor past performance predicts an increase in the degree of pyramiding in a firm's ownership structure. Most compellingly, we find that the profitability of new group firms in the year before they are added to the group predicts whether they are added to pyramids or controlled directly by the family. We also examine the relative valuation of chaebol firms. We find that the group's central firms trade at a discount relative to other public group firms possibly due to the selection of low-profitability, high capital intensity firms into pyramids. Our results shed light on the process by which pyramids form, and provide new evidence on the performance and valuation of business group firms.

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Document Object Identifier (DOI): 10.3386/w14983

Published: Journal of Financial Economics Volume 99, Issue 2, February 2011, Pages 447–475 Cover image The structure and formation of business groups: Evidence from Korean chaebols ☆ Heitor Almeidaa, Corresponding author contact information, E-mail the corresponding author, Sang Yong Parkb, Marti G. Subrahmanyamc, Daniel Wolfenzond

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