Date of Award


Document Type


Degree Name

Doctor of Philosophy (PhD)


In perfect capital markets, optimal investment decisions of a firm involve no incentive for a firm to diversify operations. However, in an imperfect capital market where homemade portfolio diversification incurs higher cost or faces restrictions, operational diversification of a firm may be beneficial to its shareholders. A substantial amount of empirical evidence has supported the hypothesis that U.S. investors would have higher risk adjusted performance through international portfolio investment. In reality, however, some major barriers to international diversification have prevented U.S. investors from diversifying internationally. Consequently, it can be expected that multinationality of a firm would be beneficial to investors. This hypothesis is the central issue of this study. The primary purpose of the dissertation is to examine whether foreign direct investments by U.S. multinational firms provide diversification service to shareholders who have some difficulties in diversifying their own portfolios internationally. The importance of examining the existence of diversification service is justified on the ground that it can be one of the most fundamental economic motives behind foreign direct investments. If investors recognize and reward it, multinational firms can reduce their cost of equity. The dissertation is arranged as follows. First, benefits from international portfolio investments are discussed in terms of ex ante and ex post approaches. A survey of barriers to international portfolio investments follows. Consequently, several testable hypotheses with respect to multinationality of a firm are derived and discussed. The major hypothesis of market recognition of diversification service is tested. Various tests are employed with a sample including 135 U.S. based multinational firms and 135 domestic firms. In the residual analysis, the effects of the Interest Equalization Tax in July, 1963 and the Foreign Direct Investment Program in January, 1968 on the values of multinational firms and domestic firms are examined. The overall test results strongly show some evidence in favor of market recognition of multinationality of a firm. However, the results appear to reject the hypothesis of the existence of a diversification service. It can be presumed that there is no diversification service at all or market considers it of little value.