The Effect of Diversification on Firm Performance*

This paper analyses the association between diversification and firm performance in a sample of up to 1449 large Australian firms (1994 to 1997). Firm performance is measured by profitability and, for quoted firms, market value. Results from the full sample show that more focused firms have higher profitability. This result controls for firm specific effects and other determinants of profitability. However, this association is not found in sub-sample regressions for listed firms. This is true both when either profitability or market value are used as a performance measure. The results may indicate that listed firms may be under closer scrutiny and competitive pressures that ensure, on average, that these firms are at their optimal degree of diversification.