A causal study of diversification's joint effect on firm performance and risk

This paper estimates the causal effect that firm diversification strategies have on the joint distribution of firm performance and risk. By applying Bayesian causal methods to a dataset of US-based firms, we show and describe how diversification leads to heterogeneous effects on a joint model of firm performance and risk. Across firms, diversification plays a mean-reverting role on performance, but does appear to reduce risk for most firms. Interestingly though, the riskiest firms are shown to become even riskier if choosing to diversify. In addition to these global effects, the paper presents methods for individual firms to assess the potential results of their own diversification possibilities. Our estimates correct for bias introduced by the more prevalent non-causal methods that make up the bulk of existing literature. Lastly, several theoretical and practical implications are provided by this study.