Focused companies generally outperform diversified ones, but moderately diversified companies do at least as well—and sometimes better.

Financial markets tend to value focused companies more highly than diversified ones because investors believe that the former allocate capital more efficiently than do the latter. Nonetheless, companies must explore new opportunities in order to compensate for slower growth in mature businesses. Fortunately, a moderate path between pure focus and broad diversification offers a strategic sweet spot. Our analysis of 412 S&P 500 companies found that although focused ones outperformed their diversified counterparts as a group, those that were moderately diversified—earning at least 67 percent of their revenues from only two business segments—outperformed focused and broadly diversified companies in 81 percent of the three-year time periods we examined.

While the right strategic balance varies from one company to another, and managers must constantly refine the mixture to get the best results, the notion that focus is better isn't always borne out. For more on the specifics of our research, read "Are you too focused?"