Diversification and Innovation Revisited: An Absorptive Capacity View of Technological Knowledge Creation

The relationship between innovation and product diversification in firms has been studied and debated for decades. Early articles proposed a positive relationship, while subsequent research supported a negative influence on innovation from product diversification based on observable reductions in research and development expenditures. Such findings also suggest a negative influence on absorptive capacity from increasing product diversification. This paper uses an absorptive capacity perspective to revisit the relationship. Together with related literature on knowledge creation and transfer processes, a positive association between related product diversification by firms and the quantity of created technological knowledge is suggested. Evidence to support such a relationship is provided using patent data from technology-based firms in a sample of 1997 firm years between 1990 and 2006. Some evidence of a negative association between knowledge creation and very high levels of unrelated diversification is indicated, qualifying and supporting the “M-form” hypothesis. The findings more closely align understandings of the relationship between product diversification and innovation with the relationship between product diversification and firm performance.