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Corporate Diversification
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Mission
Objectives
Strategy Implementation
Competitive Advantage
Internal Analysis
Vertical Integration
Diversification
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Therefore,
a corporate level strategy must create synergies economies of scope - diversification
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Backward
Forward
Diversification
Other Businesses Current Businesses Unrelated Other Businesses
No Links
Related
Many Links
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Product-Market Diversification
operating in multiple industries in multiple geographic markets
Copyright 2012 Pearson Education, Inc. publishing as Prentice Hall.
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Related Diversification
related-constrained: all businesses related on most dimensions related-linked: some businesses related on some dimensions
Unrelated Diversification
businesses are not related
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Note:
relatedness usually refers to products seemingly unrelated products may be related on other dimensions
Copyright 2012 Pearson Education, Inc. publishing as Prentice Hall.
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Competitive Advantage
If a diversification strategy meets the VRIO criteria Is it Valuable? Is it Rare? Is it costly to Imitate? Is the firm Organized to exploit it?
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Value of Diversification
Two Criteria
1) There must be some economy of scope
2) The focal firm must have a cost advantage over outside equity holders in exploiting any economies of scope
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Value of Diversification
Business X + Business Y + Business Z
Value
Focal Firm
Business X
Economies Of Scope
Business Y Business Z
Value
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Economies of Scope
Four Types Operational Financial Anticompetitive Managerialism
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Economies of Scope
Operational Economies of Scope
Sharing Activities exploiting efficiencies of sharing business activities Example: Frito-Lays Trucking
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Economies of Scope
Financial Economies of Scope
Internal Capital Market premise: insiders can allocate capital across divisions more efficiently than the external capital market
works only if managers have better information
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Economies of Scope
Financial Economies of Scope
Risk Reduction counter cyclical businesses may provide decreased overall risk
however,
individual investors can usually do this more efficiently than a firm Example: Snow Skiis & Water Skiis
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Economies of Scope
Financial Economies of Scope
Tax Advantages transfer pricing policy allows profits in one division to be offset by losses in another division
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Economies of Scope
Anticompetitive Economies of Scope
Multipoint Competition mutual forbearance a firm chooses not to compete aggressively in one market to avoid competition in another market Example: American Airlines & Delta: Dallas & Atlanta
Market Power using profits from one business to compete in another business using buying power in one business to obtain advantage in another business
Copyright 2012 Pearson Education, Inc. publishing as Prentice Hall.
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Economies of Scope
Managerialism
an economy of scope that accrues to managers at the expense of equity holders managers of larger firms receive more compensation (larger scope = more compensation) therefore, managers have an incentive to acquire other firms and become ever larger even though the incentive is there, it is difficult to know if managerialism is the reason for an acquisition
Copyright 2012 Pearson Education, Inc. publishing as Prentice Hall.
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Managers should consider whether corporate diversification will generate economies of scope that equity holders can capture
if a corporate diversification move is unlikely to generate valuable economies of scope, managers should avoid it
Copyright 2012 Pearson Education, Inc. publishing as Prentice Hall.
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Rareness of Diversification
Diversification per se is not rare
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Imitability of Diversification
Duplication of Economies of Scope
Less Costly-to-Duplicate Costly-to-Duplicate Core Competencies Internal Capital Allocation Multipoint Competition Exploiting Market Power (tacit/intangible)
Employee Compensation
Tax Advantages Risk Reduction Shared Activities* (codified/tangible)
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Imitability of Diversification
Substitution of Economies of Scope
Internal Development start a new business under the corporate whole avoids potential crossfirm integration issues
Competitors may use these strategies to arrive at a position of diversification without buying another firm
Copyright 2012 Pearson Education, Inc. publishing as Prentice Hall.
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Summary
Corporate Strategy: In what businesses should the firm operate?
an understanding of diversification helps managers answer that question
Two Criteria:
1) economies of scope must exist 2) must create value that outside equity holders cannot create on their own
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Summary
Economies of Scope
a case of synergycombined activities generate greater value than independent activities
may generate competitive advantage if they meet the VRIO criteria
Firms should pursue diversification only if careful analysis shows that competitive advantage is likely!
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