Professional Documents
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A company is diversified when it is in two or more lines of business that operate in diverse market environments
Strategy-making in a diversified company is a bigger picture exercise than crafting a strategy for a single line-of-business
A diversified company needs a multi-industry, multi-business strategy A strategic action plan must be developed for several different businesses competing in diverse industry environments
It is faced with diminishing growth prospects in present business It has opportunities to expand into industries whose technologies and products complement its present business It can leverage existing competencies and capabilities by expanding into businesses where these resource strengths are key success factors It can reduce costs by diversifying into closely related businesses It has a powerful brand name it can transfer to products of other businesses to increase sales and profits of these businesses
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Diversification Parameters
Diversification is capable of building shareholder value if it passes three tests: 1. Industry Attractiveness Testthe industry presents good long-term profit opportunities 2. Cost of Entry Testthe cost of entering is not so high as to spoil the profit opportunities 3. Better-Off Testthe companys different businesses should perform better together than as stand-alone enterprises, such that company As diversification into business B produces a 1 + 1 = 3 effect for shareholders
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Why Diversify?
1+1=3
Involves diversifying into businesses whose value chains possess competitively valuable strategic fits with the value chain(s) of the present business(es) Capturing the strategic fits makes related diversification a 1 + 1 = 3 phenomenon
Exists whenever one or more activities in the value chains of different businesses are sufficiently similar to present opportunities for
Transferring competitively valuable expertise or technological know-how from one business to another Combining performance of common value chain activities to achieve lower costs Exploiting use of a well-known brand name
Cross-business strategic fits can exist anywhere along the value chain
Manufacturing activities
Distribution activities
Arise when costs can be cut by operating two or more businesses under same corporate umbrella Cost saving opportunities can stem from interrelationships anywhere along the value chains of different businesses
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No strategic fit
Basic approach Diversify into any industry where potential exists to realize good financial results While industry attractiveness and cost-of-entry tests are important, better-off test is secondary
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Business risk scattered over different industries Financial resources can be directed to those industries offering best profit prospects If bargain-priced firms with big profit potential are bought, shareholder wealth can be enhanced Stability of profits Hard times in one industry may be offset by good times in another industry
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Dominant-business firms One major core business accounting for 50 - 80 percent of revenues, with several small related or unrelated businesses accounting for remainder Narrowly diversified firms Diversification includes a few (2 - 5) related or unrelated businesses Broadly diversified firms Diversification includes a wide collection of either related or unrelated businesses or a mixture Multibusiness firms Diversification portfolio includes several unrelated groups of related businesses
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Related Diversification
Unrelated Diversification
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industries chosen for diversification must be structurally attractive or capable of being made attractive. The cost of entry test : the cost of entry must not capitalise all future profits . The better-off test : either the new unit must gain competitive advantage from its link the corporation or vice versa.
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In the long run the rate of return available from competing in an industry is a function of its underlying structure
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Industry Attractiveness
Attractive industry
Unattractive industry
High ROI High entry barriers Low bargaining power of buyers & suppliers Few substitute products Stable rivalry amongst existing competition
Structural flaws. Large group of competitors(even state supported). Powerful and price sensitive buyers. Large substitute materials. Excessive rivalry caused by high fixed costs.
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A corporation must bring in significant advantage to the new unit , or the new unit must offer potential for significant advantage to the corporation. Corporate planners tend to ignore this test or deal with it through arm waving or trumped up logic rather than hard strategic analysis.
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Portfolio management .
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Portfolio Management
Primarily diversification through acquisition. Acquiring sound attractive companies with competent managers. Acquired units need not be in the same business as existing units.
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Portfolio Management
New units are treated as autonomous . Parent units provide capital and infuses professional management . Top management provides objectives and dispassionate review of business results.
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acquisition. Benefit of giving complete autonomy is also questionable now. Strong need for industry specific knowledge for parent company to effectively handle a diverse portfolio.
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A strong sense of Corporate identity is as important as slavish adherence to Business unit financial results
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Restructuring Corporation seeks underdeveloped, sick or threatened companies or industries on the threshold of a significant change. Active involvement of parent company in turnaround operations at all levels.
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Restructuring Parent company changes management team,shifts strategy,infuses new technology. Parent co may make follow up acquisitions to build critical mass.
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Restructuring - Pitfalls
Mistaking rapid growth of HOT industry as
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Purpose of portfolio management and restructuring is to create value through a companys relation ship with each autonomous unit . The corporations role is to be a selector, a banker , and an intervener. Last two strategic options transfer of skills and synergy exploit the interrelationships between businesses.
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Transfer of Skills
Starting point is value chain and synergy.
Depends on companys capability to transfer skills or expertise among similar value chains. Transfer of expertise from existing units to new operations.
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Sharing of Activities
Sharing activities in the value chains among business units . Ability to share activities is potent basis for lowering cost and raise differentiation. Cost benefit analysis of prospective sharing to check synergy. Economies of scale should drive costs lower. Coordination costs must not outweigh sharing benefits.
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Action Plans
Identifying the interrelationships among already existing business units. Selecting the core business that will be the foundation of corporate strategy. Creating horizontal organisational mechanisms that will facilitate future related diversification.
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Action Plans
Pursuing diversification opportunities
that allow shared activities. Pursuing diversification through transfer of skills. Pursuing strategy of restructuring if this fits the skills of management. Portfolio management as last option.
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Vertical integration extends a firms competitive scope within same industry Backward into sources of supply Forward toward end-users of final product
Activities, Costs, & Margins of Forward Channel Allies & Strategic Partners
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Activities, Costs, & Margins of Forward Channel Allies & Strategic Partners
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The appeal of a vertical integration strategy depends on Its ability to enhance performance of strategy-critical activities by Lowering costs or Increasing differentiation Its impact on Resource requirements Flexibility and response times Administrative overhead of coordination Its ability to create a competitive advantage
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Generates cost savings only if volume needed is big enough to capture efficiencies of suppliers Potential to reduce costs exists when Suppliers have sizable profit margins Item supplied is a major cost component Resource requirements are easily met
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Can produce a differentiation-based competitive advantage when it results in a better quality part Reduces risk of depending on suppliers of crucial raw materials / parts / components
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Advantageous for a firm to establish its own distribution network if Undependable distribution channels undermine steady production operations
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Integrating forward into distribution and retailing May be cheaper than going through independent distributors May help achieve stronger product differentiation, allowing escape from price competition May provide better access to users
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Poses problems of balancing capacity at each stage of value chain May require radically different skills / capabilities
Reduces manufacturing flexibility, lengthening design time and ability to introduce new products
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Boosts resource requirements Locks firm deeper into same industry Results in fixed sources of supply and less flexibility in accommodating buyer demands for product variety
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Outside specialists may / can perform the activity better or more cheaply Activity is not crucial to achieving competitive advantage Reduces risk exposure to changing technology and/or changing buyer preferences
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Streamlines operations to Cut cycle time Speed decision-making Reduce coordination costs Allows firm to concentrate on its core business
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Cooperative Strategies
Companies sometimes use strategic alliances or strategic partnerships or collaborative agreements to complement their own strategic initiatives and strengthen their competitiveness. Such cooperative strategies go beyond normal company-to-company dealings but fall short of merger or formal joint venture
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To collaborate on technology development or new product development To improve supply chain efficiency To gain economies of scale in production and/or marketing
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To fill gaps in technical or manufacturing expertise To speed new products to market To acquire or improve market access
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