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DIVERSIFICATION: Horizontal Expansion

DIVERSIFICATION: Horizontal Expansion. Three Dimensions of Corporate Strategy. Business Diversification Vertical Integration Geographic/global Expansion. Extent of Corporate Diversification: Firms vary by Degree of Diversification. Low Levels of Diversification

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DIVERSIFICATION: Horizontal Expansion

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  1. DIVERSIFICATION: Horizontal Expansion

  2. Three Dimensions of Corporate Strategy • Business Diversification • Vertical Integration • Geographic/global Expansion

  3. Extent of Corporate Diversification:Firms vary by Degree of Diversification • Low Levels of Diversification • Single-Business - > 95% of revenues from a singles business unit • Dominant-Business - 70-95% from a single business unit • Vertically-integrated Businesses - 70% of sales in value chain • Moderate to High Levels of Diversification • Related-Diversified - 70% or more from businesses that are related. Businesses must share product, technological or distribution linkages. Businesses may be related-linked or related constrained • High Levels of Diversification • Unrelated-Diversified - <70% in related business units

  4. Motives for Diversification • Operational economies of scope and scale (Strategic Competitiveness) • shared and transferred activities • leveraging core competencies • Financial economies of scope (Internal Capital Market) • internal capital allocation • risk reduction • tax advantages • Anticompetitive economies of scope (Market Power) • multipoint competition • exploiting market power • Employee Incentives (Growth Motive) • diversifying employees’ risk and improving promotion chances • maximizing management compensation • Avoid declining industries

  5. Corporate Advantages from Diversification (1) Sharing Linkages Between Businesses Bus. Bus. Bus. Bus. D B C A (2) Sharing Core Competence Bus. Bus. B A Core Competence Bus. Bus. C D

  6. Corporate Advantages from Diversification • Market Power • Economies of Scope • Economies of Internalizing Transactions • Internal Market System • Information Advantages

  7. Scope Advantages from Diversification Economiesof scope -- cost reduction from achieving minimum scale in an input factor, derived from producing multiple products * tangible assets, e.g., distribution and service networks, R&D * intangible assets, e.g., brand names, corporate reputations, technology * organizational capabilities, e.g., management capabilities, marketing skills

  8. Scale Advantages from Diversification Economies of Scale in Administration, Financing and Control = cost advantages from reaching minimum efficient scale in administrative and control activities by centralizing similar activities at the corporate HQ, and by operating an internal capital market * Administration, e.g. centralized strategic planning, centralized legal functions, etc. * Control, e.g. centralized accounting and financial functions * Financing, e.g. centralized internal capital allocation function

  9. Information Advantages of the Diversified Corporation * About capabilities and characteristics of employees * Established firms are the most successful in commercial development of new businesses * Agency problems need to create disciplines of the capital market within the diversified corporation

  10. Diversification and Performance • Diversification into related industries may be more profitable than into unrelated industries • Source: Rumelt (1974)

  11. Approaches to Corporate Strategy • Related Diversification Strategies • Sharing Activities • Transferring Core Competencies • Unrelated Diversification Strategies • Efficient internal capital market allocation

  12. Sharing Activities Sharing Activities Key Characteristics Sharing Activities often lowers costs or raises differentiation Example: Using a common physical distribution system and sales force such as Procter & Gamble’s disposable diaper and paper towel divisions Sharing Activities can lower costs if it: Achieves economies of scale * Boosts efficiency of utilization * Helps move more rapidly down Learning Curve * Example:General Electric’s costs to advertise, sell and service major appliances are spread over many different products

  13. BCG Growth-Share Matrix Earnings: high stable, growing Cash flow: neutral Strategy: invest for growth Earnings: low, unstable, growing Cash flow: negative Strategy: analyze to determine whether business can be grown into a star, or will degenerate into a dog High Annual real rate of market growth % Earnings: low, unstable Cash flow: neutral or negative Strategy: divest Earnings: high stable Cash flow: high stable Strategy: milk Low High Low RelativeMarketShare

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