Chapter 6

1. Chapter 6 Corporate-Level Strategy Michael A. Hitt R. Duane Ireland Robert E. Hoskisson ©2000 South-Western College Publishing

2. Inputs Strategic Strategic Outcomes Chapter 2 The Strategic Management Process External Environment Strategic Intent Strategic Mission Chapter 3 Internal Environment Strategy Formulation Strategy Implementation Chapter 4 Chapter 5 Chapter 6 Chapter 10 Chapter 11 Business-Level Competitive Corporate-Level Corporate Structure Strategy Dynamics Strategy Governance & Control Actions Strategic Chapter 8 Chapter 7 Chapter 9 Chapter 12 Chapter 13 Entrepreneurship & Innovation International Acquisitions & Cooperative Strategic Strategy Restructuring Strategies Leadership Strategic Competitiveness Above Average Feedback Returns

3. A Diversified Company Has Two Levels of Strategy 1. Business-Level Strategy(Competitive Strategy) How to create competitive advantage in each business in which the company competes - low cost - differentiation - integrated low cost/differentiation - focused low cost - focused differentiation 2. Corporate-Level Strategy(Companywide Strategy) How to create value for the corporation as a whole

4. Key Questions of Corporate Strategy 1. What businesses should the corporation be in? 2. How should the corporate office manage the array of business units? Corporate Strategy is what makes the corporate whole add up to more than the sum of its business unit parts

5. Low Levels of Diversification > 95% of revenues from a single business unit Single business A Dominant business A Between 70% and 95% of revenues from a single business unit B Moderate to High Levels of Diversification A < 70% of revenues from dominant business; all businesses share product, technological and distribution linkages Related constrained B C Related linked (mixed) A < 70% of revenues from dominant business, and only limited links exist B C Very High Levels of Diversification A Unrelated-Diversified Business units not closely related B C Levels and Types of Diversification

6. Motives, Incentives, and Resources for Diversification Motives to Enhance Strategic Competitiveness Resources Economies of Scope Market Power Financial Economies Incentives Managerial Motives

7. Motives, Incentives, and Resources for Diversification Incentives and Resources with Neutral Effects of Strategic Competitiveness Anti-Trust Regulation Tax Laws Low Performance Uncertain Future Cash Flows Firm Risk Reduction Tangible Resources Intangible Resources Resources Incentives Managerial Motives

8. Motives, Incentives, and Resources for Diversification Managerial Motives Causing Value Reduction Diversifying Managerial Employment Risk Increasing Managerial Compensation Resources Incentives Managerial Motives

9. Summary Model of the Relationship Between Firm Performance and Diversification Resources Diversification Strategy Incentives Managerial Motives

10. By developing economies of scope between business units in the firms which leads to synergistic benefits By developing market power which leads to greater returns Adding Value by Diversification Diversification most effectively adds value by either of two mechanisms:

11. Sharing Activities Transferring Core Competencies Efficient Internal Capital Market Allocation Restructuring Alternative Diversification Strategies Related Diversification Strategies Unrelated Diversification Strategies

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

13. Alternative Diversification Strategies Sharing Activities can enhance potential for or reduce the cost of differentiation Must involve activities that are crucial to competitive advantage Sharing Activities Key Characteristics: Example:Shared order processing system may allow new features customers value or make more advanced remote sensing technology available Example:Procter & Gamble’s sharing of sales and physical distribution for disposable diapers and paper towels is effective because these items are so bulky and costly to ship

14. Alternative Diversification Strategies Strong sense of corporate identity Clear corporate mission that emphasizes the importance of integrating business units Incentive system that rewards more than just business unit performance Sharing Activities Assumptions:

15. Sharing Activities Transferring Core Competencies Efficient Internal Capital Market Allocation Restructuring Alternative Diversification Strategies Related Diversification Strategies Unrelated Diversification Strategies

16. Alternative Diversification Strategies Exploits Interrelationships among divisions Start with Value Chainanalysis Identify ability to transfer skills or expertise among similar value chains Exploit ability to transfer activities Transferring Core Competencies Key Characteristics:

17. Alternative Diversification Strategies Activities involved in the businesses are similar enough that sharing expertise is meaningful Transfer of skills involves activities which are important to competitive advantage The skills transferred represent significant sources of competitive advantage for the receiving unit Transferring Core Competencies Assumptions: Transferring Core Competencies leads to competitive advantage only if the similarities among business units meet the following conditions:

18. Sharing Activities Transferring Core Competencies Efficient Internal Capital Market Allocation Restructuring Alternative Diversification Strategies Related Diversification Strategies Unrelated Diversification Strategies

19. Alternative Diversification Strategies Acquire sound, attractive companies Acquired units are autonomous Acquiring corporation supplies needed capital Portfolio managers transfer resources from units that generate cash to those with high growth potential and substantial cash needs Add professional management & control to sub-units Sub-unit managers compensation based on unit results Efficient Internal Capital Market Allocation Key Characteristics: Firms pursuing this strategy frequently diversify by acquisition:

20. Alternative Diversification Strategies Managers have more detailed knowledge of firm relative to outside investors Firm need not risk competitive edge by disclosing sensitive competitive information to investors Firm can reduce risk by allocating resources among diversified businesses, although shareholders can generally diversify more economically on their own Efficient Internal Capital Market Allocation Assumptions:

21. Sharing Activities Transferring Core Competencies Efficient Internal Capital Market Allocation Restructuring Alternative Diversification Strategies Related Diversification Strategies Unrelated Diversification Strategies

22. Alternative Diversification Strategies Seek out undeveloped, sick or threatened organizations or industries Parent company (acquirer) intervenes and frequently: - Changes sub-unit management team - Shifts strategy - Infuses firm with new technology - Enhances discipline by changing control systems - Divests part of firm - Makes additional acquisitions to achieve critical mass Frequently sell unit after making one-time changes since parent no longer adds value to ongoing operations Restructuring Key Characteristics:

23. Alternative Diversification Strategies Requires keen management insight in selecting firms with depressed values or unforeseen potential Must do more than restructure companies Need to initiate restructuring of industries to create a more attractive environment Restructuring Assumptions:

24. Relaxation of Anti-Trust regulation allows more related acquisitions than in the past Before 1986, higher taxes on dividends favored spending retained earnings on acquisitions After 1986, firms made fewer acquisitions with retained earnings, shifting to the use of debt to take advantage of tax deductible interest payments Poor performance may lead some firms to diversify to attempt to achieve better returns Incentives to Diversify External Incentives: Internal Incentives:

25. Value-creating Strategies of Diversification Operational and Corporate Relatedness Related Constrained Diversification Vertical Integration (Market Power) Both Operational and Corporate Relatedness (Rare Capability and Can Create Diseconomies of Scope) High Sharing: Operational Relatedness Between Business Unrelated Diversification (Financial Economies) Related Linked Diversification (Economies of Scope) Low Low High Corporate Relatedness: Transferring Skills Into Business Through Corporate Headquarters

26. Dominant Business Related Constrained Unrelated Business Diversification and Firm Performance Performance Level of Diversification

27. Poor performance may lead some firms to diversify to attempt to achieve better returns Firms may diversify to balance uncertain future cash flows Firm may diversify into different businesses in order to reduce risk Managers often have incentives to diversify in order to increase their compensation and reduce employment risk, although effective governance mechanisms may restrict such abuses Incentives to Diversify Internal Incentives:

28. Capital Market Intervention and Market for Managerial Talent Internal Governance Strategy Implementation Summary Model of the Relationship Between Firm Performance and Diversification Resources Diversification Strategy Firm Performance Incentives Managerial Motives