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Presented by: Sandra Corredor

Moshe Farjoun UIUC - Tel Aviv – York U. The Independent and Joint Effects of the Skill and Physical Bases of Relatedness in Diversification. Strategic Management Journal (1998). Presented by: Sandra Corredor. Motivation. Relatedness encompasses several dimensions…

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Presented by: Sandra Corredor

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  1. Moshe FarjounUIUC - Tel Aviv – York U. The Independent and Joint Effects of the Skill and Physical Bases of Relatedness in Diversification Strategic Management Journal (1998) Presented by: Sandra Corredor

  2. Motivation Relatedness encompasses several dimensions… • Choosing a particular dimension of relatedness affects the evaluation of motives and consequences: • E.g., disagreement about performance of related vs. unrelated diversification • It can help existing firms identify different sources of potential competition and opportunities for diversification • Combining different dimensions of relatedness: E.g., firm's expansion using several related resources

  3. Relatedness Resource relatedness is multidimensional:Skill-based + Physical resource-based (SIC) • 1. Physical baseperformance benefits: • * Economies of Scope (Teece, 1982) • * Economies of Scale • More product-specific than other resources: less industries to which they can be applied Q2. Independent and Joint effects • 2. Skill base performance benefits: • * Learning: two-way transfers of knowledge. • * Innovation: 'dynamic reciprocity‘ of relatedness. • Learn, transfer and combine knowledge Q1. Do they differ in the ways they identify relatedness?

  4. Methods • Sample 158 (Fortune 500) diversified firms with 90% of sales in manufacturing sector. • Skill base of relatedness • Human skills required in the industry, as indicated by occupational distributions (survey) • Industries with similar skill profiles were grouped in skill-related industry groups. • Occupational ratios: occupations in which employees are working rather than the occupation for which they were trained. • Physical base of relatedness • SIC code • When products are considered as close end use substitutes but their underlying transformation processes are different • Performance: ROA, ROS, market-to-book ratio, Jensen’s Alpha.

  5. Hypotheses • Hypothesis 1a: The level of related diversification as indicated by the physical base of relatedness will be positively associated with financial performance. • Hypothesis 1b: The level of related diversification as indicated by the skill base of relatedness will be positively associated with financial performance.

  6. Hypotheses Joint Effects • The union of the two bases: when they agree in identifying relatedness between two or more industries (lines of business). →Each base extends the other. • Interact in several value-added activities: • Institutionalized in organizational routines and procedures (N&W). • Learning increases the services derived both from the employees and from the material resources. • Hypothesis 2: The level of related diversification indicated by a combination of both the physical and skill dimensions will be positively associated with financial performance.

  7. Two Joint Effects • Complementarity effect: similarity in production as indicated by both skills and physical characteristics. • Extension effect: the relatedness is broader than indicated by each base alone → relatedness encompasses similarity in production, science and engineering, administration, marketing and service… might also encompass relatedness atend use. • Perhaps: Joint effect could also mean that the end use of the combined resources: products dimension in Montgomery & Wernerfelt (1988)?

  8. Results • (Q1 = Yes) Industries or lines of business related from one standpoint can be unrelated from another • However, they are complementary bases for relatedness. • (Q2 = Yes and No) Neither base by itself is associated with strong performance effects. • When diversification is related on both the physical and the skill base a strong effect of relatedness on performance emerges. • The level of related diversification was not significantly associated with greater-than risk-free returns (Jensen's alpha): • Neither of the relatedness ratios (SKILL or PHYSICAL), nor their interaction RATIO (JOINT), was statistically significant.

  9. Some notes… • Components perspective • If resources are related: that means that they are not diverse?... But diversity is important (Cohen & Levintal, 90)→ we need joint effects of two different resources. • Empirical issues: • Only diversified firms • Also based on SIC diversification measures. • Omitted variables: controlling for industry structure, but many firm-level variables were omitted.

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