DIVERSIFICATION: Horizontal Expansion

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DIVERSIFICATION Horizontal Expansion
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Three Dimensions of Corporate Strategy

• Business Diversification
• Vertical Integration
• Geographic/global Expansion

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Extent of Corporate Diversification Firms vary
by Degree of Diversification

• Low Levels of Diversification
• Single-Business - gt 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 - lt70 in related business
  units

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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

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

• Market Power
• Economies of Scope
• Economies of Internalizing Transactions
• Internal Market System
• Information Advantages

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Scope Advantages from Diversification
Economies of scope
-- cost reduction from achieving minimum scale
in

an input factor, derived from producing
multiple
products
tangible assets, e.g., distribution and
service


networks, RD
intangible assets, e.g., brand names,
corporate reputations, technology

organizational capabilities, e.g.,
management capabilities, marketing skills
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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

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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
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Diversification and Performance

• Diversification into related industries may be
  more profitable than into unrelated industries
• Source Rumelt (1974)

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Approaches to Corporate Strategy

• Related Diversification Strategies
• Sharing Activities
• Transferring Core Competencies
• Unrelated Diversification Strategies
• Efficient internal capital market allocation

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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 Gambles
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 Electrics costs to advertise,
sell and service major appliances are spread over
many different products
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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 high stable Cash flow high
stable Strategy milk
Earnings low, unstable Cash flow
neutral or negative Strategy divest
Low
Low
High
Relative Market Share