© ram mudambi, temple university and university of reading, 2006. lecture 8 corporate strategy:...

© Ram Mudambi, Temple University and University of Reading, 2006.

Lecture 8Lecture 8

Corporate Strategy:Corporate Strategy:Diversification and New Market Diversification and New Market EntryEntry

BA 950BA 950Policy Formulation and Policy Formulation and

AdministrationAdministration

© Ram Mudambi, Temple University and University of Reading, 2006.8-2

OutlineOutlineThe single business enterpriseThe single business enterprisePorter’s three testsPorter’s three testsDiversificationDiversification

Related and unrelated diversificationRelated and unrelated diversification Entering new marketsEntering new markets


Stages in transitioning from a Stages in transitioning from a single business to a diversified single business to a diversified companycompany

STAGE 1STAGE 1:: Small single-business serving a Small single-business serving a regional marketregional market

STAGE 2STAGE 2:: GeographicGeographic expansion expansion

STAGE 3STAGE 3:: Vertical integrationVertical integration (optional)(optional)

STAGE 4STAGE 4:: DiversificationDiversification--usually initiated --usually initiated when growth opportunities dwindle when growth opportunities dwindle in the company’s present businessin the company’s present business

What next?


Competitive strengths of a Competitive strengths of a single business strategy – 1single business strategy – 1•Less ambiguity about “who we are”Less ambiguity about “who we are”•Energies of firm, resources and Energies of firm, resources and capabilities can be directed down one capabilities can be directed down one business path and keeping strategy business path and keeping strategy responsive to industry changeresponsive to industry change•Less chance resources will be Less chance resources will be stretched thinly over too manystretched thinly over too manycompeting activitiescompeting activities


Competitive strengths of a Competitive strengths of a single business strategy – 2single business strategy – 2•Higher probability innovative ideas and Higher probability innovative ideas and important competencies will emergeimportant competencies will emerge•Top executives can maintain hands-on Top executives can maintain hands-on contact with core businesscontact with core business•Ability to parlay experience and Ability to parlay experience and reputation intoreputation into

Sustainable competitive advantageSustainable competitive advantageProminent leadership positionProminent leadership position


Risks of a single business Risks of a single business strategystrategy

Putting all the “eggs” in one industry basketPutting all the “eggs” in one industry basket

If market becomes unattractive, a firm’s If market becomes unattractive, a firm’s

prospects can quickly dimprospects can quickly dim Unforeseen changes can undermine a Unforeseen changes can undermine a

single business firm’s prospectssingle business firm’s prospects Changing customer needsChanging customer needs

Technological innovationTechnological innovation

New substitutesNew substitutes


When to diversify?When to diversify?When it makes sense to diversifyWhen it makes sense to diversify depends ondepends on

Growth potentialGrowth potential in present businessin present business Attractiveness of opportunities to Attractiveness of opportunities to

transfertransfer existing existing competenciescompetencies to to new businessesnew businesses

Potential Potential cost-saving opportunitiescost-saving opportunities to to be realized by entering related businessesbe realized by entering related businesses

AvailabilityAvailability of adequate financial and organizational of adequate financial and organizational resourcesresources Managerial expertiseManagerial expertise to cope with complexity of operating a to cope with complexity of operating a

multi-business enterprisemulti-business enterprise


Why diversify?Why diversify?

To build To build shareholder valueshareholder value

Make 2 + 2 = 5Make 2 + 2 = 5

Diversification Diversification cancan increase increase shareholder shareholder valuevalue if it passes if it passes Porter’s three testsPorter’s three tests::

1.1. Attractiveness testAttractiveness test2.2. Cost of entry testCost of entry test

Must not capitalize all future profitsMust not capitalize all future profits3.3. Better-off testBetter-off test

Combined unit must be better than the Combined unit must be better than the ones it replacesones it replaces


Related diversificationRelated diversification

Entry into new business activity based on shared Entry into new business activity based on shared commonalities in the components of the value commonalities in the components of the value chains of the firms – chains of the firms – good strategic or resource good strategic or resource fitfit

AA strategy-drivenstrategy-driven approach to creating approach to creating shareholder valueshareholder value


Resource fit at Procter & GambleResource fit at Procter & Gamble

Sharing resourcesSharing resources


Strategic fit at Philip MorrisStrategic fit at Philip Morris

Transferring competenciesTransferring competencies


Unrelated diversificationUnrelated diversification

Entry into a new business area that has no Entry into a new business area that has no obvious relationship with any area of the obvious relationship with any area of the existing business.existing business.

A A finance-drivenfinance-driven approach to creating approach to creating shareholder valueshareholder value


These capabilities help each business unit perform at a higher These capabilities help each business unit perform at a higher level than if it operated as an individual company:level than if it operated as an individual company:

1.1. Entrepreneurial capabilities –Entrepreneurial capabilities – encourage risk taking while encourage risk taking while managing & limiting the amount of risk undertaken managing & limiting the amount of risk undertaken

2.2. Organizational design –Organizational design – create structure, culture, and control create structure, culture, and control systems that motivate and coordinate employeessystems that motivate and coordinate employees

3.3. Superstrategic capabilities –Superstrategic capabilities – effectively manage the managers effectively manage the managers of the business units and helping them think through strategic of the business units and helping them think through strategic problemsproblems

General organizational competencies are skills of a company’s top managers and functional experts that transcend individual functions or business units.

These managerial skills are often not present, as they are rare and difficult to develop and put into action.

Exploiting general organizational Exploiting general organizational competenciescompetencies


Finance-driven diversification Finance-driven diversification often dissipates valueoften dissipates value

Diversifying to pool risksDiversifying to pool risks Stockholders can diversify their own portfolios at lower costs than the company can.Stockholders can diversify their own portfolios at lower costs than the company can. This represents an unproductive use of resources as profits can be returned to shareholders This represents an unproductive use of resources as profits can be returned to shareholders

as dividends.as dividends. Research suggests that corporate diversification is not an effective way to pool risks. Research suggests that corporate diversification is not an effective way to pool risks.

Diversifying to achieve greater growthDiversifying to achieve greater growth Growth on its own does not create value.Growth on its own does not create value. Business cycles of different industries are inherently difficult to predict.Business cycles of different industries are inherently difficult to predict.

Based on a large number of academic studies:Extensive diversification tends to reduce,

rather than improve, company profitability.


Sony’s web of corporate-level Sony’s web of corporate-level diversification strategydiversification strategy


Strategies for entering new Strategies for entering new businessesbusinesses

Acquire existing company

Start-up new business internally

Joint venture with another company


AcquisitionAcquisition

Most popular approach to diversificationMost popular approach to diversification AdvantagesAdvantages::

Quicker entry into target marketQuicker entry into target market Easier to hurdle certain entry barriersEasier to hurdle certain entry barriers

Technological inexperienceTechnological inexperience Gaining access to reliable suppliersGaining access to reliable suppliers Being of a size to match rivals in terms of Being of a size to match rivals in terms of

efficiency and costsefficiency and costs Getting adequate distribution access Getting adequate distribution access


Internal startupInternal startupMore attractive whenMore attractive when Incumbents slow in responding to new entryIncumbents slow in responding to new entry Less expensive than acquiring an existing firmLess expensive than acquiring an existing firm Company already has most of needed skillsCompany already has most of needed skills Additional capacity will not adversely impact Additional capacity will not adversely impact

supply-demand balance in industry supply-demand balance in industry New start-up does not have to go head-to-head New start-up does not have to go head-to-head

against powerful rivalsagainst powerful rivals


SummarySummary

Single business enterprises – strengths and Single business enterprises – strengths and weaknessesweaknessesDiversification – Porter’s three testsDiversification – Porter’s three testsRelated diversification and unrelated Related diversification and unrelated diversificationdiversification

Good strategy vs. bad financeGood strategy vs. bad financeNew market entryNew market entry

© ram mudambi, temple university and university of reading, 2006. lecture 8 corporate strategy:...

Documents