CorporateLevel

Strategy:
Creating
Value
through
Diversificati
chapter 6
on
Copyright 2014 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.

Learning Objectives
6-2

After reading this chapter, you should have

a good understanding of:
LO6.1 The reasons for the failure of many
diversification efforts.

LO6.2 How managers can create value through

diversification initiatives.

LO6.3 How corporations can use related

diversification to achieve synergistic benefits
through economies of scope and market power.

Learning Objectives
6-3

LO6.4 How corporations can use unrelated

diversification to attain synergistic benefits through
corporate restructuring, parenting, and portfolio
analysis.

LO6.5 The various means of engaging in

diversification mergers and acquisitions, joint
ventures/strategic alliances, and internal
development.

LO6.6 Managerial behaviors that can erode the

creation of value.

Corporate-Level Strategy
6-4

Consider
What businesses should a corporation
compete in?
How can these businesses be managed so
they create synergy that is, create
more value by working together than if
they were freestanding units?

6-5

Making Diversification
Work

Diversification initiatives must create

value for shareholders through

Mergers and acquisitions

Strategic alliances
Joint ventures
Internal development

Diversification should create synergy

Busines
s1

Busines
s2

More
than
two

Making Diversification
Work

6-6

A firm may diversify into related

businesses

Benefits derive from horizontal relationships

Sharing

intangible resources such as core

competencies in marketing
Sharing tangible resources such as production
facilities

A firm may diversify into unrelated

businesses

Benefits derive from hierarchical relationships

Value

creation derived from the corporate office

Leveraging support activities in the value chain

Related Diversification
6-7

Related diversification enables a firm

to benefit from horizontal relationships
across different businesses
Economies of scope allow businesses
to:

Leverage core competencies

Share related activities
Enjoy greater revenues

Related businesses gain market power

by:

Pooled negotiating power

Question?
6-8

Sharing core competencies is one of the

primary potential advantages of
diversification. In order for diversification to
be most successful, it is important that
A.

B.
C.
D.

the similarity required for sharing core

competencies must be in the value chain, not in
the product.
the products use similar distribution channels.
the target market is the same, even if the
products are very different.
the methods of production are the same.

Related Diversification:
Leveraging Core Competencies
6-9

Core competencies reflect the

collective learning in organizations. Can
lead to the creation of value and synergy
if

They create superior customer value

The value chain elements in separate

businesses require similar skills

They are difficult for competitors to

imitate or find substitutes for

Related Diversification:
Sharing Activities

6-10

Corporations can also achieve synergy

by sharing activities across their
business units.

Sharing tangible & value-creating

activities can provide payoffs:

Cost savings through elimination of jobs,

facilities & related expenses, or economies
of scale

Revenue enhancements through increased

differentiation & sales growth

Related Diversification:
Market Power

6-11

Market power can lead to the creation

of value and synergy through

Pooled negotiating power

Gaining greater bargaining power with

suppliers & customers

Vertical integration - becoming its

own supplier or distributor through

Backward integration

Forward integration

Example: Question?
6-12

Shaw Industries, a giant carpet

manufacturer, increases its control over raw
materials by producing much of its own
polypropylene fiber, a key input into its
manufacturing process. This is an example of
A.
B.
C.
D.

leveraging core competencies.

pooled negotiating power.
vertical integration.
sharing activities.

Related Diversification:
Vertical Integration

6-13

Exhibit 6.3 Simplified Stages of Vertical Integration: Shaw

Industries

Related Diversification:
Why Vertical Integration?
6-14

1.

2.

It is the company satisfied with the quality of the

value that its present suppliers & distributors are
providing?
Are there activities in the industry value chain
presently being outsourced or performed
independently by others that are a viable source of
future profits?

3.

Is there a high level of stability in the demand for

the organizations products?

4.

Does the company have the necessary

competencies to execute the vertical integration
strategies?

5.

Will the vertical integration initiatives have

potential negative impacts on the firms

Related Diversification:
Why Vertical Integration?

6-15

The transaction cost perspective

Every market transaction involves some
transaction costs:

Search costs
Negotiating costs
Contract costs
Monitoring costs
Enforcement costs
Need for transaction specific investments
Administrative costs

Unrelated Diversification
6-16

Unrelated diversification enables a

firm to benefit from vertical or
hierarchical relationships between the
corporate office & individual business
units through
The corporate parenting advantage

Restructuring to redistribute assets

Providing competent central functions

Asset, capital, & management restructuring

Portfolio management

BCG growth/share matrix

Unrelated Diversification:
Parenting & Restructuring

6-17

Parenting allows the corporate office to

create value through management
expertise & competent central functions
In restructuring the parent intervenes:

Asset restructuring involves the sale of

unproductive assets
Capital restructuring involves changing the
debtequity mix, adding debt or equity
Management restructuring involves
changes in the top management team,
organizational structure, & reporting
relationships

Unrelated Diversification:
Portfolio Management

6-18

Portfolio management involves a

better understanding of the competitive
position of an overall portfolio or family
of businesses by

Suggesting strategic alternatives for each

business
Identifying priorities for the allocation of
resources
Using Boston Consulting Groups (BCG)
growth/share matrix

Unrelated Diversification:
Portfolio Management

6-19

Each circle
represents one
of the firms
business units.
The size of the
circle
represents the
relative size of
the business
unit in terms of
revenue.
Exhibit 6.5 The Boston Consulting Group (BCG) Portfolio
Matrix

Unrelated Diversification:
Portfolio Management

6-20

Limitations of portfolio models:

SBUs are compared on only two dimensions

& each SBU is considered a standalone
entity
Are

these the only factors that really matter?

Can every unit be accurately compared on that
basis? What about possible synergies?

An oversimplified graphical model

substitutes for managers experience
Following strict & simplistic rules for
resource allocation can be detrimental to a
firms long-term viability

Example: Goal of Diversification =

Risk Reduction?
6-21

Diversification can reduce variability in

revenues & profits over time. However

Stockholders can diversify portfolios at a

much lower cost & economic cycles are
difficult to predict, so why diversify?

Example = General Electrics

businesses:

Aircraft engines, power generation

equipment, locomotive trains, large
appliances, healthcare products, financial
products, lighting, mining, oil & gas
Why is GE in so many businesses?

Means of Diversification
6-22

Diversification can be accomplished

via

Mergers & acquisitions

And

divestment

Pooling resources of other companies with

a firms own resource base through
Strategic

alliances & joint ventures

Internal Development through

Corporate

entrepreneurship

Mergers and Acquisitions

6-23

Mergers involve a combination or

consolidation of two firms to form a new
legal entity:

Are relatively rare

The two firms are on a relatively equal
basis

Acquisitions involve one firm buying

another either through stock purchase,
cash, or the issuance of debt

Mergers and Acquisitions

6-24

Exhibit 6.6 Global Value of Mergers and Acquisitions ($

trillion)
Source: Thomson Financial, Institute of Mergers, Acquisitions, and Alliances (IMAA) analysis

Mergers and Acquisitions: Motives

6-25

In high-technology & knowledgeintensive industries, speed is critical:

acquiring is faster than building.
M&A allows a firm to obtain valuable
resources that help it expand its product
offerings & services.
M&A helps a firm develop synergy:

Leveraging core competencies

Sharing activities
Building market power

Mergers and Acquisitions: Motives

6-26

M&A can lead to consolidation within an

industry, forcing other players to merge.
Corporations can also enter new market
segments by way of acquisitions.

Mergers and Acquisitions:

Limitations

6-27

Takeover premiums for acquisitions are

typically very high
Competing firms can imitate advantages
Competing firms can copy synergies
Managers egos get in the way of sound
business decisions
Cultural issues may doom the intended
benefits

Question?
6-28

Divestment can be the common result of an

acquisition. Divesting businesses can
accomplish many different objectives. These
include
A.
B.
C.
D.

enabling managers to focus their efforts more

directly on the firms core businesses.
providing the firm with more resources to spend
on more attractive alternatives.
raising cash to help fund existing businesses.
all of the above.

Mergers and Acquisitions:

Divestment

6-29

Divestment objectives include:

Cutting the financial losses of a failed

acquisition
Redirecting focus on the firms core
businesses
Freeing up resources to spend on more
attractive alternatives
Raising cash to help fund existing
businesses

Mergers and Acquisitions:

Divestment

6-30

Successful divestiture involves:

Removing emotion from the decision

Knowing the value of the business youre
selling
Timing the deal right
Maintaining a sizable pool of potential buyers
Telling a story about the deal
Running divestitures systematically through a
project office
Communicating clearly and frequently

Strategic Alliances &

Joint Ventures: Motives

6-31

Strategic alliances & joint ventures

are cooperative relationships with
potential advantages:

Ability to enter new markets through

Greater

financial resources
Greater marketing expertise

Ability to reduce manufacturing or other

costs in the value chain
Ability to develop & diffuse new
technologies

Strategic Alliances &

Joint Ventures: Limitations

6-32

Need for the proper partner:

Partners should have complementary

strengths
Partners strengths should be unique
Uniqueness

should create synergies

Synergies should be easily sustained &
defended

Partners must be compatible & willing to

trust each other

Internal Development
6-33

Corporate entrepreneurship & new

venture development motives:

No need to share the wealth with alliance

partners
No need to face difficulties associated with
combining activities across the value chains
No need to merge diverse corporate
cultures

Limitations:

Time-consuming
Need to continually develop new

Managerial Motives
6-34

Managerial motives: Managers may

act in their own self interest eroding
rather than enhancing value creation
through

Growth for growths sake

Top

managers gain more prestige, higher

rankings, greater incomes, more job security
Its exciting and dramatic!

Excessive egotism
Use of antitakeover tactics

Managerial Motives:
Antitakeover Tactics

6-35

Antitakeover tactics include:

Green mail
Golden parachutes
Poison pills

Can benefit multiple stakeholders not

just management
Can raise ethical considerations because
the managers of the firm are not acting
in the best interests of the shareholders