Chapter 5 Review: Factors affecting the likelihood of competitive response . . . The factor listed below increases decreases the likelihood of competitive response • • • • • • poor competitive intelligence first mover incentives strategic action required corporate arrogance high emotional/ego involvement actor is reputable/credible Copyright © 2004 South-Western. All rights reserved. 6–1 The Strategic Management Process Figure 1.1 Copyright © 2004 South-Western. All rights reserved. 6–2 Chapter 6: Corporate-Level Strategies • Corporate-level strategies; advantages and disadvantages of each - single business - dominant business - vertical integration - related diversification (activity sharing and skill transfer) - unrelated diversification (capital reallocation; restructuring) • Core business Copyright © 2004 South-Western. All rights reserved. 6–3 Corporate-level strategy encompasses the entire organization; Business-level strategy is at the ____________ level PepsiCo Soft Drinks Copyright © 2004 South-Western. All rights reserved. Frito-Lay Tropicana 6–4 Two Strategy Levels • Business-level Strategy (Competitive) Each business unit in a diversified firm chooses a business-level strategy as its means of competing in individual product markets • Corporate-level Strategy (Companywide) Specifies actions taken by the firm to gain a competitive advantage by selecting and managing a group of different businesses competing in several industries and product markets Copyright © 2004 South-Western. All rights reserved. 6–5 Corporate-Level Strategy: Key Questions • Corporate-level Strategy’s Value The degree to which the businesses in the portfolio are worth more under the management of the company than they would be under other ownership What businesses should the firm be in? How should the corporate office manage the group of businesses? Business Units Copyright © 2004 South-Western. All rights reserved. 6–6 Some Corporate-Level Strategy Questions: • McDonald’s Chipotle Grill? C-stores? hotel? rec center? • Ebay purchase of Skype internet phone provider? • John Deere & Company wholesale landscaping business? • Ford Motor Company Hertz Rent-A-Car? • New York Times ownership of papermills? Copyright © 2004 South-Western. All rights reserved. 6–7 “few corporate-level strategies actually create value . . . “ - pg. 170 Yet again, strategy formulation might be easier than strategy implementation! Synergies (where the whole is greater than the sum of the parts) are easier to conceptualize than to actually realize. Copyright © 2004 South-Western. All rights reserved. 6–8 Levels and Types of Diversification Figure 6.1 SOURCE: Adapted from R. P. Rumelt, 1974, Strategy, Structure and Economic Performance, Boston: Harvard Business School. Copyright © 2004 South-Western. All rights reserved. 6–9 Common evolution pattern of corporate-level strategies • Single business • Dominant business • Vertical integration • Vertical integration with by-products diversification • Related-constrained diversification • Related-linked diversification • Unrelated diversification • Related-constrained diversification Copyright © 2004 South-Western. All rights reserved. 6–10 Single- and Dominant- Business Strategy Advantages Copyright © 2004 South-Western. All rights reserved. Disadvantages (Why move away from these strategies toward diversification?) 6–11 Vertical Integration Strategy When a firm produces its own inputs = __________________ integration When a firm owns its own means of distribution = ________________ integration Copyright © 2004 South-Western. All rights reserved. 6–12 Forward and Backward Vertical Integration Forward vertical integration supplies manufacturing distribution retail Backward vertical integration Copyright © 2004 South-Western. All rights reserved. 6–13 Vertical Integration Strategy Advantages/ Reasons for Use Copyright © 2004 South-Western. All rights reserved. Disadvantages/Hazards 6–14 Alternatives to Vertical Integration? Copyright © 2004 South-Western. All rights reserved. 6–15 Diversification Strategy = participation in >1 industry (segment), structuring into separate divisions, with no single division contributing >70% of sales revenue Johnson & Johnson Consumer Products 18% of sales; 13% of operating profit Pharmaceuticals 47% of sales; 61% of operating profit Copyright © 2004 South-Western. All rights reserved. Devices and Diagnostics 35% of sales; 26% of operating profit 6–16 Diversification Strategy Advantages Copyright © 2004 South-Western. All rights reserved. Disadvantages/Pitfalls 6–17 Strategic Motives for Diversification To Enhance Strategic Competitiveness: • Economies of scope (related diversification) Sharing activities Transferring core competencies • Market power (related diversification) Blocking competitors through multipoint competition (Vertical integration) • Financial economies (unrelated diversification) Efficient internal capital allocation Business restructuring Table 6.1a Copyright © 2004 South-Western. All rights reserved. 6–18 Incentives and Resources for Diversification Incentives and Resources with Neutral Effects on Strategic Competitiveness • Antitrust regulation • Tax laws • Low performance • Uncertain future cash flows • Risk reduction for firm • Tangible resources • Intangible resources So - these are not the best reasons to diversify! Table 6.1b Copyright © 2004 South-Western. All rights reserved. 6–19 Managerial Motives for Diversification Managerial Motives (Value Reduction) • Diversifying managerial employment risk • Increasing managerial compensation “managerial opportunism” (Chapter 10) Table 6.1c Copyright © 2004 South-Western. All rights reserved. 6–20 The Curvilinear Relationship between Diversification and Performance Figure 6.3 Copyright © 2004 South-Western. All rights reserved. 6–21 Related Diversification • Firm creates value by building upon or extending its: Resources Capabilities Core competencies Copyright © 2004 South-Western. All rights reserved. 6–22 Best resource/capabilities for diversification are typically found in a firm’s core business: “Core business” represents the business unit or division containing the firm’s most developed skills; often can be identified by • high proportion of firm’s profit • high proportion of a firm’s assets • original business of the firm • division serving primary target markets Copyright © 2004 South-Western. All rights reserved. 6–23 Related Diversification - Economies of Scope • Value is created by extending important resources/capabilities/core competencies through: Operational relatedness in sharing activities - value chain activities are shared among units Corporate relatedness in transferring skills competencies are transferred across units Copyright © 2004 South-Western. All rights reserved. 6–24 In related diversification: implementation to realize synergies Example of PepsiCo Shared Activities (operational relatedness) • distribution • sales • market research Copyright © 2004 South-Western. All rights reserved. Skill Transfer (corporate relatedness) • product development • brand development • brand excitement 6–25 Activity sharing and skill transfer . . • can create efficiencies (especially activity sharing) • can provide competitive advantages that are valuable, rare, and difficult to imitate due to complexity and combining tangible and intangible resources • can fail due to implementation complications - managed interactions across business units are required Copyright © 2004 South-Western. All rights reserved. 6–26 Advice for sharing activities or transferring skills Since sharing activities and transferring skills adds management complications, only select those that are competitively meaningful, with strong potential to add competitive advantage, or it generally isn’t going to be worth the trouble! Copyright © 2004 South-Western. All rights reserved. 6–27 Unrelated Diversification • Financial Economies Are cost savings realized through improved allocation of financial resources Create value through two types of financial economies: Efficient internal capital allocation Purchasing other corporations and restructuring their assets Copyright © 2004 South-Western. All rights reserved. 6–28 Unrelated Diversification Efficient Internal Capital Market Allocation Acquire sound, attractive autonomous companies that need growth capital Corporate office distributes capital from low growth divisions to high growth divisions to create value for overall company Operation like an “internal capital market” Corporate office gains proprietary access to information about those businesses’ actual and prospective performance Copyright © 2004 South-Western. All rights reserved. 6–29 Otter Tail Corporation - partial view Otter Tail Corporation Electricity 30% of sales revenue; 75% of net income Manufacturing 26% of sales revenue; 16% of net income Copyright © 2004 South-Western. All rights reserved. Health Services 13% of sales revenue; 7% of net income 6–30 Unrelated Diversification: Restructuring • Restructuring creates financial economies A firm creates value by buying and selling other firms’ assets in the external market The idea is basically, “buy low, sell high” “The corporate fixer-upper” - buy underperforming firms or units, fix the problems, and sell for a higher price Copyright © 2004 South-Western. All rights reserved. 6–31 Unrelated Diversification Implementation Considerations • Can be considered easier to implement than related diversification • No required commonalities and/or interactions between units • Each unit is basically “stand-alone”, and operates independently of the other units, except for centralized resource allocation Copyright © 2004 South-Western. All rights reserved. 6–32 Unrelated Diversification: Performance Reputation • “diversifiction” • “diworseification” • the conglomerate discount • conclusion = unrelated diversification generally produces poor performance Copyright © 2004 South-Western. All rights reserved. 6–33