Corporate-Level Strategy
MANA 5336
Directional Strategies
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Directional Strategies
Expansion Adaptive Strategy:
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Orientation toward growth
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Expand, cut back, status quo?
Concentrate within current industry, diversify into
other industries?
Growth and expansion through internal development
or acquisitions, mergers, or strategic alliances?
Directional Strategies
Basic Growth Strategies:
Concentration
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Current product line in one industry
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Vertical Integration
– Market Development
– Product Development
– Penetration
Diversification
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Into other product lines in other industries
Directional Strategies
Expansion of Scope
Basic Concentration Strategies:
Vertical growth
Horizontal growth
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Directional Strategies
Vertical growth
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Vertical integration
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Full integration
Taper integration
Quasi-integration
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Backward integration
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Forward integration
Stages in the Raw-Material-toConsumer Value Chain
Upstream
Downstream
Stages in the Raw-Material-to-Consumer
Value Chain in the Personal Computer
Industry
Raw materials
Examples:
Dow Chemical
Union Carbide
Kyocera
Intermediate
manufacturer
Examples:
Intel
Seagate
Micron
Assembly
Examples:
Apple
Hp
Dell
Distribution
Examples:
Best Buy
Office Max
End user
Vertical Integration
Integration
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Assures constant supply of inputs.
Protects against price increases.
Integration
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backward into supplier functions
forward into distributor functions
Assures proper disposal of outputs.
Captures additional profits beyond activity costs.
Integration
choice is that of which value-adding
activities to compete in and which are better suited for
others to carry out.
Creating Value Through Vertical Integration
Advantages
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of a vertical integration strategy:
Builds entry barriers to new competitors by denying
them inputs and customers.
Facilitates investment in efficiency-enhancing
assets that solve internal mutual dependence
problems.
Protects product quality through control of input
quality and distribution and service of outputs.
Improves internal scheduling (e.g., JIT inventory
systems) responses to changes in demand.
Creating Value Through Vertical
Integration
Disadvantages
–
–
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of vertical integration
Cost disadvantages of internal supply purchasing.
Remaining tied to obsolescent technology.
Aligning input and output capacities with
uncertainty in market demand is difficult for
integrated companies.
Directional Strategies
Horizontal Growth
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Horizontal integration
Directional Strategies
Basic Diversification Strategies:
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Concentric Diversification
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Conglomerate Diversification
Directional Strategies
Concentric Diversification
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Growth into related industry
Search for synergies
Concentration on a Single Business
Southwest Airlines
Concentration on a Single Business
Advantages
–
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Operational focus on a
single familiar industry or
market.
Current resources and
capabilities add value.
Growing with the market
brings competitive
advantage.
Disadvantages
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No diversification of market
risks.
Vertical integration may be
required to create value
and establish competitive
advantage.
Opportunities to create
value and make a profit
may be missed.
Diversification
Related
–
diversification
Entry into new business activity based on shared
commonalities in the components of the value
chains of the firms.
Unrelated
–
diversification
Entry into a new business area that has no
obvious relationship with any area of the existing
business.
Related Diversification
Marriott
Unrelated Diversification
Diversification and Corporate Performance: A
Disappointing History
 A study conducted by Business Week and Mercer Management
Consulting, Inc., analyzed 150 acquisitions that took place
between July 2000 and July 2005. Based on total stock returns
from three months before, and up to three years after, the
announcement:
 30 percent substantially eroded shareholder returns.
 20 percent eroded some returns.
 33 percent created only marginal returns.
 17 percent created substantial returns.
 A study by Salomon Smith Barney of U.S. companies acquired
since 1997 in deals for $15 billion or more, the stocks of the
acquiring firms have, on average, under-performed the S&P
stock index by 14 percentage points and under-performed their
peer group by four percentage points after the deals were
announced.
Directional Strategies
Directional Strategies
Unrelated (Conglomerate) Diversification
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Growth into unrelated industry
Concern with financial considerations
Directional Strategies
Reasons for Diversification
Incentives
Reasons to Enhance Strategic
Competitiveness
Resources
Managerial
Motives
• Economies of scope/scale
• Market power
• Financial economics
Reasons for Diversification
Incentives
Resources
Managerial
Motives
Incentives with Neutral
Effects on Strategic
Competitiveness
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•
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Anti-trust regulation
Tax laws
Low performance
Uncertain future cash flows
Firm risk reduction
Incentives to Diversify
External Incentives:
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Relaxation of anti-trust regulation allows more related
acquisitions than in the past
Before 1986, higher taxes on dividends favored spending
retained earnings on acquisitions
After 1986, firms made fewer acquisitions with retained
earnings, shifting to the use of debt to take advantage of tax
deductible interest payments
Incentives to Diversify
Internal Incentives:
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Poor performance may lead some firms to diversify an
attempt to achieve better returns
Firms may diversify to balance uncertain future cash flows
Firms may diversify into different businesses in order to
reduce risk
Resources and Diversification
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Besides strong incentives, firms are more likely to
diversify if they have the resources to do so
Value creation is determined more by appropriate
use of resources than incentives to diversify
Reasons for Diversification
Incentives
Resources
Managerial
Motives
Managerial Motives (Value
Reduction)
• Diversifying managerial
employment risk
• Increasing managerial
compensation
Managerial Motives to Diversify
Managers have motives to diversify
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diversification increases size; size is associated with
executive compensation
diversification reduces employment risk
effective governance mechanisms may restrict such motives
Bureaucratic Costs and the Limits of
Diversification
Number
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of businesses
Information overload can lead to poor resource allocation
decisions and create inefficiencies.
Coordination
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As the scope of diversification widens, control and
bureaucratic costs increase.
Resource sharing and pooling arrangements that create
value also cause coordination problems.
Limits
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among businesses
of diversification
The extent of diversification must be balanced with its
bureaucratic costs.
Performance
Relationship Between
Diversification and Performance
Dominant
Business
Related
Constrained
Level of Diversification
Unrelated
Business
Restructuring:
Contraction of Scope
Why
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restructure?
Pull-back from overdiversification.
Attacks by competitors on core
businesses.
Diminished strategic advantages of
vertical integration and diversification.
Contraction
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(Exit) strategies
Retrenchment
Divestment– spinoffs of profitable SBUs to investors;
management buy outs (MBOs).
Harvest– halting investment, maximizing cash flow.
Liquidation– Cease operations, write off assets.
Why Contraction of Scope?
The causes of corporate decline
– Poor management– incompetence, neglect
– Overexpansion– empire-building CEO’s
– Inadequate financial controls– no profit responsibility
– High costs– low labor productivity
– New competition– powerful emerging competitors
– Unforeseen demand shifts– major market changes
– Organizational inertia– slow to respond to new competitive
conditions
The Main Steps of Turnaround
Changing
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the leadership
Replace entrenched management with new managers.
Redefining
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Evaluate and reconstitute the organization’s strategy.
Asset
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sales and closures
Divest unwanted assets for investment resources.
Improving
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strategic focus
profitability
Reduce costs, tighten finance and performance controls.
Acquisitions
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Make acquisitions of skills and competencies to strengthen
core businesses.
Adaptive Strategies
Maintenance of Scope
Enhancement
Status Quo
Market Entry Strategies

Acquisition: a strategy through which one organization buys a
controlling interest in another organization with the intent of
making the acquired firm a subsidiary business within its own
portfolio
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Licensing: a strategy where the organization purchases the
right to use technology, process, etc.
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Joint Venture: a strategy where an organization joins with
another organization(s) to form a new organization
Reasons for Making Acquisitions
Learn and develop
new capabilities
Increase
market power
Overcome
entry barriers
Cost of new
product development
Acquisitions
Increase speed
to market
Reshape firm’s
competitive scope
Increase
diversification
Lower risk compared
to developing new
products
Reasons for Making Acquisitions:
Increased Market Power
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Factors increasing market power
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when a firm is able to sell its goods or services above
competitive levels or
when the costs of its primary or support activities are below
those of its competitors
usually is derived from the size of the firm and its resources
and capabilities to compete
Market power is increased by
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horizontal acquisitions
vertical acquisitions
related acquisitions
Reasons for Making Acquisitions:
Overcome Barriers to Entry
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Barriers to entry include
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acquisition of an established company
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economies of scale in established competitors
differentiated products by competitors
enduring relationships with customers that create product
loyalties with competitors
may be more effective than entering the market as a
competitor offering an unfamiliar good or service that is
unfamiliar to current buyers
Cross-border acquisition
Reasons for Making Acquisitions:
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Significant investments of a firm’s resources are
required to
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develop new products internally
introduce new products into the marketplace
Acquisition of a competitor may result in
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lower risk compared to developing new products
increased diversification
reshaping the firm’s competitive scope
learning and developing new capabilities
faster market entry
rapid access to new capabilities
Reasons for Making Acquisitions:
Lower Risk Compared to Developing
New Products
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An acquisition’s outcomes can be estimated more
easily and accurately compared to the outcomes of an
internal product development process
Therefore managers may view acquisitions as lowering
risk
Reasons for Making Acquisitions:
Increased Diversification
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It may be easier to develop and introduce new products
in markets currently served by the firm
It may be difficult to develop new products for markets
in which a firm lacks experience
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–
it is uncommon for a firm to develop new products internally to
diversify its product lines
acquisitions are the quickest and easiest way to diversify a firm
and change its portfolio of businesses
Reasons for Making Acquisitions:
Reshaping the Firms’ Competitive Scope
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Firms may use acquisitions to reduce their
dependence on one or more products or markets
Reducing a company’s dependence on specific
markets alters the firm’s competitive scope
Reasons for Making Acquisitions:
Learning and Developing New Capabilities
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Acquisitions may gain capabilities that the firm does
not possess
Acquisitions may be used to
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acquire a special technological capability
broaden a firm’s knowledge base
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reduce inertia
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Problems With Acquisitions
Integration
difficulties
Inadequate
evaluation of target
Resulting firm
is too large
Acquisitions
Large or
extraordinary debt
Managers overly
focused on acquisitions
Too much
diversification
Inability to
achieve synergy
Problems With Acquisitions
Integration Difficulties
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Integration challenges include
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melding two disparate corporate cultures
linking different financial and control systems
building effective working relationships (particularly when
management styles differ)
resolving problems regarding the status of the newly
acquired firm’s executives
loss of key personnel weakens the acquired firm’s
capabilities and reduces its value
Problems With Acquisitions
Inadequate Evaluation of Target
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Evaluation requires that hundreds of issues be
closely examined, including
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financing for the intended transaction
differences in cultures between the acquiring and target firm
tax consequences of the transaction
actions that would be necessary to successfully meld the two
workforces
Ineffective due-diligence process may
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result in paying excessive premium for the target company
Problems With Acquisitions
Large or Extraordinary Debt
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Firm may take on significant debt to acquire a
company
High debt can
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increase the likelihood of bankruptcy
lead to a downgrade in the firm’s credit rating
preclude needed investment in activities that contribute to
the firm’s long-term success
Problems With Acquisitions
Inability to Achieve Synergy
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Synergy exists when assets are worth more when
used in conjunction with each other than when they
are used separately
Firms experience transaction costs (e.g., legal fees)
when they use acquisition strategies to create
synergy
Firms tend to underestimate indirect costs of
integration when evaluating a potential acquisition
Problems With Acquisitions
Too Much Diversification
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Diversified firms must process more information of
greater diversity
Scope created by diversification may cause
managers to rely too much on financial rather than
strategic controls to evaluate business units’
performances
Acquisitions may become substitutes for innovation
Problems With Acquisitions
Managers Overly Focused on Acquisitions
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Managers in target firms may operate in a state of
virtual suspended animation during an acquisition
Executives may become hesitant to make decisions
with long-term consequences until negotiations have
been completed
Acquisition process can create a short-term
perspective and a greater aversion to risk among
top-level executives in a target firm
Problems With Acquisitions
Too Large
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Additional costs may exceed the benefits of the
economies of scale and additional market power
Larger size may lead to more bureaucratic controls
Formalized controls often lead to relatively rigid and
standardized managerial behavior
Firm may produce less innovation
Strategic Alliance
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A strategic alliance is a cooperative strategy in which
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firms combine some of their resources and capabilities
to create a competitive advantage
 A strategic alliance involves
– exchange and sharing of resources and capabilities
– co-development or distribution of goods or services
Strategic Alliance
Firm A
Resources
Capabilities
Core Competencies
Firm B
Resources
Capabilities
Core Competencies
Combined
Resources
Capabilities
Core Competencies
Mutual interests in designing, manufacturing,
or distributing goods or services
Types of Cooperative Strategies
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Joint venture: two or more firms create an
independent company by combining parts of their
assets
Equity strategic alliance: partners who own different
percentages of equity in a new venture
Nonequity strategic alliances: contractual
agreements given to a company to supply, produce,
or distribute a firm’s goods or services without equity
sharing
Marketing & Sales
Procurement
Technological Development
Human Resource Mgmt.
Firm Infrastructure
Support Activities
Service
Outbound Logistics
Operations
Inbound Logistics
Primary Activities
Service
Marketing & Sales
Procurement
Technological Development
Human Resource Mgmt.
Firm Infrastructure
Supplier
Support Activities
Vertical Alliance
Strategic Alliances
Outbound Logistics
Operations
Inbound Logistics
Primary Activities
• vertical complementary strategic
alliance is formed between firms
that agree to use their skills and
capabilities in different stages of
the value chain to create value
for both firms
• outsourcing is one example of
this type of alliance
Strategic Alliances
Buyer
Buyer
Primary Activities
Service
Marketing & Sales
Procurement
Inbound Logistics
Technological Development
Operations
Human Resource Mgmt.
Outbound Logistics
Firm Infrastructure
Marketing & Sales
Support Activities
Service
Procurement
Technological Development
Human Resource Mgmt.
Firm Infrastructure
Support Activities
Potential Competitors
Outbound Logistics
Operations
Inbound Logistics
Primary Activities
• horizontal complementary strategic alliance is formed
between partners who agree to combine their resources and
skills to create value in the same stage of the value chain
• focus on long-term product development and distribution
opportunities
• the partners may become competitors
• requires a great deal of trust between the partners