©2004 by South-Western/Thomson Learning 1 Corporate-Level Strategy Robert E. Hoskisson Michael A. Hitt R. Duane Ireland Chapter 7

2 Chapter 2 Chapter 2 Strategic Leadership Strategic Leadership Chapter 4 Chapter 4 The Internal The Internal Organization Chapter 6 Chapter 6 Competitive Rivalry and Competitive Rivalry and Competitive Dynamics Competitive Dynamics Chapter 9 Chapter 9 International Strategy International Strategy Chapter 1 Chapter 1 Introduction to Introduction to Strategic Management Strategic Management Chapter 3 Chapter 3 The External The External Environment Chapter 5 Chapter 5 Business-Level Strategy Chapter 8 Chapter 8 Acquisition and Acquisition and Restructuring Strategies Restructuring Strategies Chapter 11 Chapter 11 Corporate Governance Corporate Governance Strategic Intent Strategic Intent Strategic Mission Strategic Mission Chapter 7 Chapter 7 Corporate-Level Strategy Corporate-Level Strategy Chapter 10 Chapter 10 Cooperative Strategy Cooperative Strategy Chapter 12 Chapter 12 Strategic Entrepreneurship Strategic Entrepreneurship Strategic Analysis Strategic Thinking Creating Competitive Advantage Monitoring And Creating Entrepreneurial Opportunities The Strategic Management Process Chapter 5 Chapter 5 Business-Level Strategy Chapter 6 Chapter 6 Competitive Rivalry and Competitive Rivalry and Competitive Dynamics Competitive Dynamics Chapter 7 Chapter 7 Corporate-Level Strategy Corporate-Level Strategy

3 Click Here Click Here Click Here Discussion Questions 1.What is the difference between business- and corporate- level strategy? How can corporate level diversification strategies be classified in regard to type and amount of diversification? 2.What are the reasons that firms pursue a corporate diversification strategy? 3.What are the value enhancing economic rationales for related diversification? Click Here More discussion questions

4 Discussion Questions (cont.) Click Here Click Here 4.What are the value enhancing economic rationales for unrelated diversification? 5.Why are diversified firms more efficiently managed with a multidivisional structure? What variants of the multidivisional form fit with the specific types of corporate strategy? Click Here More discussion questions

5 Discussion Questions (cont.) Click Here Click Here 6.What are the external as well as the internal incentives (generally value neutral motives) firms have to diversify? What resources foster increased diversification? 7.Are there managerial rationales that serve as motives to increase diversification but which may deflate the value of the firm? Click Here More discussion questions

6 Discussion Questions (cont.) Click Here 8.How would you summarize the relationship between diversification strategy and firm performance outcomes?

7 Discussion Question 1 What is the difference between business- and corporate- level strategy? How can corporate level diversification strategies be classified in regard to type and amount of diversification?

8 Levels and Types of Diversification Low Levels of Diversification Single Business > 95% of business from a single business unit Dominant Business Between 70 and 95% of business from a single business unit

9 Related Constrained <70% of revenues from dominant business; all businesses share product, technological and distribution linkages Levels and Types of Diversification Moderate to High Levels of Diversification

10 Related Linked (Mixed) < 70% of revenues from dominant business, and only limited links exist Levels and Types of Diversification Moderate to High Levels of Diversification

11 Click Here Return to Discussion Questions Levels and Types of Diversification Unrelated < 70% of revenue comes from the dominant business, and there are no common links between businesses Very High Levels of Diversification

12 Discussion Question 2 What are the reasons that firms pursue a corporate diversification strategy?

13 Reasons for Diversification Reasons to Enhance Strategic Competitiveness Economies of scope Market power Financial economics Incentives Resources ManagerialMotives

14 Resources with varying effects on value creation and strategic competitiveness Tangible resources  financial resources  physical assets Intangible resources  tacit knowledge  customer relations  image and reputation Incentives Resources ManagerialMotives Reasons for Diversification

15 Value-creating Strategies of Diversification: Operational and Corporate Readiness Related Constrained Diversification Vertical Integration (Market Power) UnrelatedDiversification (Financial Economies) Both Operational and Corporate Relatedness (Rare Capability and can Create Diseconomies of Scope) Related Linked Diversification (Economies of Scope) Corporate Readiness: Transferring Skills into Businesses Through Corporate Headquarters LowHigh Sharing: Operational Relatedness Between Businesses LowHigh

16 Adding Value by Diversification Diversification most effectively adds value by either of two mechanisms: –Economies of scope: cost savings attributed to transferring the capabilities and competencies developed in one business to a new business –Market power: when a firm is able to sell its products above the existing competitive level or reduce the costs of its primary and support activities below the competitive level, or both

17 Diversification and Multidivisional Structure Three major benefits –more accurate monitoring of the performance of each business, simplifying problems of control –facilitate comparisons between divisions, improving resource allocation process –stimulate managers of poorly performing divisions to look for ways of improving performance

18 Alternative Diversification Strategies Related Diversification Strategies –sharing activities –transferring core competencies Unrelated Diversification Strategies –efficient internal capital market allocation –restructuring

19 Alternative Diversification Strategies Related Diversification Strategies –sharing activities Click Here Return to Discussion Questions

20 Discussion Question 3 What are the value enhancing economic rationales for related diversification?

21 Sharing Activities: Sharing activities often lowers costs or raises differentiation Sharing activities often lowers costs or raises differentiation Sharing activities can lower costs if it: Sharing activities can lower costs if it: –achieves economies of scale –boosts efficiency of utilization –helps move more rapidly down the Learning Curve Sharing activities can enhance potential for or reduce the cost of differentiation Sharing activities can enhance potential for or reduce the cost of differentiation Must involve activities that are crucial to competitive advantage Must involve activities that are crucial to competitive advantage Key Characteristics

22 Sharing Activities: Strong sense of corporate identity Strong sense of corporate identity Clear corporate mission that emphasizes the importance of integrating business units Clear corporate mission that emphasizes the importance of integrating business units Incentive system that rewards more than just business unit performance Incentive system that rewards more than just business unit performance Assumptions

23 Related Diversification Strategies –sharing activities –transferring core competencies Alternative Diversification Strategies

24 Transferring Core Competencies: Exploits interrelationships among divisions Exploits interrelationships among divisions Start with value chain analysis Start with value chain analysis –identify ability to transfer skills or expertise among similar value chains –exploit ability to transfer activities Key Characteristics

25 Click Here Return to Discussion Questions Transferring Core Competencies: Transferring core competencies leads to competitive advantage only if the similarities among business units meet the following conditions: Transferring core competencies leads to competitive advantage only if the similarities among business units meet the following conditions: –activities involved in the businesses are similar enough that sharing expertise is meaningful –transfer of skills involves activities which are important to competitive advantage –the skills transferred represent significant sources of competitive advantage for the receiving unit Assumptions

26 Question 4 What are the value enhancing economic rationales for unrelated diversification?

27 Related Diversification Strategies –sharing activities –transferring core competencies Alternative Diversification Strategies Unrelated Diversification Strategies –efficient internal capital market allocation

28 Efficient Internal Capital Market Allocation: Firms pursuing this strategy frequently diversify by acquisition: Firms pursuing this strategy frequently diversify by acquisition: –acquire sound, attractive companies –acquired units are autonomous –acquiring corporation supplies needed capital –portfolio managers transfer resources from units that generate cash to those with high growth potential and substantial cash needs –add professional management & control to sub-units –sub-unit managers compensation based on unit results Key Characteristics

29 Efficient Internal Capital Market Allocation: Managers have more detailed knowledge of firm relative to outside investors Managers have more detailed knowledge of firm relative to outside investors Firm need not risk competitive edge by disclosing sensitive competitive information to investors Firm need not risk competitive edge by disclosing sensitive competitive information to investors Firm can reduce risk by allocating resources among diversified businesses, although shareholders can generally diversify more economically on their own Firm can reduce risk by allocating resources among diversified businesses, although shareholders can generally diversify more economically on their own Assumptions

30 Related Diversification Strategies –sharing activities –transferring core competencies Unrelated Diversification Strategies –efficient internal capital market allocation Alternative Diversification Strategies –restructuring

31 Restructuring: Seek out undeveloped, sick or threatened organizations or industries Seek out undeveloped, sick or threatened organizations or industries Parent company (acquirer) intervenes and frequently: Parent company (acquirer) intervenes and frequently: –changes sub-unit management team –shifts strategy –infuses firm with new technology –enhances discipline by changing control systems –divests part of firm –makes additional acquisitions to achieve critical mass Key Characteristics

32 Restructuring: Frequently sell unit after making one-time changes since parent no longer adds value to ongoing operations Frequently sell unit after making one-time changes since parent no longer adds value to ongoing operations Key Characteristics

33 Restructuring: Requires keen management insight in selecting firms with depressed values or unforeseen potential Requires keen management insight in selecting firms with depressed values or unforeseen potential Must do more than restructure companies Must do more than restructure companies Need to initiate restructuring of industries to create a more attractive environment Need to initiate restructuring of industries to create a more attractive environment Assumptions Click Here Return to Discussion Questions

34 Question 5 Why are diversified firms more efficiently managed with a multidivisional structure? What variants of the multidivisional form fit with the specific types of corporate strategy?

35 Strategy and Structure Growth Pattern: SimpleStructure FunctionalStructure MultidivisionalStructure Sales Growth- Coordination and Control Problems Sales Growth- Coordination and Control Problems Efficient implementation of formulated strategy Multidivisional Structure

36 Strategy and Structure Growth Pattern: Strategic control Strategic control –operating divisions –each division is separate business or profit center Top corporate officer delegates responsibilities to division managers Top corporate officer delegates responsibilities to division managers –for day-to-day operations –for business-unit strategy Appropriate when the firm grows through diversification Appropriate when the firm grows through diversification Multidivisional Structure

37 Strategy and Structure Growth Pattern: Three major benefits Three major benefits – corporate officers able to more accurately monitor the performance of each business, which simplifies the problem of control –facilitates comparisons between divisions, which improves the resource allocation process –stimulates managers of poorly performing divisions to look for ways of improving performance Multidivisional Structure

38 Multidivisional Structure Managers try to strike a balance between: Managers try to strike a balance between: –competing among divisions for scarce capital resources –creating opportunities for cooperation to develop synergies The goal is to maximize overall firm performance The goal is to maximize overall firm performance The decision-making of managers in a multidivisional structure may be: The decision-making of managers in a multidivisional structure may be: –centralized or decentralized –bureaucratic or non-bureaucratic

39 Multidivisional Structure Balance on these dimensions may change over time Balance on these dimensions may change over time Structure will evolve over time with: Structure will evolve over time with: –changes in strategy –degree of diversification –geographic scope –nature of competition

40 Three Variations of the Multidivisional Structure MultidivisionalStructure(M-form) Strategic Business-Unit (SBU) Form CooperativeFormCompetitiveForm

41 Cooperative Form of Multidivisional Structure: Related-Constrained Strategy GovernmentAffairsLegalAffairs Corporate R&D Lab StrategicPlanningCorporateHumanResourcesCorporateMarketingCorporateFinance ProductDivisionProductDivisionProductDivisionProductDivisionProductDivision President Headquarters Office

42 Cooperative Form of Multidivisional Structure: Structural integration devices create tight links among all divisions Structural integration devices create tight links among all divisions Corporate office emphasizes centralized strategic planning, human resources, and marketing to foster cooperation between divisions Corporate office emphasizes centralized strategic planning, human resources, and marketing to foster cooperation between divisions R&D is likely to be centralized R&D is likely to be centralized Rewards are subjective and tend to emphasize overall corporate performance, in addition to divisional performance Rewards are subjective and tend to emphasize overall corporate performance, in addition to divisional performance Culture emphasizes cooperative sharing Culture emphasizes cooperative sharing Related-Constrained Strategy

43 SBU Form of Multidivisional Structure: Related-Linked Strategy President Corporate R&D Lab StrategicPlanningCorporateHRMCorporateMarketingCorporateFinance Headquarters Office Division Division Division SBUSBUSBU Division Division Division Division Division Division

44 SBU Form of Multidivisional Structure: Structural integration devices create tight links among all divisions Structural integration devices create tight links among all divisions Corporate office emphasizes centralized strategic planning, human resources, and marketing to foster cooperation between divisions Corporate office emphasizes centralized strategic planning, human resources, and marketing to foster cooperation between divisions R&D is likely to be centralized R&D is likely to be centralized Rewards are subjective and tend to emphasize overall corporate performance, in addition to divisional performance Rewards are subjective and tend to emphasize overall corporate performance, in addition to divisional performance Culture emphasizes cooperative sharing Culture emphasizes cooperative sharing Related-Linked Strategy

45 Market Power Multipoint competition –two or more diversified firms simultaneously compete in the same product areas or geographic markets Vertical integration –company produces its own inputs (backward integration) or owns its own source of distribution of outputs (forward integration)

46 Simultaneous Operational Relatedness and Corporate Relatedness Simultaneously managing two sources of knowledge is difficult and such efforts often fail Either cooperative or SBU M-form structures would likely be implemented with this dual strategy

47 Competitive Form of Multidivisional Structure: Unrelated Diversification Strategy President LegalAffairsFinanceAuditing Headquarters Office DivisionDivisionDivisionDivisionDivisionDivision

48 Competitive Form of Multidivisional Structure: Corporate headquarters has a small staff Corporate headquarters has a small staff Finance and auditing are the most prominent functions in the headquarters to manage cash flow and ensure the accuracy of performance data coming from divisions Finance and auditing are the most prominent functions in the headquarters to manage cash flow and ensure the accuracy of performance data coming from divisions The legal affairs function becomes important when the firm acquires or divests assets The legal affairs function becomes important when the firm acquires or divests assets Divisions are independent and separate for financial evaluation purposes Divisions are independent and separate for financial evaluation purposes Divisions retain strategic control, but cash is managed by the corporate office Divisions retain strategic control, but cash is managed by the corporate office Divisions compete for corporate resources Divisions compete for corporate resources Unrelated Diversification Strategy

49 Characteristics of Various Structural Forms Structural Characteristics Cooperative M-Form SBU M-Form M-Form Competitive M-Form Degree of Centralization Centralized at Corporate Office Partially Centralized in SBUs Decentralized to Divisions Use of IntegratingMechanisms ExtensiveModerateNonexistent Type of StrategyRelated-ConstrainedRelated-LinkedUnrelatedDiversification

50 Characteristics of Various Structural Forms DivisionalIncentiveCompensation Linked to CorporatePerformance Corporate SBU & Division Performance Linked to DivisionalPerformance DivisionalPerformanceAppraisalSubjectiveStrategicCriteria Strategic & FinancialCriteria Objective Financial Criteria Structural Characteristics Cooperative M-Form SBU M-Form M-Form Competitive M-Form Click Here Return to Discussion Questions

51 Question 6 What are the external as well as the internal incentives (generally value neutral motives) firms have to diversify? What resources foster increased diversification?

52 Incentives with Neutral Effects on Strategic Competitiveness Anti-trust regulation Tax laws Low performance Uncertain future cash flows Firm risk reduction Incentives Resources ManagerialMotives Reasons for Diversification

53 Incentives to Diversify External Incentives: Relaxation of anti-trust regulation allows more related acquisitions than in the past 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 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 After 1986, firms made fewer acquisitions with retained earnings, shifting to the use of debt to take advantage of tax deductible interest payments

54 Incentives to Diversify Internal Incentives: Poor performance may lead some firms to diversify an attempt to achieve better returns 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 to balance uncertain future cash flows Firms may diversify into different businesses in order to reduce risk Firms may diversify into different businesses in order to reduce risk

55 Resources and Diversification Besides strong incentives, firms are more likely to diversify if they have the resources to do so 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 Value creation is determined more by appropriate use of resources than incentives to diversify Click Here Return to Discussion Questions

56 Question 7 Are there managerial rationales that serve as motives to increase diversification but which may deflate the value of the firm?

57 Managerial Motives (Value Reduction) Diversifying managerial employment risk Increasing managerial compensation Incentives Resources ManagerialMotives Reasons for Diversification

58 Managerial Motives to Diversify Managers have motives to diversify –diversification increases size; size is associated with executive compensation –diversification reduces employment risk –effective governance mechanisms may restrict such motives Click Here Return to Discussion Questions

59 Question 8 How would you summarize the relationship between diversification strategy and firm performance outcomes?

60 Relationship Between Diversification and Performance Performance Level of Diversification Dominant Business Unrelated Business Related Constrained

61 Relationship Between Firm Performance and Diversification Incentives ManagerialMotives Resources DiversificationStrategy FirmPerformance InternalGovernanceStrategyImplementation Capital Market Intervention and the Market for Managerial Talent