1. Vertical and Horizontal Integration
Week 10

2. Agenda Examine the vertical/horizontal scope of the firm
Explore the principles of transaction cost economics.
Identify the advantages and disadvantages of Vertical/Horizontal Integration

3. Ansoff's Matrix of Growth Choices
Products
Existing
New
Market
Penetration
Product
Development
Existing
Markets
Market
Development
Diversification
New 3

4. Types of Mergers and Acquisitions
Horizontal Merger:
Merging of two firms that produce or sell identical or similar products
Vertical Merger:
The merger in which one firm acquires either a customer or a supplier. Merging with customer means Forward integration. Merging with supplier mans Backward integration
Conglomerate Mergers:
Merging of two firms in completely different industries. For example, merging of departmental stores and information technology corporation.

5. Horizontal Integration
Horizontal Integration means to acquire business activities at the same level of the value chain. 
This can be done in the same geography or probably in other countries to increase your reach.
Acquiring activities dealing with similar products,
Acquiring activities that are substitutes for one’s products.
Acquiring competitors. In this way reducing the threat from competition.
Completing the product range which is ‘expected’ by the customer.

6. STRENGTHS OF HORIZONTAL INTEGRATION. BENEFITS
Economies of scale.
Synergy.
Defence against substitutes.
Reduction in competition.
Fulfilling customer expectations.
Increased negotiation power. Get more leverage over powerful suppliers or customers.

7. Vertical Integration A B C D Oil Exploration Oil Extraction
Oil Refining
Distribution
Vertical Integration A B C D
Oil Exploration
Oil Extraction
Oil Refining
Distribution
Oil Exploration
Oil Extraction
Oil Refining
Distribution

8. What is Vertical Integration?
Firm’s ownership of vertically related activities, i.e. successive stages of the value chain.
Extent of vertical integration is indicated by the ratio of a firm’s value added to its sales revenues: If a company makes more, its value added is greater relative to revenue.

9. Types of Vertical Integration
Types of Vertical Integrations:
Backward integration –the company tries to own an input product company. Like a car company owning a company which makes tires.
Forward integration –the business tries to control the post production areas, namely the distribution network. Like a mobile company opening its own Mobile retail chain.
Balanced integration – a mix of the above two. A balanced strategy to take advantages of both the worlds.
Decisions
To integrate (more)
Is this a good way to grow / defend existing position?
To dis-integrate
Types of Vertical Integration

10. Make or buy? Supermarket can:
own farms and grow fruit & vegetable or
go to market and buy from farmers
Transaction costs – associated with organising across markets
Administrative costs – associated with organizing within firms
Ronald Coase suggests estimating the relative cost.

11. Transaction vs Administrative Costs in Vertical Exchanges
Overheads
Bureaucracy
Loss of efficiency
Transaction costs if going to market:
Search
Negotiate
Contracts or other legal
Monitoring
Invoice and payment
Supply management
Forecasting
Delivery
Very Operational!

12. Value Chain for Steel Cans
Iron ore mining
Steel production
Steel strip production
Can-making
Canning of food and drink
Market Contracts
Vertical Integration
Market Contracts
Both
Steel Making:
Grant (2010, P.355)

13. Strategic Motives Operating System Internet Browser Search Engine
Why Google needs its own browser
Why Google made the Chrome OS - Why is Chrome so important to Google? It's a 'locked-in user'-
Why Google created Android?

14. Mobile Software Map Development Strategic Moves
Why Apple got its own maps?
Also having its own stores

15. Does this remind you of any particular Model?

16. Porter’s Five Forces Analysis
Threat of
Potential Entrants
Supplier Power
Intensity of
Competitor Rivalry
Buyer Power
(Customers)
Threat of
Substitutes

17. Porter’s Five Forces Analysis
Threat of
Potential Entrants
Power
Supplier Power
Intensity of
Competitor Rivalry
Buyer Power
(Customers)
Threat of
Substitutes

18. Administrative Costs of Internalisation
Differences in optimal scale between different stages of production
Developing distinctive capabilities
Managing strategically different businesses
The incentive problem
Competitive effects of vertical integration
Flexibility
Compounding risk

19. Alternatives to VI
Long-term contracts
Vendor partnerships
Franchising

20. Summary Consider VI if: In unstable environments More cost-effective
Transaction costs avoided are higher than management costs
There’s an advantage in synchronising production
Blocking competitors
Locking in expertise
Grabbing scarce resource
Stable environment
Low / no penalty for locking in relationship
In unstable environments
Especially technological
Remain flexible?