1. Chapter 6 Corporate Strategies 1

2. 2 Learning Objectives To understand: the responsibilities of corporate-level managers the types of corporate strategies, including concentration, vertical integration and both related and unrelated diversification merger and acquisition, joint venture, and internal development strategies and their advantages and disadvantages the appropriate use and interpretation of portfolio models. To understand: the responsibilities of corporate-level managers the types of corporate strategies, including concentration, vertical integration and both related and unrelated diversification merger and acquisition, joint venture, and internal development strategies and their advantages and disadvantages the appropriate use and interpretation of portfolio models.

3. 3 StrategicDirection Strategy Formulation (corporate and business level) Strategy Implementation and Control Strategic Restructuring External and Internal Analysis Strategic Management Process

4. 4 Major Corporate-Level Strategy Formulation Responsibilities Direction setting—Mission, vision, enterprise strategy, long-term goals for the entire corporation Development of corporate-level strategy—Selection of broad approach to corporate-level strategy: concentration, vertical integration, diversification, international expansion. Selection of resources and capabilities in which to build corporate-wide distinctive competencies Selection of businesses and portfolio management—Management of the corporate portfolio. Emphasis given to each business unit via resource allocations. Selection of tactics for diversification and growth–Internal venturing, acquisitions and/or joint ventures Management of resources—Acquisition and/or development of resources and competencies leading to sustainable competitive advantage. Oversee development of business-level strategies in the business units. Develop an appropriate corporate culture Direction setting—Mission, vision, enterprise strategy, long-term goals for the entire corporation Development of corporate-level strategy—Selection of broad approach to corporate-level strategy: concentration, vertical integration, diversification, international expansion. Selection of resources and capabilities in which to build corporate-wide distinctive competencies Selection of businesses and portfolio management—Management of the corporate portfolio. Emphasis given to each business unit via resource allocations. Selection of tactics for diversification and growth–Internal venturing, acquisitions and/or joint ventures Management of resources—Acquisition and/or development of resources and competencies leading to sustainable competitive advantage. Oversee development of business-level strategies in the business units. Develop an appropriate corporate culture

5. 5 Corporate Strategies Concentration Vertical Integration Unrelated Diversification Related Diversification Concentration Vertical Integration Unrelated Diversification Related Diversification Corporate strategy typically evolves from concentration on a single business to some form of vertical integration or diversification of products, markets, or resource conversion processes. At some point, a crisis may result in restructuring.

6. 6 Advantages of Concentration Allows a firm to master one business In-depth knowledge Easier to achieve competitive advantage Organizational resources under less strain Prevents proliferation of management levels and staff functions Allows reinvestment into same business Profitability dependent on which industry and which nation Allows a firm to master one business In-depth knowledge Easier to achieve competitive advantage Organizational resources under less strain Prevents proliferation of management levels and staff functions Allows reinvestment into same business Profitability dependent on which industry and which nation

7. 7 Disadvantages of Concentration Overdependence on one product or business area Product obsolescence and industry maturity Uneven cash flows Insufficient challenge and stimulation for management Overdependence on one product or business area Product obsolescence and industry maturity Uneven cash flows Insufficient challenge and stimulation for management

8. 8 The Vertical Supply Chain Raw Materials Extraction Primary Manufac- turing Final Product Manufac- turing Whole- saling Retailing Vertical Integration: The extent to which an organization is involved in multiple stages of the industry supply chain Vertical Integration: The extent to which an organization is involved in multiple stages of the industry supply chain

9. 9 Possible Benefits of Vertical Integration Common reasons for vertical integration Increased efficiency Increased control over quality of supplies or the way the product is marketed Better information about supplies or markets Greater opportunities for differentiation through coordinated effort Opportunity to make greater profits by performing another function in the vertical supply chain Common reasons for vertical integration Increased efficiency Increased control over quality of supplies or the way the product is marketed Better information about supplies or markets Greater opportunities for differentiation through coordinated effort Opportunity to make greater profits by performing another function in the vertical supply chain

10. 10 Transactions Costs and Vertical Integration Basic Proposition: Firms should buy what they need from the market as long as transactions costs are low. Transactions costs are reflected by the time and resources needed to create and enforce a contract to purchase goods and services. If transactions costs are high, the market fails to provide the best deal. This is called a market failure. Transactions costs are high (the market fails) if: ›Highly uncertain future ›One or small number of suppliers ›One party to a transaction has more knowledge about the transaction than the other ›An organization has to invest in an asset that can only be used to produce a specific good or service (asset specificity) Basic Proposition: Firms should buy what they need from the market as long as transactions costs are low. Transactions costs are reflected by the time and resources needed to create and enforce a contract to purchase goods and services. If transactions costs are high, the market fails to provide the best deal. This is called a market failure. Transactions costs are high (the market fails) if: ›Highly uncertain future ›One or small number of suppliers ›One party to a transaction has more knowledge about the transaction than the other ›An organization has to invest in an asset that can only be used to produce a specific good or service (asset specificity)

11. 11 Success of Vertical Integration Strategy Research has found that vertical integration is not a particularly profitable strategy in most cases: Requires substantially different skills Can lock firms into unprofitable adjacent businesses May be associated with lower administrative, selling, and R&D costs, but higher production costs (internal sellers don't keep costs down) When vertical integration appears to be attractive: Taper integration: make some in-house and buy the rest May provide a competitive advantage during international expansion Research has found that vertical integration is not a particularly profitable strategy in most cases: Requires substantially different skills Can lock firms into unprofitable adjacent businesses May be associated with lower administrative, selling, and R&D costs, but higher production costs (internal sellers don't keep costs down) When vertical integration appears to be attractive: Taper integration: make some in-house and buy the rest May provide a competitive advantage during international expansion

12. 12 Corporate Strategies Concentration – low or no diversification Vertical Integration – depends on nature of new business, but may be similar to unrelated diversification Unrelated Diversification – very high diversification Related Diversification – medium level of diversification Concentration – low or no diversification Vertical Integration – depends on nature of new business, but may be similar to unrelated diversification Unrelated Diversification – very high diversification Related Diversification – medium level of diversification

13. Observed Relationship Between Level of Diversification and Firm Performance 13 LowHighModerate Level of Diversification Low High Firm Performance

14. 14 Unrelated Diversification Large, highly diversified firms are called conglomerates In theory, should provide financial economies ›Allocation of capital to high performing business areas ›Restructuring of acquired firm assets ›Large size should lead to more attractive financing Not a high performing strategy for most firms (with a few notable exceptions) in industrialized nations like the U.S. Difficult for a top manager to understand and appreciate the core technologies, key success factors and special requirements of each business area Large, highly diversified firms are called conglomerates In theory, should provide financial economies ›Allocation of capital to high performing business areas ›Restructuring of acquired firm assets ›Large size should lead to more attractive financing Not a high performing strategy for most firms (with a few notable exceptions) in industrialized nations like the U.S. Difficult for a top manager to understand and appreciate the core technologies, key success factors and special requirements of each business area

15. 15 Related Diversification Based on similarities among products, services, markets or resource conversion processes (technologies) May lead to synergy if: ›Relatedness ¤Tangible--same physical resources OR ¤Intangible--capabilities developed in one area can be used in other area because relatedness exists ›Fit ¤Strategic--complementary resources and skills ¤Organizational—similar management processes, cultures, systems and structures Based on similarities among products, services, markets or resource conversion processes (technologies) May lead to synergy if: ›Relatedness ¤Tangible--same physical resources OR ¤Intangible--capabilities developed in one area can be used in other area because relatedness exists ›Fit ¤Strategic--complementary resources and skills ¤Organizational—similar management processes, cultures, systems and structures

16. 16 Diversification Methods Internal VenturesInternal Ventures Mergers and AcquisitionsMergers and Acquisitions Joint VenturesJoint Ventures Internal VenturesInternal Ventures Mergers and AcquisitionsMergers and Acquisitions Joint VenturesJoint Ventures

17. 17 Internal Ventures Internal ventures make use of the research and development programs of the organization Provides high level of control over the ventureProvides high level of control over the venture Proprietary information need not be shared with other firmsProprietary information need not be shared with other firms All profits are retained by the venturing companyAll profits are retained by the venturing company Disadvantages of internal ventures: Risk of failure is highRisk of failure is high They take a lot of time to become profitableThey take a lot of time to become profitable Internal ventures make use of the research and development programs of the organization Provides high level of control over the ventureProvides high level of control over the venture Proprietary information need not be shared with other firmsProprietary information need not be shared with other firms All profits are retained by the venturing companyAll profits are retained by the venturing company Disadvantages of internal ventures: Risk of failure is highRisk of failure is high They take a lot of time to become profitableThey take a lot of time to become profitable

18. 18 Mergers and Acquisitions Fast way to enter new marketsFast way to enter new markets Acquire new products or servicesAcquire new products or services Learn new technologiesLearn new technologies Acquire needed knowledge and skillsAcquire needed knowledge and skills Vertically integrateVertically integrate Broaden markets geographicallyBroaden markets geographically Fill needs in the corporate portfolioFill needs in the corporate portfolio Increase market shareIncrease market share Fast way to enter new marketsFast way to enter new markets Acquire new products or servicesAcquire new products or services Learn new technologiesLearn new technologies Acquire needed knowledge and skillsAcquire needed knowledge and skills Vertically integrateVertically integrate Broaden markets geographicallyBroaden markets geographically Fill needs in the corporate portfolioFill needs in the corporate portfolio Increase market shareIncrease market share

19. 19 Mergers and Acquisitions Most research indicates that mergers and acquisitions perform poorly: High premiums Increased interest costs High advisory fees Poison pills High premiums Increased interest costs High advisory fees Poison pills High turnover Managerial distraction Less innovation Lack of fit Increased risk High turnover Managerial distraction Less innovation Lack of fit Increased risk

20. 20 Mergers that Don’t Work Large or extraordinary debt Overconfident or incompetent management Ethical concerns Changes in top management team and/or organizational Inadequate analysis (due diligence) Diversification away from the firm’s core Large or extraordinary debt Overconfident or incompetent management Ethical concerns Changes in top management team and/or organizational Inadequate analysis (due diligence) Diversification away from the firm’s core

21. 21 Mergers That Work Better Low-to-moderate debt High relatedness leading to synergy Friendly negotiations (no resistance) Continued focus on core business of firm Careful selection of and negotiations with target firm Use of cash for deal instead of stock Strong financial position prior to deal Similar firm cultures and management styles Sharing resources across companies Low-to-moderate debt High relatedness leading to synergy Friendly negotiations (no resistance) Continued focus on core business of firm Careful selection of and negotiations with target firm Use of cash for deal instead of stock Strong financial position prior to deal Similar firm cultures and management styles Sharing resources across companies

22. 22 Strategic Alliances and Joint Ventures Resource sharing – marketing, technology, raw materials and components, financial, managerial, political Speed of entry Learning through alliances Spread risk of failure Increase strategic flexibility Resource sharing – marketing, technology, raw materials and components, financial, managerial, political Speed of entry Learning through alliances Spread risk of failure Increase strategic flexibility

23. 23 Problems with Strategic Alliances and Joint Ventures Only partial control and shared profitability High administrative costs Possible lack of fit Risk of withdrawal of a partner Risk of opportunism Foreign joint ventures are even more risky due to potential for miscommunications, misunderstandings and lack of shared knowledge about the constraints of the external environment Only partial control and shared profitability High administrative costs Possible lack of fit Risk of withdrawal of a partner Risk of opportunism Foreign joint ventures are even more risky due to potential for miscommunications, misunderstandings and lack of shared knowledge about the constraints of the external environment

24. 24 Successful Alliances Careful planning and execution Selection of partner ›Complementarity - each partner contributes non-overlapping resources ›Partners compatible in culture and work arrangements ›Each party demonstrates commitment to alliance Effective use of coordinating mechanisms Establishment of trust Selection of appropriate governance ›Equity sharing or ownership ›Contract that contains the particulars ›Self-enforcing relational governance (reputation, goodwill, trust) Careful planning and execution Selection of partner ›Complementarity - each partner contributes non-overlapping resources ›Partners compatible in culture and work arrangements ›Each party demonstrates commitment to alliance Effective use of coordinating mechanisms Establishment of trust Selection of appropriate governance ›Equity sharing or ownership ›Contract that contains the particulars ›Self-enforcing relational governance (reputation, goodwill, trust)

25. 25 Portfolio Models Business Growth Rate Business Growth Rate Relative Competitive Position (Relative Market Share) High Low High Low ?