Diversification

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Diversification

  1. 1. Strategy Formulation Strategies for Growth and Diversification
  2. 2. Identifying Growth StrategiesDefine the industryAnalyze options for growth
  3. 3. What Is Our Industry?Defining the industry in new ways canpresent new opportunities.Examples: Disney IBM
  4. 4. Business-Level Strategies For Growth Product/Service Existing New Market Product Existing Penetration DevelopmentDomain Strategy Strategy(i.e., IndustryMarket Market Diversification New Development Strategy Strategy
  5. 5. Product/Market Expansion: Scale StrategiesMarket PenetrationGoal: increase market shareLow risk/marginal returnsEvery business does thisMarket DevelopmentGoal: find new marketsMarketing expertiseMature products/services
  6. 6. Product/Market Expansion: Scope StrategiesProduct DevelopmentGoal: develop & introduce new products/servicesTechnical expertiseGrowth of products/services(Could Entail Related Diversification)DiversificationGoal: develop & introduce products/services to new or emergingmarkets(Most likely Unrelated Diversification)
  7. 7. When Does Diversification Make Sense?Single business strategies have a number of advantages ……but also a number of risks -- all one’s eggs in one basketThe logic: to spread corporate risk across multiple industriesto enhance shareholder value: SYNERGY (i.e., 2 + 2 = 5)
  8. 8. Diversification -- MotivesThe risks of single business strategies aremore severe for management than forshareholders of publicly traded firms.Diversification may be motivated bymanagement’s desire to reduce risk.Diversification only makes sense when itenhances shareholder value!
  9. 9. Tests For Judging Diversification Attractiveness Better-off Cost of entry
  10. 10. Attractiveness TestIs the target industry attractive? (Use 5-forces model to assess industryattractiveness)Does the diversification move fit with thegrand strategy of the firm?
  11. 11. Better-off testDoes the diversification move produceopportunities for synergies? Will thecompany be better off after thediversification than it was before? How andwhy?
  12. 12. Cost of Entry TestIs the cost of the diversification worth it?Will the diversified firm create enoughadditional value to justify the cost?
  13. 13. Methods for DiversificationAcquisition of an existing businessCreation of a new business from within, e.g.a start-upJoint venture with another firm or firms
  14. 14. AcquisitionMost popular approach to diversificationQuick market entryAvoids entry barriers: Technology Access to suppliers Efficiency / economies of scale Promotion Distribution channels
  15. 15. Major Acquisition Issue Acquire a successful company at a high price orAcquire a struggling company at a bargain price
  16. 16. Start-UpAppropriate when: You have time to launch Market moves slowly Internal entry costs lower than acquisition costs You already possess necessary skills Target industry is fragmented
  17. 17. Joint VenturesPooling resources to spread riskAchieving synergy from respective capabilitiesLeveraging one another’s experienceComplicated; potential for conflicts if responsibilities,liabilities, & rewards not clearly delineated
  18. 18. Related DiversificationBusinesses are distinct ……but their value chains possess strategic “fit” in operations,marketing, management, R&D. distribution, labor, etc.Therefore, they tend to exploit economies of scopeTend to (historically) outperform unrelated diversifications
  19. 19. Unrelated DiversificationNo common linkage or element of strategic fit among SBUs -- i.e.,no meaningful value chain interrelationshipsStrategic approach: venture opportunistically into attractiveindustries that have solid potential for financial returns“Conglomerates”Dominant logic: spreads businesses risk over multiple industries,stabilizing corporate profitability (in theory)
  20. 20. Attractive Acquisition Targets for Unrelated DiversificationCompanies whose assets are undervalued (buy’em & sell’emto realize capital gains)Companies that are financially distressed (purchase at bargainprice & turn’em around through injections of financialresources & managerial expertise)Companies with bright prospects, but limited capitalDominant logic: any company that can be acquired on goodfinancial terms & offers good prospects for profitability is agood business for diversification
  21. 21. Drawbacks of Unrelated DiversificationPlaces enormous demands on corporate management --shifting resources & making moves into unknown areas, etc.Cannot capture synergies -- no strategic fit between SBUsFew businesses have offsetting up-down cycles, so sales- profit stability is more mythical than real (& whenEVERYTHING IS in a downturn, assets spread thin are sometimes consumed …)
  22. 22. Strategic Analysis of Diversified Companies“The essence of strategic management is to allocateresources to those areas that possess the greatestpotential for future success”
  23. 23. Corporate Strategy for Diversified Firms -- Key Strategic Issues(1) How attractive are our current businesses?(2) With these businesses, what is our performance outlookfor “X” years in the future?(3) If answers to (1) & (2) above aren’t satisfactory, whatshould we do to get out of some businesses, strengthen thoseremaining, & get into new businesses to boost our prospectsfor better performance?
  24. 24. BCG Growth-Share MatrixDimensions: Industry growth rate Relative market share position of the businessesSBUs plotted as circles with area proportional to theircontribution to overall corporate sales
  25. 25. BCG Business Portfolio Matrix Relative Market Share Position High Low “Stars” “Question Marks” HighIndustryGrowth “Cash Cows” “Dogs”Rate Low
  26. 26. BCG Matrix -- StrengthsEncourages strategists to view a diversified firm as a collection ofcash flows & cash requirements (** its major strategic implication**)Explains why priorities for corporate resource allocation differ fromSBU to SBUDemonstrates the progression of an SBU --from Q-mark ===>Star ===>Cash Cow
  27. 27. BCG Matrix -- WeaknessesOver-simplifies market growth & market share issues4 simple categories are neat, but trends are more valuableDoesn’t directly identify which SBUs offer the best investmentopportunitiesConsiders only 2 variables
  28. 28. G.E. 9-Cell MatrixDimensions: Long-term industry attractiveness Business strength/Competitive positionSBUs plotted as circles with area proportional to the size ofthe industry, & a sector within each circle representing theSBUs market share in its industry
  29. 29. GE 9-Cell Matrix Business Strength/Competitive Position Strong Average Weak HLong-TermIndustry MAttractiveness L
  30. 30. Strategic Implications of the G.E. 9-Cell MatrixSBUs in 3 upper left cells get top investment prioritySBUs in 3 middle diagonal cells merit steady investment tomaintain & protect their industry positionsSBUs in 3 lower right cells are candidates for harvesting ordivestiture
  31. 31. Advantages of G.E. 9-Cell MatrixAllows for intermediate rankings between high & low and between strong & weak Incorporates a wider variety of strategically relevant variables than the BCG matrixStresses the channeling of corporate resources to SBUs withthe greatest potential for competitive advantage & superior performance
  32. 32. Weaknesses of G.E. 9-Cell MatrixProvides no guidance on specifics of SBU strategyOnly suggests general strategic posture -- aggressive expansion, fortify-&-defend, or harvest/divestDoesn’t address the issue of strategic coordination acrossrelated SBUsTends to obscure SBUs about to “take off” or “crash & burn” --static, not dynamic
  33. 33. Life-Cycle Portfolio MatrixDimensions: Industry stage in the life cycle SBU’s competitive positionArea of each SBU circle is proportional to size of the industry; sectors denote SBU’s market share inits industry This matrix displays the distribution of the firm’s businesses across the various stages of industry evolution
  34. 34. Life-Cycle Portfolio Matrix SBUs Competitive Position Strong Average Weak Introduction GrowthLife-Cycle Early MaturityStages Late Maturity Decline
  35. 35. Common Problems Associated With Diversified Firms:Overemphasis on ROIUnder-emphasis on future earnings streamsShort-term focus“Growth” more valued than quality & valueOver-decentralized; top managers becomeisolated & out-of-touchAvoidance of manageable (strategic) riskfor the sake of short-run profit
  36. 36. Performance: Effectiveness &EfficiencyEffectiveness: “external” criteriaEfficiency: “internal” criteriaNot mutually exclusiveBoth important
  37. 37. Effectiveness“Doing the right thing”; goal attainmentDetermine by the marketEstablishes what price you can commandMeasures: sales, market share, etc.
  38. 38. Efficiency“Doing the thing right”Ratio of output to inputDetermines price you must chargeMeasures: operating profit, unit coststructure, etc.
  39. 39. Market CriteriaFuture projectionReflects anticipated resultsIndicates investor confidenceMeasures: trend in stock price or cash value
  40. 40. Operational CriteriaPast & presentReflects actual resultsIndicates managerial competenceMeasures: ROE, ROI, ROA, market share,revenue, operating margin (profit), time-to-market, inventory turns, quality, etc.
  41. 41. Performance: The Bottom LineNo simple “bottom line”No single criterion of performance is inherentlymost importantMultidimensionalSituational -- different measures are moreappropriate at different timesDifficult to be successful on all measures at thesame time

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