4-1 1 28 Performance & the Model Other Divers. Incentives Economies of Scope Corp. Level Strategy Degrees of Diversification Reasons for Diversification

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Performance & the Model

Other Divers. Incentives

Economies of Scope

Corp. Level Strategy

Degrees of Diversification

Reasons for Diversification

Market Power

Financial Economies

Value Reducing Diversification

Chapter Three:

The External Environment

Chapter Three:

The External Environment

© 2 0 0 9

Hitt, Ireland, Hoskission, Rowe & Sheppard

Strategic Management

N o

t e sChapter Seven:

Corporate Level Strategy

Competitiveness & Globalization

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Economies of Scope




Market Power

Financial Economies


The Strategic Management Process

Chapter 5: Bus.-Level Strategy

Chapter 6:Competitive Dynamics

Chapter 7:Corp.-Level

Strategy

Chapter 8:Acquisition & Restructuring

Chapter 9:International

Strategy

Chapter 10:Cooperative

Strategy

Strategy Formulation

Chapter 11:Corporate

Governance

Ch. 12: Org. Structure & Controls

Chapter 13:Strategic

Leadership

Chapter 14:Org. Renewal & Innovation

Strategy Implementation

StrategicActions

Ch. 1: Strat. Mgmt. & Com-petitiveness

Ch. 2: Strat. Mgmt . &

Performance

Chapter 3:The External Environment

Chapter 4:The Internal Environment

Strategic Competitiveness

Strategic Mission & Strategic Intent

Strategic Objectives & Inputs


Strategy

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Economies of Scope




Market Power

Financial Economies


Corporate Level StrategyKnowledge Objectives1. Define corporate-level strategy and

discuss its importance to the diversified firm.2. Describe the advantages & disadvantages of single-

business strategies & dominant-business strategies.3. Explain the primary reasons why firms move from

single to more diversified corporate-level strategies.4. Describe how related-diversified firms create value

by sharing or transferring core competencies.5. Explain the ways value can be created with an

unrelated-diversification strategy.6. Discuss incentives that encourage diversification

& motives that encourage over-diversification.

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Economies of Scope




Market Power

Financial Economies


It addresses actions taken by a firm to gain a competitive advantage by

selecting & managing a group of businesses in several industries & product markets.


1. What businesses should the firm in? 2. How should the corporate office manage the array of business units?


Concerns 2 key questions:

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Economies of Scope




Market Power

Financial Economies



What do we do now? Ansoff’s Product / Market Expansion Grid & Diversification.

Current Products New Products

Current Markets

New Markets

1. Market Penetration Strategy

2. Market Development Strategy

3. Product Development Strategy

4. Diversification Strategy

B

O

N

U

S


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Market Power

Financial Economies



Single-business > 95% of revenues from a single business unit.

Low Levels of Diversification

AA

Dominant-business Between 70% & 95% of revenues from a single business unit. BBAA

Unrelated-Diversified Business units not closely related. High Levels of Diversification AA

BB CC

Moderate to High Levels of Diversification

< 70% of revenues from dominant business; bus.s share product, technological & distribution links.

Related constrained

Related linked (mixed) < 70% of revenues from dominant business, only limited links exist.

AA

BB CC

BB

AA

CC


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Economies of Scope




Market Power

Financial Economies


Motives to Enhance

StrategicCompetitiveness

• Economies of Scope

• Market Power

• Financial Economies

Improved use of

Resources


Other Incentives

ManagerialMotives

• Market Power


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Economies of Scope




Market Power

Financial Economies


Enhancing Competitiveness

Market Power

• Market Power: the ability to impact market prices.

Market power

Vertical integration back into suppliers’ markets or complementary processes.

• Vertical integration may aid Market Power by:

Market share

Price reduction

Cost reduction

M I N I N G

S M E L T I N G

R O L L I N G

Vertical integration forward into buyers’ markets or complementary processes.

Market Power

B

O

N

U

S

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Economies of Scope




Market Power

Financial Economies


Motives to Enhance



• Market Power


Improved use of

Resources

Economies of Scope

Other Incentives

ManagerialMotives


Economies of Scope

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Economies of Scope




Market Power

Financial Economies


Enhancing Competitiveness via:

Economies of Scope

Transfer Core Competenciesb.

Share Activitiesa.

Done via related diversification strategies that:

• Economies of Scope: savings from involvement in a range of activities.

Economies of Scope

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Economies of Scope




Market Power

Financial Economies


Sharing Activities can lower costs if it:

* Achieves economies of scale.

* Boosts efficiency of utilization.

* Speeds up the Learning Curve.

Sharing Activities can enhance differentiation if it:

Examples: Shared order processing may allow discovery of features customers value from a group of products.

Involves activities crucial to competitive advantage.*

Key Characteristics

Examples: Products that share a raw material.

a. Sharing Activities

Economies of Scope

Economies of Scope

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Economies of Scope




Market Power

Financial Economies


** Incentive system that rewards more than just business unit performance.

Strong sense of corporate identity.**

Assumptions

Clear corporate mission that emphasizes the importance of integrating business units.

**

*

a. Sharing Activities

Economies of Scope

Economies of Scope

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Economies of Scope




Market Power

Financial Economies


* Exploits Interrelationships among divisions.

* Start with Value Chain analysis.

Identify ability to transfer skills or expertise among similar value chains.

Exploit ability to share activities.Two firms can share the same sales force, logistics network or distribution channels.

Key Characteristics

b. Transferring Core Competencies

Economies of Scope

Economies of Scope

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Economies of Scope




Market Power

Financial Economies


Assumptions

Transferring Core Competencies leads to competitive advantage only if 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.

*

Skills transferred represent significant sources of competitive advantage for the receiving unit.

*

b. Transferring Core Competencies

Economies of Scope

Economies of Scope

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Economies of Scope




Market Power

Financial Economies


Motives to Enhance



• Market Power


Improved use of

Resources

Financial Economies

Other Incentives

ManagerialMotives


Financial Economies

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Economies of Scope




Market Power

Financial Economies


Enhancing Competitiveness via:

Financial Economies

Done by unrelated diversification strategies for:

•Efficiencies to be gained from lower borrowing costs or correction of market failures.

Efficient Internal Capital Market Allocation1.

Restructuring2.

Financial Economies

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Economies of Scope




Market Power

Financial Economies


• Acquire sound, attractive companies;• Acquired units are autonomous;• Acquiring corporation supplies needed capital.

Portfolio mgr.s transfer resources between units &• Add professional mgmt. & control to sub-units;• Sub-unit managers’ compensation based on unit results.

Key Characteristics Firms using this strategy often diversify by acquisition:

1. Efficient Internal Capital Market Allocation

Financial Economies

Financial Economies

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Economies of Scope




Market Power

Financial Economies


Portfolio managers transfer resources from units that generate cash to those with high growth potential & substantial cash needs.

Main Characteristic

Market ShareLowHigh

Mar

ket

Gro

wth H

igh

Lo

w

Kill

?DivestSelect

Invest

Like The BCG Matrix


Financial Economies

Financial Economies

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Economies of Scope




Market Power

Financial Economies


Assumptions

Managers have more detailed knowledge of firm relative to outside investors.

Firm can reduce risk by allocating resources among diversified businesses;

• Although shareholders can generally diversify more economically on their own.

Firm needn’t risk competitive edge by disclosing sensitive competitive information to investors.


Financial Economies

Financial Economies

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Economies of Scope




Market Power

Financial Economies


Key Characteristics• Seek out undeveloped, sick or threatened organizations or industries.

Often sells unit after making one-time changes since parent no longer adds value to ongoing operations.

• Parent firm (acquirer) intervenes & frequently:- Changes sub-unit management team;- Shifts strategy / Infuses firm with new technology;

- Divests part of firm;- Makes other acquisitions to achieve critical mass.

- Enhances discipline by changing control systems;

2. Restructuring

Financial Economies

Financial Economies

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Economies of Scope




Market Power

Financial Economies


Assumptions

Requires keen management insight in selecting firms with depressed values or unforeseen potential.

Must do more than restructure companies.

• Need to initiate restructuring of industries to create a more attractive environment.

2. Restructuring

Financial Economies

Financial Economies

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Economies of Scope




Market Power

Financial Economies


N e u t r a l

The Prime Directive prohibits me from helping you.

Improved use of

Resources

Other Incentives

ManagerialMotives


• Anti-Competition Regulation• Tax Laws

• Low Performance

• Uncertain Future Cash Flows

• Firm Risk Reduction

Incentives & Resources with Neutral Effects of Strategic Competitiveness

N e u t r a l

The Prime Directive prohibits me from helping you.


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Economies of Scope




Market Power

Financial Economies


External Incentives• Relaxing Anti-Trust rules for allows more related

mergers.

Other Incentives to Diversify

• Poor performance may lead some firms to diversify to attempt to achieve better returns in new industries.

• Diversifying to reduce risk.

Internal Incentives

• Diversifying to balance uncertain future cash flows.

• Managers may have incentives to diversify to raise their compensation & reduce employment risk. (Effective governance mechanisms may restrict such abuses.)

Time 0 4 8 yrs.

+CashFlow -

Over the Bus. cycle

Time 0 26 52 wks.

+CashFlow -

Seasonal Cash Flow


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Economies of Scope




Market Power

Financial Economies


• Diversifying employment risk• Increased Managerial Pay

Improved use of

Resources

Other Incentives

ManagerialMotives

Managerial Motives that Cause

Value Reduction



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Economies of Scope




Market Power

Financial Economies


External Incentives• Diversifying Employment Risk

Managerial Motivations to Diversify

Executives insuring they still have a job if one of the company’s lines of business goes down.


• Increasing Managerial CompensationExecutives maximizing their wages by laying claim to the difficulties in running a larger company.


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Economies of Scope




Market Power

Financial Economies


Per

form

ance

Level of Diversification

DominantBusiness

UnrelatedBusiness

RelatedConstrained

Diversification & Firm Performance


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Economies of Scope




Market Power

Financial Economies


Full Model of the Firm Performance/ Diversification Relationship

DiversificationStrategy

Capital Market Intervention & Market for Managerial Talent

InternalGovernance

StrategyImplementation

Improved use of

Resources

Other Incentives

ManagerialMotives


FirmPerformance

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Economies of Scope




Market Power

Financial Economies


The Strategic Management Process

Chapter 5: Bus.-Level Strategy

Chapter 6:Competitive Dynamics


Strategy

Chapter 8:Acquisition & Restructuring

Chapter 9:International

Strategy

Chapter 10:Cooperative

Strategy

Strategy Formulation

Chapter 11:Corporate

Governance

Ch. 12: Org. Structure & Controls

Chapter 13:Strategic

Leadership

Chapter 14:Org. Renewal & Innovation

Strategy Implementation

StrategicActions

Ch. 1: Strat. Mgmt. & Com-petitiveness

Ch. 2: Strat. Mgmt . &

Performance

Chapter 3:The External Environment

Chapter 4:The Internal Environment

Strategic Competitiveness

Strategic Mission & Strategic Intent

Strategic Objectives & Inputs


Strategy

Documents

4-1 1 28 Performance & the Model Other Divers. Incentives Economies of Scope Corp. Level Strategy Degrees of Diversification Reasons for Diversification