12-November-2015 FALL 2015 Strategic Management Essentials, 3/e Gareth R. Jones | Charles W.L. Hill Chapter 7 - Part 1 Corporate Strategy 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das 1 Strategic Management: Weeks 10 & 11 Corporate Strategy Expanding company scope Reducing company scope Evaluating corporate strategy 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 2 1 12-November-2015 FALL 2015 Corporate Strategy: Weeks 10 & 11 Expanding company scope 1. Concentration on a single industry 2. Vertical integration 3. Diversification a. Related Diversification b. Unrelated Diversification Reducing company scope Restructuring and Downsizing a. Outsourcing b. Exit (to decrease diversification) Evaluating Corporate Strategy 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das 3 Levels of strategy Corporate Business Functional 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 4 2 12-November-2015 FALL 2015 Corporate Strategy The objective of corporate strategy is to identify the industry or industries a company should participate in to maximize long-run profitability 1. What businesses should we be in? 2. How can these businesses benefit from being within one company? 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das 5 Concentration on a Single Industry A company chooses to focus its resources and capabilities on competing successfully within a particular product market Examples of companies that pursue this strategy: McDonalds Neiman Marcus Starbucks 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 6 3 12-November-2015 FALL 2015 Concentration on a Single Industry Advantages Disadvantages Concentrates all resources and capabilities to strengthening its competitive position in one industry Economies of scale Expertise that is difficult to imitate Increases threat from a single industry's forces May miss out on other opportunities to create more value and increase profitability 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das 7 Concentration on a Single Industry - growth through horizontal integration (merging or acquiring competitor) Advantages Disadvantages Lowers operating costs Increases product differentiation (can be accomplished through product bundling) Reduces rivalry within an industry Increases bargaining power over suppliers and buyers Problems with merging cultures, managers and operations. Problems with regulators if a company grows too large 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 8 4 12-November-2015 FALL 2015 Vertical Integration Expanding into industries that produce inputs or industries that sell or distribute outputs A company can enter a new industry to increase its long-run profitability A company that concentrates on a single business may be missing out on the opportunity to create value through vertical integration 9 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Vertical Integration Vertical integration may be forward (toward the final customer) and backward (towards the raw materials) Vertical integration may be full (own and operate all parts of the value chain) or partial or taper (operate parts of the value chain along with other firms) 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 10 5 12-November-2015 FALL 2015 Vertical Integration Figure 7.1 & 7.2 : Forward and Backward Vertical Integration 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das 11 Vertical Integration Figure 7.3 : Full and Taper (partial) Integration 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 12 6 12-November-2015 FALL 2015 Vertical Integration Advantages Helps company to build barriers to new competition Allows investments in specialized assets Protects product quality Leads to better scheduling Disadvantages May increase cost of inputs Suppliers have less incentive to be efficient Ties a company into old, obsolescent, and high cost technology 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 13 7 12-November-2015 FALL 2015 Strategic Management Essentials, 3/e Gareth R. Jones | Charles W.L. Hill Chapter 7 - Part 2 Corporate Strategy 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das 1 Corporate Strategy: Weeks 10 & 11 Expanding company scope 1. Concentration on a single industry 2. Vertical integration 3. Diversification a. Related Diversification b. Unrelated Diversification Reducing company scope Restructuring and Downsizing a. Outsourcing b. Exit (to decrease diversification) Evaluating Corporate Strategy 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 2 1 12-November-2015 FALL 2015 Diversification A diversified company is one that operates in two or more industries It tries to find ways to use distinctive competencies to increase the value of products in other industries for consumers and to increase long-run profitability A company may choose to diversify when they have excess resources Diversification can help a company create value in 3 main ways: i. ii. iii. Transferring competencies among businesses Sharing resources Building superior internal governance 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das 3 Diversification i. Transferring competencies in one or more value creation functions (e.g. manufacturing, marketing, materials management, R&D) to have competitive advantage Transfer to new business Transfer from new business Figure 7.4: Transfer of competencies at Philip Morris 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 4 2 12-November-2015 FALL 2015 Diversification ii. Sharing resources (e.g. manufacturing facilities, distribution channels, advertising campaigns, R&D costs) and benefitting from economies of scope (each business has to pay less for the shared resource) Figure 7.5: Sharing resources at Procter & Gamble 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das 5 Diversification iii. Building superior internal governance Organize different business units into self-contained divisions Manage divisions in a decentralized manner Link internal monitoring and control systems to incentive pay systems to reward divisional personnel for exceeding performance goals Specifically, when diversification is through acquisition replace top management team of acquired company reduce costs and improve each of the four building blocks provide incentives for acquired company to achieve higher performance goals 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 6 3 12-November-2015 FALL 2015 Diversification - two types a. Related Diversification - expanding into industries that share common market / product/technology to benefit from synergies Value creation through transferring competencies &/or sharing resources &/or building superior internal governance Benefits Lower costs Increase value Improve learning Costs Difficulty in integration Threat of imitation Problems of management 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das 7 Diversification b. Unrelated Diversification - expanding into industries that are unrelated to current activities. Value creation only by building superior internal governance after acquisition Entry into new business for by cash-rich company for cash flow and profitability that is counter-cyclical to firm's cycle for debt-free company Costs Lack of knowledge of new business Paying less attention to old business Complexity of managing businesses with nothing in common 8 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 4 12-November-2015 FALL 2015 Restructuring & Downsizing Restructuring- implementing strategies for reducing the scope of the company by cutting back or exiting business areas Why restructure & downsize? To concentrate on one or few industries Deal with diversification discount (company stock price is discounted when diversification is too complex or done for wrong reasons) Respond to declining financial performance Respond to failed acquisition 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das 9 Restructuring & Downsizing a. Outsourcing - is decreasing the number of activities done by a firm Done at the business level Only part of corporate strategy when the company has just one or more businesses in a single industry First identify the firm (NOT INDUSTRY) value chain activities that give distinctive competencies and focus on them See if other value chain activities can be done by contracting with another company 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 10 5 12-November-2015 FALL 2015 Restructuring & Downsizing b. Exit Strategies - To decrease diversification i. Divestment - preferred - Selling a business unit to the highest bidder A company can sell to: Independent Investors Other Companies Management of the unit to be divested ii. Harvest - works only under specific conditions - halting investment in order to maximize short-tomedium term cash flow If employees find out, morale can sink very quickly and strategy may fail 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das 11 Restructuring & Downsizing Exit strategies (continued) iii. Liquidation - least preferred - shutting down the operation of a business or business unit Least attractive strategy because the company is required to write-off its investment in the unit that it is shutting down 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 12 6 12-November-2015 FALL 2015 Evaluating Corporate Strategy i. Industry attractiveness test : Does the industry provide good long-term profit opportunities ii. Cost-of-entry test : Is the cost of entering less than the benefits from entering iii.Better-off test : Do the company's different businesses perform better 'under one roof' than as stand-alone businesses 2012 South-Western, a part of Cengage Learning Adapted by Shobha Das Adapted by Shobha Das 13 7