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CHAPTER 6_CORPORATE-LEVEL-STRATEGY Through Diversification
- 1. CORPORATE-LEVEL STRATEGY: CREATING VALUE THROUGH DIVERSIFICATION By: JOHN LEO D. HACHASO
- 2. CORPORATE-LEVEL STRATEGY A strategy that focuses on gaining long-term revenue, profits and market value through managing operation in multiple businesses. means the overall plan for the future of the business. The strategy involves decision-making for financials, employees, management, and goals for the company.
- 3. There have been several studies that were conducted over a variety of time periods that show how disappointingly acquisitions have typically turned out. For example: A study evaluated the stock market reaction of 600 acquisitions over the period between 1975 and 1991. The result indicated that the acquiring firms suffered an average of 4 percent drop in market value(after adjusting for market movements) in the three months following the acquisitions announcement. A study investigated 270 mergers that took place between 2000 and 2003 in multiple countries and regions. It found that after a merger, sales growth decreased by 6 percent, earnings growth dropped 9.4 percent and market valuations declined 2.5 percent.
- 4. Making Diversification Work: An Overview Diversification is the process of firms expanding their operations by entering new business. Types of Diversification Diversification into related business (Concentric Diversification) Harley-davidsons launch of motorcycle apparael utilized its brand recognition and existing customer base to sell Harley-davidsons clothing and accessories. Diversification into unrelated businesses (Conglomerate Diversification) General Electric: A manufacturing giant that has ventured into financial services and media in the past.
- 5. Related Diversification: Economies of Scope and Revenue Enhancement Economies of scope It refers to cost savings from leveraging core competencies or sharing related activities among businesses in the corporation. A firm can also enjoy greater revenues if two business attain higher levels of sales growth combined than their company could attain independently. arise when a company can produce a wider range of related products or services with a lower overall cost compared to producing them separately. This cost advantage comes from sharing resources and capabilities across the different businesses.
- 6. Leveraging Core Competencies When a company expands into a related business, it can utilize its existing strengths and expertise, often called core competencies. This could be manufacturing processes, marketing know-how, a strong brand reputation, or established distribution channels. Core competencies reflect the collective learning in organizations- how to coordinate diverse production skills, integrate multiple streams of technologies and market diverse products and services.
- 7. Three Criteria for a Core Competencies Creating Superior customer value Different business in the corporation must be similar in at least one important way related to the core competence Core Competencies must be difficult for competitors to imitate or find substitute for
- 8. Sharing Activities It is having activities of two or more business value chains done by one of the businesses. Deriving Cost Savings is the most common type of synergy and the easiest to estimate. Cost savings come from many sources, including from the elimination of jobs, facilities and related expenses that are no longer needed when functions are consolidated and from economies of scale in purchasing.
- 9. Related Diversification: Market Power Market Power firms abilities to profit through restricting or controlling supply to a market or coordinating with other firms to reduce investment. Pooled Negotiating Power Similar business working together or the affiliation of a business with a strong parent can strengthen an organizations bargaining position relative to suppliers and customers and enhance its position vis--vis competitors. Vertical Integration occurs when a firm becomes its own supplier or distributor. That is, it represents an expansion or extension of the firm by integrating preceding or successive production processes. The firm incorporates more processes toward the original source of raw materials (backward integration) or toward the ultimate consumer (forward integration).
- 10. IN MAKING VERTICAL INTEGRATION DECISIONS, FIVE ISSUES SHOULD BE CONSIDERED: Is the company satisfied with the quality of the value that its present suppliers and distributors are providing? Are there activities in the industry value chain presently being outsourced or performed independently by others that are viable source of future profits? Is there a high level of stability in the demand for the organizations products? Does the company have the necessary competencies to execute the vertical integration strategies? Will the vertical integration initiative have potential negative impacts on the firms stakeholders?
- 11. Benefits and Risk of Vertical Integration Benefits A secure source of raw materials or distribution channels. Protection of and control over valuable assets. Proprietary access to new technologies developed by the unit. Simplified procurement and administrative procedures. Risks Costs and expenses associated with increased overhead and capital expenditures. Loss of flexibility resulting from large investments. Problems associated with unbalanced capacities along the value chain. Additional administrative costs associated with managing a more complex set of activities.
- 12. Analyzing Vertical Integration: The Transaction Cost Perspective A perspective that the choice of a transactions governance structure, such as vertical integration or market transaction, is influenced by transaction costs, including search, negotiating, contracting, monitoring and enforcement costs, associated with each choice. According to this perspective, every market transaction involves some transaction cost. a decision to purchase an input from an outside source leads to search costs (i.e. cost to find where it is available, the level of quality etc.) cost associated with negotiating contract needs to be written spelling out future possible contingencies parties in a contract have to monitor each other. Party does not comply with the terms of the contract, there are enforcement costs.
- 13. CHAPTER 6 CORPORATE STRATEGY MARY JUDITH T. PEALES 6.4 6.5 6.6 UNRELATED DIVERSIFICATION: FINANCIAL SYNERGIES AND PARENTING THE MEANS TO ACHIEVE DIVERSIFICATION HOW MANAGERIAL MOTIVES CAN ERODE VALUE CREATION
- 14. RELATIONSHIP IN BUSINESS CORPORATE STRATEGY Vertical relationships Horizontal relationships are basically the business arrangements between buyers and sellers. These relationships are often said to be between upstream parties, such as the original producer of a good, and downstream final users or distributor include business relationships with firms operating in the same market level, as competitors or as complementors, that is, producing substitutable or complementary products (or services)
- 15. UNRELATED DIVERSIFICATION A FIRM ENTERING A DIFFERENT BUSINESS THAT HAS LITTLE HORIZONTAL INTERACTION WITH OTHER BUSINESS OF A FIRM.
- 16. TWO MAIN SOURCES OF SYNERGIES UNRELATED DIVERSIFICATION PARENTING ADVANTAGE - THE POSITIVE CONTRIBUTIONS OF THE CORPORATE OFFICE TO A NEW BUSINESS AS A RESULT OF EXPERTISE AND SUPPORT PROVIDED AND NOT AS A RESULT OF SUBSTANTIAL CHANGES IN ASSETS, CAPITAL STRUCTURE OR MANAGEMENT. Corporate Parenting THE INTERVENTION OF THE CORPORATE OFFICE IN A NEW BUSINESS THAT SUBSTANTIALLY CHANGES THE ASSETS, THE CAPITAL STRUCTURE, AND/OR MANAGEMENT, INCLUDING SELLING OFF PARTS OF THE BUSINESS, CHANGING THE MANAGEMENT, REDUCING PARYOLL AND UNNECCESSARY SOURCES OF EXPENSES, CHANGING STRATEGIES, AND INFUSING THE NEW BUSINESS WITH NEW TECHNOLOGIES, PROCESSES, AND REWARD SYSTEMS. Restructuring
- 17. Asset restructuring involves the sale of unproductive assets, or even whole lines of businesses, that are peripheral. In some cases, it may even involve acquisitions that strengthen the core business. Involves changing the debt-equity mix, or the mix between different classes of debt or equity. Although, the substitution of equity with debt is more common in buy-out situations, occasionally the parent may provide addtional equity capital. typically involves changes in the composition of the top management team, organizational structure, and reporting relationships. Tight financial control, rewards based strictly on meeting short ot medium-term perfomance goals, and reductin in the number of middle-level managers are common steps inmanagement restructuring. In some cases, parental intervention may even result in changes in strategy as well as infusion of new technologies and processes RESTRUCTURING CAN INVOLVE CHANGES IN: Capital restructuring Management restructuring
- 18. PORTFOLIO MANAGEMENT A METHOD OF : IDENTIFYING PRIORITIED FOR THE ALLOCATION OF RESOURCES ACROSS THE BUSINESS. ASSESSING THE COMPETITIVE POSITION OF A PORTFOLIO OF BUSINESSES WITHIN A CORPORATION SUGGESTING STRATEGIC ALTERNATIVES FOR EACH BUSINESS
- 19. PORTFOLIO MANAGEMENT in using portfolio strategy approaches, a corporation tries to create shareholder value in a number of ways: 1. Portolio analysis provides a snapshot of the businesses in a corporation's portfolio 3. The corporate office is able to provide financial resources to the business units on favorable terms that reflect the corporation's overall ability to raise funds. 2. The expertise and analytical resources in the corporate office provide guidance in determining what firms may be attractive (or unattractive) acquisitions 4. The corporate office can provife high- quality review and coaching for the individual businesses. 5. Portfolio analysis provides a basis for developing strategic goals and reward/evaluation systems for business managers
- 20. FOUR QUADRANTS OF THE GRID Stars - are SBUs competing in high-growth industries with relatively high market shares. These firms gave long- term growth potential and should continue to receive substantial investment funding. Question marks - are SBUs competing in high-growth industries but having relatively weak market shares. Resources should be invested in them to enhance their competitive positions. Cash cows - are SBUs with high market shares in low- growth industries. These units have a limited long-run potential but represent a source of current cash flows to fund investments in "stars" and "question marks" Dogs - are SBUs with weak market shares in low-growth industries. Because they have weak positions and limited potential, most analysts recommend that they divested
- 21. LIMITATIONS 1. they compare strategic business unit (SBUs) on only two dimensions, making the implicit but erroneous assumptions that : those are the only factor that really matter every unit can be accurately compared on that basis 2. the approach views each SBU as a stand-alone entity, ignoring common core business practices and value-creating activities that may hold promise for synergies across business units. 3. unless care is exercised, the process largely mechanical, substituting an oversimplified graphical model for the important contributions of the CEO's (and other corporate managers') experience and judgment. 4. the reliance on "strict rules" regarding recource allocation across SBUs can be detrimental to a firm's long-term viability. 5. while colorful and easy to comprehend, the imagery of portfolio (BCG) matrix can lead to troublesome and overly simplistic prescriptions.
- 22. 1. THROUGH ACQUISITIONS OR MERGERS, CORPORATIONS CAN DIRECTLTY ACQUIRE A FIRM'S ASSET AND COMPETENCIES 2. CORPORATIONS MAY AGREE TO POOL THE RESOURCES OF OTHER COMPANIES WITH THEIR RESOURCE BASE, COMMONLY KNOWN AS JOINT VENTURE OR STRATEGIC ALLIANCE 3. CORPORATIONS MAY DIVERSIFY INTO NEW PRODUCTS, MARKETS AND TECHNOLOGIES THROUGH INTERNAL DEVELOPMENT, CALLED CORPORATE ENTREPRENEURSHIP THREE BASIC MEANS TO ACHIEVE DIVERSIFICATION Acquisition Mergers one firm buys another through a stock purchase, cash or the issuance of debt; the incorporation of one firm into another through purchase entail a combination or consolidation of two firms to form a new legal entity
- 23. M&A Motives and Benefits. Obtaining valuable resources that can help an organization expand in its product offerings and services. Firms often use acquisitions to acquire critical human capital referred to as acq-hires. Provide opportunity for firms to attain the three bases of synergy - leveraging core competencies, sharing activities, and building market power. Can lead to consolidation within an industry and can force other players to merge. Can enter new market segments by way of acquisitions. Potential Limitations The takeover premium that is paid for an acquisition typically is very high. Competing firms often can imitate any advantages realized or copy synergies that result from the merge and acquisitions (M&A) Managers' credibility and ego can sometimes get in the way of sound business decision There can be many cultural issues that may doom the intended benefits from M&A
- 24. DIVESTMENT THE EXIT OF A BUSINESS FROM A FIRM'S PORTFOLIO OBJECTIVES: It can be used to help a firm reverse an earlier acquisition that didn't work out as planned. enabling managers to focus on thier efforts more directly on the firm's core businesses, providing the firm with more resources to spend on more attractive alternatives raising cash to help fund existing businesses
- 25. 7 PRINCIPLES FOR SUCCESSFUL DIVESTITURE: 1. Remove the emotion from the decision. 2. Know the value of the business you are selling. 3. Time the deal right. 4. Maintain a sizable pool of potential buyers. 5. Tell a story about the deal. 6. Run divestitures systematically through a project office. 7. Communicate clearly and frequently.
- 26. STRATEGIC ALLIANCES AND JOINT VENTURES Potential Advantages: entering new markets reducing manufacturing(or other) costs in the value chain and, developing and diffusing new technologies Potential Downsides: many alliances and joint ventures fail to meet expectations for a variety of reasons : without proper partner, synergies are not created nor developed, may not complement strength and incompatibility and lack of trust STRATEGIC ALLIANCE JOINT VENTURES A COOPERATIVE RELATIONSHIP BETWEEN TWO OR MORE FIRMS NEW ENTITIES FORMED WITHIN A STRATEGIC ALLIANCE IN WHICH TWO OR MORE FIRMS, THE PARENTS, CONTRIBUTE EQUITY TO FORM THE NEW LEGAL ENTITY.
- 27. Advantage : capture the value created by their own innovative activities without having to "share the wealth" with alliance partners or face difficulties associated with combining activities across the value chains of several firms or merging corporate cultures. firms can also develop new products or services at a relatively lower cost and thus rely on their own resources rathaer than turning to external funding. Disadvantages: It may be time consuming firms may forfeit the benefits of speed that growth through mergers or acquisitions can provide INTERNAL DEVELOPMENT ENTERING A NEW BUSINESS THROUGH INVESTMENT IN NEW FACILITIES, OFTEN CALLED CORPORATE ENTREPRENEURSHIP AND NEW VENTURE DEVELOPMENT.
- 28. HOW MANAGERIAL MOTIVES CAN ERODE VALUE CREATION MANAGERIAL MOTIVES GROWTH FOR GROWTH'S SAKE MANAGERS ACTING IN THEIR OWN SELF- INTEREST RATHER THAN TO MAXIMIZE LONG- TERM SHAREHOLDER VALUE. MANAGERS' ACTIONS TO GROW THE SIZE OF THEIR FIRMS NOT TO INCREASE LONG-TERM PROFITABILITY BUT TO SERVE MANAGERIAL SELF-INTEREST
- 29. GROWTH FOR GROWTH'S SAKE Egotism - managers' action to shape their firms' strategies to serve their interests rather than maximize long-term shareholder value Poison pill - used by a company to give shareholders certain rights in the event of takeover by another firm; also called shareholder rights plans Greenmail - a payment to a firm to a hostile party for the firm's stock at a premium, made when the firm's management fells that the hostile party is about to make a tender offer. Golden Parachute - a prearranged contract with managers specifying that, in the event of a hostile takeover, the target firm's managers will be paid a significant severance pay. Antitakeover Tactics - managers' actions to avoid losing wealth or power as a result of a hostile takeover. Unfriendly or hostile takeovers can occur when a company's stock becomes undervalued.
- 30. THANK YOU!