Foundations of StrategyCh. 7 Corporate Strategy

Team 3 Section 2 Company: Amazon

Kalie Marchington Jacey GuestLuke Burkett

Review

- Corporate Strategy is concerned with where a firm competes- Business Strategy is concerned with how a firm competes in a

particular area of business

Scope of the firm

- Product Scope- How specialized the firm is in terms of the range of products it supplies (Amazon has a large variety of products offered including food)

- Vertical Scope- The range of vertically linked activities the firm encompasses

- Geographical Scope- The geographical spread of activities of the firm

Narrowing Tesco’s Corporate Scope

- Share price declined by 40% in four years- ‘Piling it high and selling it cheap’- Repositioned the emphasis on quality rather than low prices - In the 1990s Tesco became the first UK supermarket with loyalty cards - Terry Leahy transformed it into a diversified, international retailer- Expanded online and into banking

The scope of the firm

- What business are we in?- Three dimensions of a firm's scope : product range, presence along the

industry value chain, and geographical markets in which it will compete- Amazon's mission and vision statement like many others is broad - Change overtime

Vertical Integration

- A firm's extension of its activities into the preceding stages of the production process, seen as a way of improving coordination and reducing risk

- Recently towards outsourcing and de-integration - Amazon uses vertical integration by using its scale

Key concepts for analysing firm scope

- Economies of scope- Cost economies that arise from increasing the output of multiple products

- Transaction costs- Finding a supplier or buyer entails search costs, making an agreement involves negotiating, drawing up a contract, monitoring that what was promised and is being delivered and if necessary, enforcing the contract through arbitration or litigation

- The costs of corporate complexity- Extending the boundaries of the firm can eliminate the transaction costs of the market, but internalizing business transaction imposes its own costs

Transaction costs and the scope of the firm

Defining Diversification

Diversification- The expansion of an existing firm into another product line or field of operation

Related diversification- Occurs when a firm expands into a similar field of operation

Unrelated diversification- Takes place when the additional product line is very different from the firm's core business

The benefits and Costs of Diversification

- Growth- Stagnant and declining industries makes diversification an appealing prospect for managers

- Risk reduction- The rationale for diversifying to reduce risk is captured by the familiar advice ‘Don’t put all your eggs in one basket’

The benefits and Costs of Diversification

● Value creation: Porters’ essential Tests ○ The attractiveness test ○ The cost of entry test

■ Acquire an established player ■ Establish a new venture

Ex. Amazon acquiring Whole Foods

○ The better off test → either the new unit must gain competitive advantage from its link to to corporation or vice versa

The benefits and Costs of Diversification

● Exploiting economies of scope ○ Tangible resources → offer economies of scope by creating a single shared facility and eliminating duplication

between businesses

Ex. British Gas→ a publicly owned gas utility

○ Shared service organizations → supply common administrative and technical services to the organization○ Intangible resources → offer economies of scope from the ability to extend them to additional businesses at a

low marginal cost ■ Brand extension Ex. Starbucks

○ Organizational Capabilities

Transaction costs of markets vs. the costs of corporate complexity

● Licensing the use of the resource to another company ○ Starbucks and Pepsi ○ Airports lease space to restaurants and retailers

● But sometimes the transactions costs might be much higher ○ Virgin

● Two key resources ○ Finance ○ Labour

■ Finance → a diversified firm represents an internal capital market (the corporate headquarters allocated funds to different businesses through capital expenditure)

■ Advantages of this: 1. Diversified firms avoid costs of issuing new debt and equity 2. They have better access to information on financial prospects of their different businesses

■ Disadvantages of this: often politicized (turf wars and ego building)

Transaction costs of markets vs. the costs of corporate complexity

● Specialized companies → high hiring and firing costs (advertising, interviewing, and headhunting

agencies)

● Internal labour market → its pool of employees within the company

● Diversified companies → have advantages when they hire from their own internal labour market○ Broader set of career opportunities → higher calibre employees○ Gain information on employees on performance by observing them in different job roles

Amazon vs Competitors

Amazon Diversification

● Books

● Electronics (Kindle, Amazon

Fire)

● Amazon Studios (TV show and

movie streaming service)

● Grocery Store products

● Clothing

● Pharmaceuticals

Amazon vs Ebay

● Ebay is a marketplace that helps

third party buyers and sellers

make transactions

● Amazon is also a retailer

Does Diversification enhance Corporate Performance

How do diversified firms perform relative to specialized firms?

Does related diversification outperform unrelated diversification?

● Related diversification offers greater potential benefits than unrelated, but managing these

linkages also creates greater management complexity

Vertical Integration

● Firm’s ownership of vertically related activities

● Ratio of its value added to its sales revenue

● Backward or Forward ● Full or Partial

The Benefits and Costs

● Benefits ○ Offers cost savings from the physical integration of processes

■ Ex. linking two stages of production at a single location ■ Steel production and then rolling the steel into a sheet

○ Eliminates certain transaction costs

● Costs ○ May restrict a company’s ability to benefit from scale economies ○ Reduce flexibility ○ Increase risk

Transaction Costs in Vertical Exchanges Market contracts are a result of:

● Low transaction costs● Many buyers and sellers● Readily available information ● Buyers and suppliers switching costs are low

Vertical integration:

● Bilateral monopolies (each steel strip producer is tied to a steel producer)

● Single supplier and single buyer (depends on bargaining power)

● No market price

Vertical Integration

● Differences in Optimal Scale Between Different Stages of Production -

● The Incentive Problem - A vertically integrated organization may experience this type of problem

by having low incentive for helping its own workers. A way to prevent this is to have external

businesses compete with the internal business to increase efficiency.

● Flexibility - A vertically integrated organization is slow to respond to the market climate and

cannot make adjustments as quickly as a market transaction type organization. A way that vertical

organizations make up for this is their system-wide flexibility. They are better able to make

changes across the whole system quicker than market transaction organizations.

● Compounding Risk - A vertically integrated organization has compounded its risk by being vertical.

Since it is producing its own products in house, It cannot easily switch to producing different

products that it needs in case its needs change.

Assessing Vertical Integration

Vertical Integration can be good or bad. It

depends. If the organization will benefit

from the advantages of Vertical

Integration, then there is no reason to

outsource.

Amazon is one of the best examples of

vertical integration as an internet retailer.

By doing this, Amazon is able to make huge

profits.

Different Types of Vertical Relationships

Long-Term Contracts - An organization may use long-term contracts to reduce the price of a good that it

needs and will need in the future. This type of relationship is hard to predict. If demand rises sharply,

long-term contracts may be too restrictive to handle this.

Vendor Partnerships - An organization may use this to reduce the cost of purchasing materials. This type

of relationship is dependent on the vendor and may exist without a contract at all.

Franchising - An organization does this by entering into a contract with a licensee that operates a certain

area for the organization. This brings together the brand, marketing capabilities, and business systems of

the large organization with the entrepreneurship and local knowledge of smaller firms.

Trends in Vertical Integration

Vertical Integration can be used to better the supplier-buyer relationship. This can be done by investing

in the supplier or buyer. This will cause each business to depend on each other in order to achieve a

profit.

An opposite trend in the market is an organization that completely outsources its production or service.

These organizations can become virtual organizations because of this. It simply coordinates the activities

of its suppliers to the completion of its product or service.

GE/McKinsey Matrix

This matrix uses the key strategic variables from each business in a multi business organization to

determine their potential for profit.

The matrix can be used to:

● Allocate resources between businesses on the basis of each business’s market attractiveness and competitive position.

● Formulating business unit strategy - by comparing the strategic positioning of different businesses, opportunities for repositioning can be identified.

● Analysing portfolio balance - a single display of all the company’s business permits assessment of the overall balance of the portfolio in terms of cash flow generation and growth prospects.

● Setting performance targets on the basis of each business’s market attractiveness and its competitive position.

GE/McKinsey Matrix

BCG Growth-Share Matrix

The Boston Consulting Group’s growth share matrix is another method used to determine the potential

profit for a business. This matrix compares two variables which are annual real rate of market growth,

and relative market share.

Annual Real Rate of Market Growth - This number is the amount that the entire market has grown from

the previous year.

Relative Market Share - This the amount of the market that a business operates in compared to the

biggest competitor.

BCG Growth-Share Matrix

Heartland Matrix

This matrix takes into account the the value creating potential of a business within a company’s business

portfolio and also takes into account the parent’s relationship to the business. The focus is therefore

emphasized on the relationship between the two.

Heartland Matrix