ch.06-strategy at the corporate level

8/7/2019 Ch.06-strategy at the corporate level

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PowerPoint Presentation by Charlie CookPowerPoint Presentation by Charlie Cook

The University of West AlabamaThe University of West Alabama

Strategic ManagementStrategic ManagementCompetitiveness and Globalization:Competitiveness and Globalization:

Concepts and CasesConcepts and Cases

Michael A. Hitt . Duane Ireland Robert E. Hoskisson

Seventh edition

STRATEGIC

ACTIONS:

STRATEGY

FORMULATION

STRATEGIC

ACTIONS:

STRATEGY

FORMULATION

2007 Thomson/South2007 Thomson/South--Western.Western.

All rights reserved.All rights reserved.

CHAPTER 6CHAPTER 6

Strategy at the CorporateStrategy at the CorporateLevelLevel

Management of StrategyManagement of Strategy

Concepts and CasesConcepts and Cases


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2007 Thomson/South-Western. All rights reserved. 62

KKNOWLEDGENOWLEDGE OOBJECTIVESBJECTIVES

1.1. Define corporateDefine corporate--level strategy and discuss its purpose.level strategy and discuss its purpose.

2.2. Describe different levels of diversification with different corporateDescribe different levels of diversification with different corporate--

level strategies.level strategies.

3.3. Explain three primary reasons firms diversify.Explain three primary reasons firms diversify.

4.4. Describe how firms can create value by using a relatedDescribe how firms can create value by using a related

diversification strategy.diversification strategy.

5.5. Explain the two ways value can be created with an unrelatedExplain the two ways value can be created with an unrelated

diversification strategy.diversification strategy.

6.6. Discuss the incentives and resources that encourageDiscuss the incentives and resources that encourage

diversification.diversification.

7.7. Describe motives that can encourage managers to overdiversify aDescribe motives that can encourage managers to overdiversify a

firm.firm.

Studying this chapter should provide you with the strategicmanagement knowledge needed to:


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The Role of DiversificationThe Role of Diversification

Diversification strategies play a major role in theDiversification strategies play a major role in thebehavior of large firms.behavior of large firms.

Product diversification concerns:Product diversification concerns:

The scope of the industries and markets in which theThe scope of the industries and markets in which thefirm competes.firm competes.

How managers buy, create and sell differentHow managers buy, create and sell different

businesses to match skills and strengths withbusinesses to match skills and strengths with

opportunities presented to the firm.opportunities presented to the firm.


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Two Strategy LevelsTwo Strategy Levels

BusinessBusiness--level Strategy (Competitive)level Strategy (Competitive)

Each business unit in a diversified firm chooses aEach business unit in a diversified firm chooses a

businessbusiness--level strategy as its means of competing inlevel strategy as its means of competing in

individual product markets.individual product markets.

CorporateCorporate--level Strategy (Companywide)level Strategy (Companywide)

Specifies actions taken by the firm to gain aSpecifies actions taken by the firm to gain a

competitive advantage by selecting and managing acompetitive advantage by selecting and managing a

group of different businesses competing in severalgroup of different businesses competing in severalindustries and product markets.industries and product markets.


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CorporateCorporate--Level Strategy: Key QuestionsLevel Strategy: Key Questions

CorporateCorporate--level Strategylevel Strategys Values Value

The degree to which the businesses in the portfolioThe degree to which the businesses in the portfolio

are worth more under the management of theare worth more under the management of the

company than they would be under other ownership.company than they would be under other ownership.

What businesses shouldWhat businesses should

the firm be in?the firm be in?

How should the corporateHow should the corporate

office manage theoffice manage thegroup of businesses?group of businesses?

Business UnitsBusiness Units


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Levelsof Diversification:LowLevelLevelsof Diversification:LowLevel

Dominant BusinessDominant Business

Between 70% and 95% ofBetween 70% and 95% of

revenue comes from a singlerevenue comes from a singlebusiness.business.

AA

AA

BB

Single BusinessSingle Business

More than 95% of revenueMore than 95% of revenue

comes from a single business.comes from a single business.


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Levelsof Diversification: Moderateto HighLevelsof Diversification: Moderateto High

Related ConstrainedRelated Constrained

Less than 70% of revenueLess than 70% of revenue

comes from a singlecomes from a single

business and allbusiness and all

businesses sharebusinesses share

product, technologicalproduct, technologicaland distribution linkages.and distribution linkages.

Related Linked (mixedRelated Linked (mixed

related and unrelated)related and unrelated)

Less than 70% of revenueLess than 70% of revenue

comes from the dominantcomes from the dominant

business, and there are onlybusiness, and there are only

limited links betweenlimited links between

businesses.businesses.

CC

AA

BBCC

AA

BB


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Levelsof Diversification: Very HighLevelsLevelsof Diversification: Very HighLevels

Unrelated DiversificationUnrelated DiversificationLess than 70% of revenue comes from the dominantLess than 70% of revenue comes from the dominant

business, and there are no common links betweenbusiness, and there are no common links between

businesses.businesses.

CCBB

AA


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FIGUREFIGURE 6.16.1 LevelsandTypesof DiversificationLevelsandTypesof Diversification

Source: Adapted from R.P.Rumelt, 1974, Strategy, Structure and Economic Performance, Boston: Harvard Business School.


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TableTable6.16.1 Reasons for DiversificationReasons for Diversification

Value-Creating Diversification

Economies of scope (related

diversification)

Sharing activities

Transferring core competencies

Market power (relateddiversification)

Blocking competitors through

multipoint competition

Vertical integration

Financial economies (unrelateddiversification)

Efficient internal capital

allocation

Business restructuring

Value-Neutral Diversification

Antitrust regulation

Tax laws

Low performance

Uncertain future cash flows

Risk reduction for firm Tangible resources

Intangible resources

Value-Reducing

Diversification

Diversifying managerialemployment risk

Increasing managerial

compensation


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High Low

ValueValue--Creating Strategiesof DiversificationCreating Strategiesof Diversification

Operational and Corporate Relatedness

Corporate Relatedness: Transferring Skills into

Businesses through Corporate Headquarters

OperationalRelatedness:

Sharing

Activities

between

Businesses

High

Low

Related ConstrainedRelated Constrained

DiversificationDiversification

Vertical IntegrationVertical Integration(Market Power)(Market Power)

UnrelatedUnrelated

DiversificationDiversification(Financial Economies)(Financial Economies)

Related LinkedRelated Linked

DiversificationDiversification

(Economies of Scope)(Economies of Scope)

Both Operational andBoth Operational and

Corporate RelatednessCorporate Relatedness(Rare capability that creates(Rare capability that creates

diseconomies of scope)diseconomies of scope)


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FIGUREFIGURE 6.26.2 ValueValue--Creating Diversification Strategies:Creating Diversification Strategies:OperationalandCorporate RelatednessOperationalandCorporate Relatedness


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Related DiversificationRelated Diversification

Firm creates value by building upon orFirm creates value by building upon orextending:extending:

ResourcesResources

CapabilitiesCapabilities

Core competenciesCore competencies

Economies of ScopeEconomies of Scope

Cost savings that occur when a firm transfersCost savings that occur when a firm transfers

capabilities and competencies developed in one of itscapabilities and competencies developed in one of its

businesses to another of its businesses.businesses to another of its businesses.


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Related Diversification: Economiesof ScopeRelated Diversification: Economiesof Scope

Value is created from economies of scopeValue is created from economies of scopethrough:through:

Operational relatedness in sharing activitiesOperational relatedness in sharing activities

Corporate relatedness in transferring skills orCorporate relatedness in transferring skills orcorporate core competencies among units.corporate core competencies among units.

The difference between sharing activities andThe difference between sharing activities and

transferring competencies is based on how thetransferring competencies is based on how the

resources are jointly used to create economiesresources are jointly used to create economiesof scope.of scope.


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SharingActivitiesSharingActivities

Operational RelatednessOperational Relatedness

Created by sharing either a primary activity such asCreated by sharing either a primary activity such as

inventory delivery systems, or a support activity suchinventory delivery systems, or a support activity such

as purchasing.as purchasing.

Activity sharing requires sharing strategic control overActivity sharing requires sharing strategic control over

business units.business units.

Activity sharing may create risk because businessActivity sharing may create risk because business--

unit ties create links between outcomes.unit ties create links between outcomes.


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TransferringCorporateCompetenciesTransferringCorporateCompetencies

Corporate RelatednessCorporate RelatednessUsing complex sets of resources and capabilities toUsing complex sets of resources and capabilities to

link different businesses through managerial andlink different businesses through managerial and

technological knowledge, experience, and expertise.technological knowledge, experience, and expertise.


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Corporate RelatednessCorporate Relatedness

Creates value in two ways:Creates value in two ways:

Eliminates resource duplication in the need to allocateEliminates resource duplication in the need to allocate

resources for a second unit to develop a competenceresources for a second unit to develop a competence

that already exists in another unit.that already exists in another unit.

Provides intangible resources (resource intangibility)Provides intangible resources (resource intangibility)

that are difficult for competitors to understand andthat are difficult for competitors to understand and

imitate.imitate.

A transferred intangible resource gives the unit receiving it anA transferred intangible resource gives the unit receiving it an

immediate competitive advantage over its rivals.immediate competitive advantage over its rivals.


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Related Diversification: MarketPowerRelated Diversification: MarketPower

Market power exists when a firm can:Market power exists when a firm can:Sell its products above the existing competitive levelSell its products above the existing competitive level

and/orand/or

Reduce the costs of its primary and support activitiesReduce the costs of its primary and support activities

below the competitive level.below the competitive level.


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Related Diversification: MarketPowerRelated Diversification: MarketPower

(cont(contd)d) Multipoint CompetitionMultipoint Competition

Two or more diversified firms simultaneously competeTwo or more diversified firms simultaneously compete

in the same product areas or geographic markets.in the same product areas or geographic markets.

Vertical IntegrationVertical Integration

Backward integrationBackward integrationa firm produces its own inputs.a firm produces its own inputs.

Forward integrationForward integrationa firm operates its owna firm operates its own

distribution system for delivering its outputs.distribution system for delivering its outputs.


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Related Diversification:ComplexityRelated Diversification:Complexity

Simultaneous Operational Relatedness andSimultaneous Operational Relatedness andCorporate RelatednessCorporate Relatedness

Involves managing two sources of knowledgeInvolves managing two sources of knowledge

simultaneously:simultaneously:

Operational forms of economies of scopeOperational forms of economies of scope

Corporate forms of economies of scopeCorporate forms of economies of scope

Many such efforts often fail because ofMany such efforts often fail because of

implementation difficulties.

implementation difficulties.


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Unrelated DiversificationUnrelated Diversification

Financial EconomiesFinancial Economies

Are cost savings realized through improvedAre cost savings realized through improved

allocations of financial resources.allocations of financial resources.

Based on investments inside or outside the firmBased on investments inside or outside the firm

Create value through two types of financialCreate value through two types of financial

economies:economies:

Efficient internal capital allocationsEfficient internal capital allocations

Purchase of other corporations and the restructuring theirPurchase of other corporations and the restructuring theirassetsassets


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Unrelated Diversification (contUnrelated Diversification (contd)d)

Efficient Internal Capital Market AllocationEfficient Internal Capital Market Allocation

Corporate office distributes capital to businessCorporate office distributes capital to business

divisions to create value for overall company.divisions to create value for overall company.

Corporate office gains access to information about thoseCorporate office gains access to information about those

businessesbusinesses actual and prospective performance.actual and prospective performance.

Conglomerates have a fairly short life cycle becauseConglomerates have a fairly short life cycle because

financial economies are more easily duplicated byfinancial economies are more easily duplicated by

competitors than are gains from operational andcompetitors than are gains from operational and

corporate relatedness.corporate relatedness.


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Unrelated Diversification: RestructuringUnrelated Diversification: Restructuring

Restructuring creates financial economiesRestructuring creates financial economies

A firm creates value by buying and selling other firmsA firm creates value by buying and selling other firms

assets in the external market.assets in the external market.

Resource allocation decisions may becomeResource allocation decisions may becomecomplex, so success often requires:complex, so success often requires:

Focus on mature, lowFocus on mature, low--technology businesses.technology businesses.

Focus on businesses not reliant on a clientFocus on businesses not reliant on a client

orientation.orientation.


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ExternalIncentivesto DiversifyExternalIncentivesto Diversify

Antitrust laws in 1960s and 1970sAntitrust laws in 1960s and 1970s

discouraged mergers that createddiscouraged mergers that created

increased market power (vertical orincreased market power (vertical or

horizontal integration.horizontal integration.

Mergers in the 1960s and 1970s thusMergers in the 1960s and 1970s thustended to be unrelated.tended to be unrelated.

Relaxation of antitrust enforcementRelaxation of antitrust enforcement

results in more and larger horizontalresults in more and larger horizontal

mergers.mergers.

Early 2000: antitrust concerns seem toEarly 2000: antitrust concerns seem tobe emerging and mergers now morebe emerging and mergers now more

closely scrutinized.closely scrutinized.

AntiAnti--trusttrustLegislationLegislation


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ExternalIncentivesto Diversify (contExternalIncentivesto Diversify (contd)d)

High tax rates on dividends cause aHigh tax rates on dividends cause a

corporate shift from dividends tocorporate shift from dividends to

buying and building companies in highbuying and building companies in high--

performance industries.performance industries.

1986 Tax

Reform

Act1986 Tax

Reform

Act

Reduced individual ordinary income taxReduced individual ordinary income tax

rate from 50 to 28 percent.rate from 50 to 28 percent.

Treated capital gains as ordinaryTreated capital gains as ordinary

income.income.

Thus created incentive for shareholdersThus created incentive for shareholdersto prefer dividends to acquisitionto prefer dividends to acquisition

investments.investments.

AntiAnti--trusttrustLegislationLegislation

Tax LawsTax Laws


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InternalIncentivesto DiversifyInternalIncentivesto Diversify

High performance eliminates theHigh performance eliminates the

need for greater diversification.need for greater diversification.

Low performance acts asLow performance acts as

incentive for diversification.incentive for diversification.

Firms plagued by poorFirms plagued by poor

performance often take higherperformance often take higher

risks (diversification is risky).risks (diversification is risky).

LowLowPerformancePerformance


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FIGUREFIGURE 6.36.3 TheCurvilinear Relationship betweenTheCurvilinear Relationship between

Diversificationand PerformanceDiversificationand Performance


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InternalIncentivesto Diversify (contInternalIncentivesto Diversify (contd)d)

Diversification may beDiversification may be

defensive strategy if:defensive strategy if:

Product line matures.Product line matures.

Product line is threatened.Product line is threatened.

Firm is small and is in matureFirm is small and is in mature

or maturing industry.or maturing industry.


UncertainUncertainFutureCashFutureCash

FlowsFlows


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InternalIncentivesto Diversify (contInternalIncentivesto Diversify (contd)d)

Synergy exists when the value createdSynergy exists when the value created

by businesses working togetherby businesses working together

exceedsexceeds the value created by themthe value created by them

working independentlyworking independently

but synergy creates jointbut synergy creates jointinterdependence between businessinterdependence between business

units.units.

A firm may become risk averse andA firm may become risk averse and

constrain its level of activity sharing.constrain its level of activity sharing.

A firm may reduce level of technologicalA firm may reduce level of technologicalchange by operating in more certainchange by operating in more certain

environments.environments.


UncertainUncertainFutureCashFutureCash

FlowsFlows

SynergyandSynergyandRiskRisk

ReductionReduction


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Resourcesand DiversificationResourcesand Diversification

A firm must have both:A firm must have both: Incentives to diversifyIncentives to diversify

The resources required to create value throughThe resources required to create value through

diversificationdiversificationcash and tangible resources (e.g.,cash and tangible resources (e.g.,

plant and equipment)plant and equipment)

Value creation is determined more byValue creation is determined more by

appropriate use of resources than by incentivesappropriate use of resources than by incentives

to diversify.to diversify.

Managerial Motives to DiversifyManagerial Motives to Diversify

Managerial risk reductionManagerial risk reduction

Desire for increased compensationDesire for increased compensation


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FIGUREFIGURE 6.46.4

Summary ModeloftheSummary Modelofthe

Relationship betweenRelationship betweenFirm PerformanceandFirm PerformanceandDiversificationDiversification

Source: R.E.Hoskisson & M.A.Hitt, 1990,

Antecedents and performance outcomes of

diversification: A review and critique of theoretical

perspectives, Journal of Management, 16: 498.

ch.06-strategy at the corporate level

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