Strategy Formulation

Strategies for Growth and DiversificationBy Neha Soni

Identifying Growth Strategies

Define the industryAnalyze options for growth

What Is Our Industry?What Is Our Industry?Defining the industry in new ways can present new opportunities.Examples: Disney IBM

Business-Level Strategies For Growth

Market Penetration

Strategy

Product Development

Strategy

Market Development

Strategy

Diversification Strategy

Existing

New

Domain

(i.e., Industry Market

Product/Service

Existing New

Product/Market Expansion: Product/Market Expansion: Scale StrategiesScale Strategies

Market PenetrationGoal: increase market share

Low risk/marginal returns

Every business does this

Market DevelopmentGoal: find new markets

Marketing expertise

Mature products/services

Product/Market Expansion: Scope Product/Market Expansion: Scope StrategiesStrategies

Product DevelopmentGoal: develop & introduce new products/services

Technical expertise

Growth of products/services

(Could Entail Related Diversification)

Diversification Goal: develop & introduce products/services to new or emerging markets

(Most likely Unrelated Diversification)

When Does Diversification When Does Diversification Make Sense?Make Sense?

Single business strategies have a number of advantages …

…but also a number of risks -- all one’s eggs in one basket

The logic: to spread corporate risk across multiple industries

to enhance shareholder value: SYNERGY (i.e., 2 + 2 = 5)

Diversification -- MotivesDiversification -- MotivesThe risks of single business strategies are more severe for management than for shareholders of publicly traded firms.Diversification may be motivated by management’s desire to reduce risk.Diversification only makes sense when it enhances shareholder value!

Tests For Judging Tests For Judging DiversificationDiversification

Attractiveness

Better-off

Cost of entry

Attractiveness Test

Is the target industry attractive? (Use 5-forces model to assess industry attractiveness)Does the diversification move fit with the grand strategy of the firm?

Better-off test

Does the diversification move produce opportunities for synergies? Will the company be better off after the diversification than it was before? How and why?

Cost of Entry Test

Is the cost of the diversification worth it?Will the diversified firm create enough additional value to justify the cost?

Methods for DiversificationMethods for Diversification

Acquisition of an existing businessCreation of a new business from within, e.g. a start-upJoint venture with another firm or firms

Acquisition Acquisition

Most popular approach to diversification

Quick market entry

Avoids entry barriers:

Technology

Access to suppliers

Efficiency / economies of scale

Promotion

Distribution channels

Major Acquisition IssueMajor Acquisition Issue

Acquire a successful company at a high price

orAcquire a struggling company at a bargain price

Start-UpStart-Up

Appropriate when:

You have time to launch

Market moves slowly

Internal entry costs lower than acquisition costs

You already possess necessary skills

Target industry is fragmented

Joint Ventures Joint Ventures

Pooling resources to spread risk

Achieving synergy from respective capabilities

Leveraging one another’s experience

Complicated; potential for conflicts if responsibilities, liabilities, & rewards not clearly delineated

Related Diversification Related Diversification

Businesses are distinct …

…but their value chains possess strategic “fit” in operations, marketing, management, R&D. distribution, labor, etc.

Therefore, they tend to exploit economies of scope

Tend to (historically) outperform unrelated diversifications

Unrelated Diversification Unrelated Diversification

No common linkage or element of strategic fit among SBUs -- i.e., no meaningful value chain interrelationships

Strategic approach: venture opportunistically into attractive industries that have solid potential for financial returns

“Conglomerates”

Dominant logic: spreads businesses risk over multiple industries, stabilizing corporate profitability (in theory)

Attractive Acquisition Targets Attractive Acquisition Targets for Unrelated Diversificationfor Unrelated Diversification

Companies whose assets are undervalued (buy’em & sell’em to realize capital gains)

Companies that are financially distressed (purchase at bargain price & turn’em around through injections of financial resources & managerial expertise)

Companies with bright prospects, but limited capital

Dominant logic: any company that can be acquired on good financial terms & offers good prospects for profitability is a good business for diversification

Drawbacks of Unrelated Drawbacks of Unrelated Diversification Diversification

Places enormous demands on corporate management -- shifting resources & making moves into unknown areas, etc.

Cannot capture synergies -- no strategic fit between SBUs

Few businesses have offsetting up-down cycles, so sales-profit stability is more mythical than real (& when EVERYTHING IS in a downturn, assets spread thin are sometimes consumed …)