MGT450 3
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MGT450_Chapter6.pptxCorporate - Level Strategy
Chapter 6
Strategy levels – different objectives
The main objective of business-level strategies?
Competitive advantage
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Strategy levels – different objectives
The main objective of corporate-level strategies?
Synergy
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Introduction
Corporate-level strategy: Specifies actions a firm takes to gain a competitive advantage by selecting and managing a group of different businesses competing in different product markets
Expected to help firm earn above-average returns by creating a value
Corporate level strategies help companies select new strategic position
Positions that are expected to increase firms value.
Firms use corporate level strategies as a mean to grow revenues and profits; these decisions are never risk free
Two key issues:
In what product market and businesses the firm should compete
How corporate headquarters should manage those businesses
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An effective corporate level strategy:
creates across all firm’s businesses
aggregate returns that exceeds what those returns would be without the strategy
contributes to the firms’ strategic competitiveness and its ability to earn above average return.
Introduction
Introduction
Value ultimately determined by degree to which “the businesses in the portfolio are worth more under the management of the company than they would be under any other ownership”
Effective corporate level strategy creates across all of the firms businesses aggregate returns that exceeds what those returns would be without strategy.
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Product diversification, a primary form of corporate-level strategies, concerns the scope of the markets and industries which the firm competes as well as “how managers buy, create, and sell different businesses to match skills and strengths with opportunities presented to firms”.
Introduction
Levels of Diversification
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Diversified firms vary according to their level of diversification and the connections between and among their businesses.
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Levels of Diversification Low Level
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1. Low Levels
Single Business Diversification Strategy Corporate-level strategy in which the firm generates 95% or more of its sales revenue from its core business area
Dominant Business Diversification Strategy Corporate-level strategy whereby firm generates 70-95% of total sales revenue within a single business area
Levels of Diversification (Cont’d) Moderate to High Level
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2. Moderate to High Levels
Related Constrained Diversification Strategy Less than 70% of revenue comes from the dominant business. Direct links (i.e., share products, technology and distribution linkages) between the firm's businesses
concentrating on the transfer of knowledge and competencies among the businessesRelated Linked Diversification Strategy (Mixed related and unrelated)Less than 70% of revenue comes from the dominant business. Mixed: Linked firms sharing fewer resources and assets among their businesses (compared with related constrained, above),
Levels of Diversification (Cont’d) Moderate to High Level
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Levels of Diversification High Level
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3. Very High Levels
Unrelated Less than 70% of revenue comes from dominant business.
No relationships between businesses
Commonly firms using this type of strategy are called conglomerates
Levels and Types of Diversification
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Reasons for diversification
Firms use corporate-level diversification strategy usually to increase value by improving overall performance.
Value is either created through related diversification or through unrelated diversification when the strategy allows a company’s businesses to increase revenues or reduce costs while implementing their business level strategies
Value-creating diversification
Value-neutral diversification
Value-reducing diversification
Operational relatedness and corporate relatedness are ways in which diversification strategies can add value.
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Reasons for Diversification
A number of reasons exist for diversification including
Value-creating
Operational relatedness: SHARING ACTIVITIES BETWEEN BUSINESSES
Corporate relatedness: TRANSFERRING CORE COMPETENCIES INTO BUSINESS
Value-neutral
Include a desire to match and thereby neutralize a competitor’s market power ( e.g., neutralize another firms' advantage by acquiring a similar distribution outlet).
Value-reducing
Greater amount of diversification reduce managerial risk in that if one of the businesses in a diversified firm fails can increase a firm’s size and thus managerial compensation, managers have motives to diversify a firm to a level that reduces value.
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Reasons for diversification
Value-Creating Diversification Strategies Operational and Corporate Relatedness
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Value-Creating Diversification (VCD): Related Strategies
Purpose: Gain market power relative to competitors
Related diversification wants to develop and exploit economies of scope between its businesses
VCD: Composed of ‘related’ diversification strategies including Operational and Corporate relatedness
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Economies of scope: Cost savings firm creates by successfully sharing some of its resources and capabilities or transferring one or more corporate-level core competencies that were developed in one of its businesses to another of its businesses
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Procter and Gamble (P&G) has pursued a related diversification strategy over the years sharing and transferring of resources and skills among units, including● Sharing sales forces, advertising expenses, and distribution channels for similar products. ... by buying consumer products companies such as Gillette.
Value-Creating Diversification (VCD): Related Strategies
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1. Operational Relatedness: Sharing activities
Can gain economies of scope.
Share primary or support activities (in value chain).
Related constrained share activities in order to create value
Not easy, often synergies not realized as planned
Activity sharing across business is not risk free, and it can create value.
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Value-Creating Diversification (VCD): Related Strategies
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2. Corporate Relatedness: Core competency transfer
Complex sets of resources and capabilities linking different businesses through managerial and technological knowledge, experience and expertise.
Two sources of value creation:
Expense incurred in first business and knowledge transfer reduces resource allocation for second business
Intangible resources difficult for competitors to understand and imitate, so immediate competitive advantage over competition
Managers facilitate the transfer of corporate level core competencies by moving key people into new management position.
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Value-Creating Diversification (VCD): Related Strategies
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3. Market Power
Market power: exists when a firm is able to sell its products above the existing competitive level or to reduce the costs of its primary and support activities below the competitive level or both.
Multipoint competition: exists when two or more diversified firms simultaneously compete in the same product areas or geographical markets.
Vertical integration: exists when a company produces its own inputs ( Backward integration) ex: Sultan producing its own food or owns its own source of output distribution (forward integration) ex: Arwa water bottled by Coca Cola and distributed by Arwa.
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Value-Creating Diversification (VCD): Related Strategies
The Walt Disney company uses the related diversification strategy to simultaneously create economies of scope through operational and corporate relatedness.
It has 5 separate but related business: media networks, parks and resorts, Consumer products, etc…
Disney is able to create economies of scope through corporate relatedness as it cross-sells products that are highlighted in its movies through the distribution channels.
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4. Simultaneous Operational Relatedness and Corporate Relatedness
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Value-Creating Diversification (VCD): Unrelated Strategies
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Creates value through two types of financial economies:
Financial Economies: Cost savings realized through improved allocations of financial resources based on investments inside or outside firm.
1) Efficient internal capital market allocation
2) Restructuring of acquired assets
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Value-Creating Diversification (VCD): Efficient internal capital market allocation
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1) Efficient internal capital market allocation
An efficient internal capital market allocates these funds to maximize shareholder wealth.
If intervention from outside the firm is required to make corrections to capital allocations, only significant changes are possible because the power to make changes by outsiders is often indirect ( board of directors).
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Value-Creating Diversification (VCD): Restructuring of Assets
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2) Restructuring of Assets
Financial economies can also be created when firms learn how to create value by buying, restructuring, and then selling the restructured companies’ assets in the external market.
Unrelated diversified companies that pursue this strategy try to create financial economies by acquiring and restructuring other companies’ assets, but it involves significant trade-offs.
Value-Neutral Diversification: Incentives and Resources
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These strategies, are sometimes used with objectives that are value neutral.
Value-Neutral reasons for diversification include a desire to match and thereby neutralize a competitor’s market power.
The competitor
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Value-Reducing Diversification: Managerial Motives to Diversify
Top-level executives may diversify in order to diversity their own employment risk, as long as profitability does not suffer excessively
Diversification adds benefits to top-level managers but not shareholders
This strategy may be held in check by governance mechanisms or concerns for one’s reputation
Desire for increased compensation
Reduced managerial risk
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Summary Model of the Relationship Between Diversification and Firm Performance
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Summary
Corporate-level diversification strategy is to create additional value through economies of scope or financial economies between businesses or additional market power.
Diversification involves sharing tangible resources or transferring competences between corporate businesses
Activity sharing is costly to implement
Transferring core competences is often associated with related linked diversification
Unrelated diversification requires efficient allocation or restructuring of a firm’s assets and rigorous financial controls
Diversification may be value-neutral.
Managerial motives to diversify can lead to over-diversification and reduction in ability to create value
Optimum level of diversification will depend on internal organization and external environment
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