Chapter Six

Corporate-Level Strategy:

Creating ValueCreating Value through Diversification

CHAPTER 6McGraw-Hill/Irwin Copyright © 2003 by The McGraw-Hill Companies, Inc. All rights reserved.STRATEGIC MANAGEMENT Gregory G. Dess and G. T. Lumpkin

After studying this chapter, you should have a good understanding of:

• How managers can create value through diversification initiatives

• The reasons for the failure of many diversification efforts(textbook,p.193 exhibit 6.1.Unsuccessful firms?)

How corporations can use related diversification to achieve synergistic benefits through economies of scope and market power

How corporations can use unrelated diversification to attain synergistic benefits through corporate restructuring, parenting, and portfolio analysis(BCG model)

The various means of engaging in diversification_ mergers and acquisitions, joint ventures/strategic alliances, and internal development {in detail from slide.28}

• Managerial behaviors that can erode the creation of value

Learning Objectives

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Corporate-level strategy(CS): OverviewThe Corporate-level strategy concerns two issues:What mixWhat mix of businesses ( of businesses (Selection) ) should the firm compete in?

Multiple means to achieving diversification (e.g. Microsoft and Intel Microsoft and Intel have dramatically enhanced their revenues, profit and market values though a wide variety of diversification initiatives, including mergers and acquisitions, joint ventures /strategic alliances, and internal development)

HowHow should be these businesses these businesses Managed?_?_ is to manage the is to manage the

portfolio of portfolio of business units so that eachso that each is is developing developing and contributing and contributing to to corporate purposescorporate purposes.. e.g., Intel Capital has invested $4 B in 1000 Com-ies, over 15 years: 160 sold to anther firms &150 publicly listed, net net income $ 214mlnincome $ 214mln added to parent Company, in 2006.

E.g., Textron, Inc., a successful conglomerate corporation(multiple profiles) that pursues profits through a range of businesses in unrelated industries. Textron has four core business segments: Aircraft - 32% of revenues , Automotive - 25% ; Industrial - 39% ; and Finance - 4% of revenues.

Dr. PHEA V., 2016CS Summary The success of a diversified firm depends upon its ability to manageability to manage

their portfolio of businesses for creating value through their related & unrelated

businesses(Exhibit 6.2): ensuring that the businesses are successful over the long-term of sustainable long-term of sustainable

competitive advantagescompetitive advantages, developing developing business units, and sometimes ensuring that each business is

compatible (harmonious) with others in the portfolio.

Reach _ defining the issues that are corporate responsibilities; these might include:

Identifying the overall goals of the corporation,

The types of businesses in which the corporation should be involved,

And the way in which businesses will be integrated and managed.

Management Practices _Corporations decide how business units are to be governed through:

Direct corporate intervention (centralization) or

More or less autonomous government (decentralization) that relies on persuasion(Performance) and rewards( integrate with culture& boundary corporation).

Summary: Creating Value through Related and Unrelated Diversification

Related DiversificationRelated Diversification__ Businesses seeks to develop synergiesdevelop synergies by sharing and coordinating Intangible and Tangible Res.:

Economies of Scope _ economy from differential combination ( down turned cost from combinative differential linkage of activities into one objective. .Means to attained such as

Leveraging Core Competences(combine organization's resources & capabilities )

Sharing Activities_ Managing Activities(PA&SA) andBusiness Interrelationships

– Businesses sharing and coordinating staff and other resources across business units, investing financial resources

across business units, and using business units to complement other corporate business activities. Market Power_ firms’ abilities to profit through limiting or controllinglimiting or controlling supply to a market or sharing &

coordinatingcoordinating with other firms to reduce investment. Means to attained such as Pooled Negotiating Power _ similar businesses working together of a business with strengthening a

firm’s position and provides a wide variety of products to its customers.(e.g., Wal-Mart _One-stop shopping )

Vertical Integration(backward & forward S.)_ when a firm becomes its own supplier or distributor ( in condition Stability of customer demand _ Increase tendency )

Exhibit 6.2

Unrelated DiversificationUnrelated Diversification: value creation derived from vertical corporate relationship between parent and business units:

Corporate Restructuring and Parenting(See, Slides#21)

Financial Synergies_ Portfolio Analysis (SW-analysis_ BCG model, Slides#28)

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Creating Value through Related D. Economies of Scope Leveraging Core Competences

– Using core competencies to enhance customer value. The following are some examples of such as innovation and creativity, efficiency, quality, and customer responsiveness((provide access to a wide variety of markets_ offer the superior value through lower costs.):):

Excellent product development capabilities _Product quality and reliability (e.g. Apple Co .)

Outstanding customer service _Comprehensive customer service (e.g. Toyota)

New product innovation & Technical superiority(e.g. ability to combine technologies into innovative products )

Ability to hire, motivate, and retain a team of brilliant scientists in a particular technology, and ability to integrate and coordinate various groups in the organization.(creativity)

– Operating in multiple businesses that are related torelated to a firm’s core competence (e.g., TOYOTA has also diversified into many areas, including manufactured homes are 85% completed at the plant before being transported by road and built in just six hours _ scale 4-6m) : contribute significantly to the end-product benefits to the consumer.

– To be a source of sustained competitive advantages, CC must be difficult for competitors to imitate or to find substitute _ Unique competitive capabilities are difficult for competitors to imitate.

e.g., Sharp succeed in Videocassette recorders with its innovative LCD viewfinder and. include Philip's expertise in optical media and Sony's ability to miniaturize electronics.

Creating Value through Related D. Sharing Activities_ Sharing resources(T&I) across business units:

– Cost saving came from many sources: ESc in purchasing and Functional consolidation _ develop synergies(see into footnote) by sharing and coordinating staff and other resources across business units are concerned such as : Improved economies of scale(MES); Remove duplicative costs; Sharing of best practices between the two companies & Increased significant synergies across network coverage and infrastructure).

– Enhancing revenue (Downsides): Failing costs of coordinating use of common activities by

different business units. (e.g., CBA on using business units to complement other corporate business activities)

Risk of brands cannibalization (e.g., Gillette acquired Duracell & Parker Pen products through it’s distribution channels )

e.g., Gillette acquired Duracell a right, its expectation that selling Duracell through Gillette’s existing channels. Gillette sold Duracell products in 25 new markets at first year after acquisition and substantially increased sales in established international markets . And also Gillette acquired Parker Pen_ additional $25mln in sale by taking advantage of distribution channels.(Coordinating Bus.)

Creating Value through Related Diversification(Cont.)

Market Power_ firms’ abilities to create profit through limiting or controlling supply to a market or coordinating with other firms to reduce investment to a market (e.g., Gillette acquired a right Duracell & Parker Pen_ achieve synergistic benefits).

Pooled Negotiating Power_ similar businesses working together of a business with strengthening a firm’s position and provides a wide strengthening a firm’s position and provides a wide variety of products variety of products to its customers.(e.g., Wal-Mart)

– Consolidating an industry can also increase a firm’s market power _e.g., Hello & Smart have merged as part of a $155 million agreement.

Vertical Integration(backward & forward S.)_ when a firm becomes its own supplier or distributor ( in condition Stability of customer demand _ Increase tendency ):

– E.g., McDonald Co.,

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Dr. PHEA Vanna 2012

Related diversification

Vertical integration: Four issues to consider(CEO)

1. Quality of current supply chain partners (suppliers and distributors){e.g. Nike and Reebok invested to China

Cambodia, VN & Indonesia where labor cost are low}_ Q2. Outsourced activities as viable sources of future

profits{Ford & GM undertaking forward integration St-gy to be bigger players in these high profit activities}_ Allocation Re.

3. Stability of demand for firm’s products (in times of high or low demand)_Power of Buyers Tendency

4. Need for additional production capacity actually absorbed for existing products(Product quality may be enhanced to differentiate the product from competitors by maintaining, adding new features and support services and finding new uses., or selling it to another firm that is willing to

continue the product). Need for improving efficiency.

Vertical Integration : Benefits and Risks Benefits(Stable E.)• Secure a source of raw materials or distribution channels(lower price and Quality)

• Protection and control over valuable assets and primary activities

• Access to new business opportunities

• Simplified procurement and administrative procedures(or value chain _ Understanding the linkages between activities can lead to more optimal make-or-buy decisions that can result in either a cost advantage or a differentiation advantage.)

Risks(Unstable E.)• Costs and expenses associated with increased overhead and capital expenditures

• Additional administrative costs associated with managing a more complex set of activities

• Loss of flexibility resulting from large investments(difficulty to change direction)

• Problems associated with unbalanced capacities along the value chain(between PA& SA_ identify internal potential for creating value)

Exhibit 6.4TRANSPARENCY-55

Dr. PHEA Vanna 2014

Unrelated diversification

Corporate Corporate officeoffice

Business unit

Business unit

Business unit

Corporate parenting (provide and support functions to Bus)& restructuring( Asset, Capital & Management restructuring _ e.g., Nissan Co.) ,

and corporate portfolio management

UD_ Financial synergies

Next slide

Creating value through corporate relationship between parent and

business units(Interaction)

Corporate parenting(Cont.)

• Corporate parent provides (P)– Improved budgeting and planning _ ( the financial

institutions collectively that deal with medium-term and long-term capital subsidiary and loans by the provider to a range of purchasers(or Business units) can be increased its market sharesincreased its market shares through improving product quality(Reputation), pricing (ESc), and promotional expenditures (Increased bargaining power with suppliers and channel members. ).

• Centralized support functions(S) Industry and government relations (e.g., legal & development policy.) HRM systems (Consequently, corporate level participate as active advisors

and directors work with management teams to establish realistic strategic and operational objectives.(e.g. Restructure _acquisitions, divestiture or liquidation) ,and new internal development _ improving system or new change the general administrative functions through Effective recruiting, development, and retention mechanisms for employees(Reward and incentive programs to motivate all employees), Quality work environment to maximize overall employee performance and minimize absenteeism &Quality relations with trade unions.

Such CP contribute to help business units to substantially create their revenues though Downstream (P&S).

UD_ Financial synergies

Dr. PHEA Vanna 2010

Unrelated diversification_ Financial synergies

RestructuringThrough purchasing, reorganizing(e.g., changing

the management and strategic objectives_51%), and divesting parts of businesses (it should be liquidated if there is little prospect for it to gain market share for accumulation financial

resources or reinvestment into new projects _49%).

3 major types ( Asset, Capital & Management restructuring _ e.g., Nissan Co.)

Nissan’s leader_ Carlos GhosnNissan’s leader_ Carlos Ghosn I. Asset restructuring: involves the sale of unproductive

assets {e.g., Carlos Ghosn has cut thousands of Nissan jobs, shut down the first of five domestic plants, and auctioned off prized assets such as Nissan's aerospace unit(not necessarily about outspending rivals on R&D)}or acquisitions that strengthen the core business (e.g., Ability to

integrate the multiple technologies and coordination of diverse production skills.).(see into footnote)

II.Capital restructuring: change in debt-equity mix_ vertical integration(increase market power) &sharing activity(cost saving ) among business units. (e.g. Corporate parenting may support & provide additional equity capital to Bus that

a firm may seek to increase its market share .

Dr. PHEA V.,2015

Nissan’s leader_ Carlos Ghosn (cont.)Nissan’s leader_ Carlos Ghosn, cut cost to Nissan debt from 13B to 10B and raise stock price 38%,2000; for the six months ended in September and expects record profits of $2.3 billion for fiscal 2001; and 2006 Renault & Nissan alliance _ collective market capitalization from 20.4B to 84.9B)_If the Icebreaker succeeds in restoring Nissan's health, industry talk is that he may return to Renault as its boss.

III. Management restructuring: changes in composition of top management team, organizational structure, and/or reporting relationships in purpose the effective coordination among all the groups in the organization .While a company may be able to hire a team of brilliant scientists in a particular technology & involved in bringing a product to market (Outsourcing) .

Dr.PHEA Vanna,2014

Dr. PHEA Vanna 2014

Corporate portfolio managementHow do managers examine the relationships among business units held by a single firm? E.g., GM must be the better understanding of :

1/. assessing the competitive position of an overall portfolio of business (CE _ firm’s T&I resources)

2/. suggest strategic alternatives for each of business _a

plan, idea, etc. to consistent with GE_ (e.g., USA , Mexico and South Korea are organized into strategic business units_ sharing activities among

business units : joint venture &alliances ).

3/. identify priorities for resources allocation(Q,C & JIT control system_ distribution facilities to minimize shipping times& excellent

material and inventory control systems).BCG matrix is one of several approaches

Unrelated diversification_ Financial synergies

The BCG Portfolio MatrixExhibit 6.5

0.1X

0.5X

0.4X

0.3X

0

.2X2X

1.5X 1X10X 4X

18%

16%

10%

0

22%

2%

4%

6%

8%

20%

14%

12%

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Stars_ SBUs compete in high growth potential(long-term) & high market share ( economies of scale, Sales growth in a stagnant industry and Reputation)_Stars may generate cash, but the market is growing rapidly they require investment to maintain their lead. If successful, a star will become a cash cow when its industry matures.

Question Marks_ high growth potential, but low market share _ These business units require resources to grow market share, but whether they will succeed and become stars is unknown. enhance their competitive positions _ e.g., Duracell & Parker Pen increase market through Gillette’s distribution channels)

Cash Cows_ low growth potential, but high market share in a

mature or Sales growth in a stagnant industry(Cash cows require little

investment and generate cash that can be used to invest in other

business units(Capital restructuring: Corporate parenting may provide &

support to SBUs )

Dogs _low growth potential & low market share(experts recommend

that they be divested). Unless a dog has some other strategic purpose, it should be

liquidated if there is little prospect for it to gain market share_ business unit has a small

market share in a mature industry

Bu

sin

ess

Gro

wth

Rat

e

Relative Market Share (Ecs, Reputation, Sales growth in a

stagnant industry & Increased bargaining power with suppliers and channel members. )

Size of circle represents the relative size of the

business unit in terms of revenues

Dr. PHEA Vanna 2015

Means to achieving diversification

• Three basic meansI. Mergers and acquisitions

II. Partnerships are a Joint ventures or strategic alliances (Cooperative strategies_ Pooling firm resources and Pooled negotiating market power)

III. Internal development (Corporate entrepreneurship)

Dr. PHEA Vanna 2014

Mergers and acquisitions• Merger: integration of two firms’ operations on a relatively

are approximate equals( or In a merger of firms is the combination of the assets and liabilities of two firms to form a single business entity(or both businesses dissolve and fold their assets and liabilities into a newly created third entity.). There often is an exchange of stock in which one firm issues new shares to the shareholders of the other firm at a certain ratio.

• Acquisition: Purchase by a firm of controlling (45%,….) or 100% interest in another firm (The acquisition can be made through a direct purchase or through a merger agreement that involves the exchange of assets, and outsourcing (e.g., purchasing a functional service for the

company).The term acquisition tends to be used when a larger firm absorbs

a smaller firm (e.g., Microsoft bought Nokia or Smart absorbs Star cell ) Recent increase since 2002 of merger and acquisition activity

(in 2006 increase to $3.99 trillion : Exhibit 6.6)

Dr. PHEA Vanna 2014

Motivations of mergers & acquisitions (advantage)

• Speed: purchasing existing assets and operations is faster than internal development

• Acquisition of resources that can lead to expansion of product lines (e.g., purchasing a functional service for the company from outsourcing)

• Enter new market segments• Creating synergies ((e.g., leverage core

competencies , sharing activities, and building market power : Synergy takes the form of revenue Synergy takes the form of revenue

enhancement and cost savingsenhancement and cost savings.., , see into Slides#16-17 see into Slides#16-17 ))

Dr. PHEA Vanna 2014

Strategic alliances and joint ventures is a partnership between businesses in which you combine efforts in a

business effort.

• Joint ventures(JV)_ represent a special case of alliances:Objectives in a joint venture under a contractual agreement

to conduct a specific project only : market entry ( joint marketing ), risk/reward sharing(sharing profits and losses), technology sharing(technology licensing ) and joint product development , joint sales or distribution, design collaboration, R&D and conforming to government regulations.

Other benefits include political connections and distribution channel access that may depend on relationships.

The key issues to consider in a joint venture are ownership (protect its own proprietary resources), control, length of agreement, pricing, technology transfer, local firm capabilities and resources, and government intentions.

Dr. PHEA Vanna 2014

Strategic alliances The basic idea behind strategic alliances is to minimize risk

while maximizing your leverage in the marketplace.

Equity strategic alliances(Depend on resources& capability)

• One firm buys stock of an alliance partner {the partners' strategic goals converge(same) while their competitive goals diverge(differ)}.

Non-equity strategic alliances(Depend on Potential GE)• Long-term contracts and other agreements (JV)_Alliances range in

scope from an informal business relationship based on a simple contract to a joint venture agreement in which for legal and tax purposes either a corporation .

partners' are able to learn from one another while limiting access to their own proprietary skills(attempts to develop shared

resources, but each firm wants to develop and protect its own proprietary resources).• Supplier contracts through negotiations and coordination

processes, cooperative marketing agreements (JV)

The partners' size, market power, and resources are small compared to the industry leaders.

Dr. PHEA Vanna 2014

Cooperative strategies: Potential advantages

• Entering new markets(One of the fastest growing trends for

business & minimize risk while maximizing your leverage in the marketplace)

• Reducing costs in the value chain(Getting a better price for goods& services_ e.g., joint sales or distribution ,technology sharing and joint

product development , )

• Development and diffusion of new technologiesExamples:

– Technology Licensing agreements(e.g., Hydbride

Technology of Toyota……)– Equity alliances that lead to full acquisitions

• International joint ventures and strategic alliances(e.g., Sonny & 3M,see into next slide _internal development)

Dr. PHEA Vanna 2013

Internal development• Use of firm’s own resources to develop new

businesses : Corporate entrepreneurship and new venture development (A core competence should: 1). provide access to a wide variety of markets, and 2.) contribute significantly to the end-product benefits, and 3.) be difficult for competitors to imitate.).

– e.g., Sony and 3M (Minnesota Mining& Manufacturing

Co.) :R&D and cutting edge technologies _ strategic strategic goal 3M cogoal 3M co. has developed its entire corporate culture to support its total sales from products &create within the most recent 4 year period (at lease 25%, but this strategies make 3M to achieve 30% per year of sale through new internally developed production lines).( #good for small #good for small firms developed from smaller to biggestfirms developed from smaller to biggest)

Dr. PHEA Vanna 2010

Growth alternatives

Product/Market Proliferation

(increase 20.4B to 84.9B)

Market Development

(e.g.,Renault-Nissan alliances )

New

Product Development3M Plan recent 4 year

achieve at lease 25%,but actually achieve 30% yearly,

Product/Market share(e.g., Sony &3M)

Current

Customers

NewCurrent

Products

Dr. PHEA Vanna 2010

Internal development: advantages and disadvantages

• Advantages– Not sharing results with other firms– Avoiding pitfalls of risks of strategic

alliances(as technology sharing and joint product development)

– Typically achieved at lower total net cost

• Major disadvantage– Time consuming

Dr. PHEA Vanna 2010

Recap

• Means to achieving diversification– Mergers and acquisitions– Cooperative strategies

• Joint ventures• Strategic alliances

– Internal development

Dr. PHEA Vanna 2010

Corporate-level strategy: Summary

• Corporate-level strategy: Selecting and managing the mix of businesses

• Ultimate justification for diversification is increasing value through synergy

• Two types of diversification– Related– Unrelated

Dr. PHEA Vanna 2010

Corporate-level strategy: Summary

• Related diversification may create value through: leveraging core competencies, sharing activities, pooled negotiating power, and vertical integration

Dr. PHEA Vanna 2010

Corporate-level strategy: Summary

• Unrelated diversification may create value through– restructuring– corporate parenting– portfolio analysis