BSG Chapter 8 – Flashcards
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The task of crafting a diversified company's overall or corporate strategy falls squarely in the lap of top level executives and involves four distinct facets:
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o Pick new industries to enter and deciding on the means of entry o Pursuing opportunities to leverage cross-business value chain relationships and strategic fits into competitive advantage o Evaluating the growth and profitability prospects of each business, establishing investment priorities for each business, and then using these priorities to steer corporate resources to individual businesses. o Initiating actions to boost the combined performance of the corporation's collection of business.
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Strategic options for improving the corporation's overall performance include:
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• Sticking closely with the existing business lineup and pursuing opportunities presented by these businesses • Broadening the scope of diversification by entering additional industries • Retrenching to a narrower scope of diversification by divesting poorly performing businesses that are no longer attractive or that don't fit into managements long range plans • Broadly restructuring the entire company by divesting some business and acquiring others so as to put whole new face on the company's business lineup
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What to look for when determining a company's diversification strategy is:
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o Is the company's diversification based narrowly in a few industries or broadly in many industries? o Are the businesses the company has diversified into related, unrelated or a mixture of both? o Is the scope of company operations mostly domestic, increasingly multinational, or global? o Any recent moves to strengthen company's positions in existing businesses? o Any recent moves to build positions in new industries? o Any recent moves to divest weak business units? o Any effort to capture the benefits of cross business value chain relationships? o What is the company's approach to allocating investment capital and resources across its present businesses?
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Diversification always merits strong consideration at single business companies when
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industry conditions turn sour and are expected to be long lasting
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There are four other instances in which a company becomes a prime candidate for diversifying:
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o When its spots opportunities for expanding into industries whose technologies and products complement its present business o When it can leverage existing competencies and capabilities by expanding into business where these same resources strengths are key success factors and valuable competitive assets. o When diversifying into closely related business opens new avenues for reducing costs. o When it has a powerful and well-known brand name that can be transferred to the products of other businesses and help drive the sales and profits of such businesses to higher levels.
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In principle, diversification into a new business cannot be considered wise or justifiable unless
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it offers good prospects of added long term economic value for shareholders
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A move to diversify into a new business stands little chance of producing added long term shareholder value unless it can pass three tests:
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o The industry attractiveness test. o The cost of entry test o The better off test
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Synergy
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creating added long term value for shareholders via diversification requires building a multi-business company where the whole is greater than the sum of its parts
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Related businesses
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possess competitively valued cross business value chain matchups
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Unrelated business
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has dissimilar value chains containing no competitively useful cross business relationships
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Strategic fit
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exists when the value chains of different businesses present opportunities for cross-business resource transfer, lower costs through combining the performance of related value chain activities, cross-business use of potent brand name, and/or cross-business collaboration to build new or stronger competitive capabilities
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Economies of scope
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cost reductions that flow from operating in multiple businesses. Such economies stem directly from strategic fit efficiencies along the value chains of related businesses
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The greater the cross business economies associated with cost saving strategic fits
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the greater the potential for a related diversification strategy to yield a competitive advantage based on lower costs than rivals
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What makes related diversification an attractive strategy is the
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opportunity to convert cross-business strategic fits into a competitive advantage over business rivals whose operations do not offer comparable strategic fit benefits
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The greater the relatedness among a diversified company's sister businesses, the bigger a company's window for converting strategic fits into competitive advantage via:
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o Cross business transfer of valuable skills, technology, competencies, capabilities, and other competitive assets o The capture of cost saving efficiencies along the value chains of related businesses via sharing use of the same resources (joint performance of new product of technology R, common use of plants and distribution centers, share use of the same sales force or dealer network or customer service infrastructure and the like). o Cross business use of a well-respected brand name o Cross business collaboration to create new resource strengths and capabilities. o Diversifying into related businesses where competitively valuable strategic fit benefits can be captured puts sister businesses in position to perform better financially as part of the same company than they could have performed as independent enterprises, thus providing a clear avenue for boosting shareholder value.
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• Unrelated diversification strategies discount the merits of pursuing and capturing cross business strategic fits and, instead,
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aim at entering any industry and operating any business where senior managers see opportunity to realize consistently good financial results-there's no deliberate effort to diversify only into businesses with strategic fits
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The basic premise of unrelated diversification is
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that any company or business that can be acquired on good financial terms and has satisfactory growth and earnings potential represents a good acquisition and a good business opportunity
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A strategy of unrelated diversification has appeal from several angles:
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o Business risk is scattered over a set of truly diverse industries. pure diversification o The company's financial resources can be employed to maximum advantage o To the extent that corporate managers are exceptionally astute at spotting bargain-priced companies with big upside profit potential, shareholder wealth can be enhanced by buying distressed businesses at a low price, turning their operations around fairly quickly with infusions of cash and managerial know-how supplied by the parent company, and then riding the crest of the profit increases generated by these businesses or else enjoying the capital gains of selling for an amount far above the purchase price. o Company profitability may prove somewhat more stable over the course of economic upswings and downswings because market conditions in all industries don't move upward or downward simultaneously.
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Unrelated diversification may also be justified when
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a company strongly prefers to spread business risks widely and not restrict itself to only owning businesses with related value chain activities
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Given the absence of cross-business strategic fits with which to capture added competitive advantage, the task of building long term economic value for shareholders via unrelated diversification hinges on:
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o The business acumen of corporate executives o The parent company having valuable resources and high caliber administrative expertise that have utility in any type of business
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Corporate executives committed to a strategy of unrelated diversification can aid efforts in four important ways:
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o Corporate executives should not violate the attractiveness rule when they can spot achievable ways their operations can be overhauled and streamlined to produce dramatic increases in profitability o Diversified companies whose top management has proven turnaround capabilities in rejuvenating weakly performing companies can often apply these capabilities in a wide range of industries. o Do a first rate job of negotiating favorable acquisition prices (thereby satisfying the cost of entry test). o Do such a superior job of overseeing, guiding, and otherwise parenting the firm's business subsidiaries that they perform at a higher level o Corporate executives of financially strong diversified companies can create added value by astutely allocating financial resources across the company's businesses
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A parent company's ability to function as its internal capital market enhances performance and increases shareholder value to the extent that its top executives:
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-Have access to better information about investment opportunities internal to the firm than do external financiers -Can wisely engage in cross business allocation of the available funds -Make sound judgments about when to sell existing businesses and then redeploy these monies to either existing businesses or making new acquisitions
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Providing individual businesses with administrative support services can
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create value by lowering companywide overhead costs and avoiding the inefficiencies of having each business handle its own administrative functions
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For a strategy of unrelated diversification to produce company wide financial results above and beyond what the businesses could generate operating as stand-alone entities, corporate executives must do three things:
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o Build portfolio of businesses in unrelated industries by acquiring companies in any industry with growth and earnings prospects that can satisfy the industry attractiveness test and by acquiring undervalued or under performing businesses that present appealing opportunities for being overhauled in ways that will result in big gains in profitability. o Be disciplined enough to acquire companies at prices sufficiently low to pass the cost of entry test. o Develop and nurture outstanding corporate parenting capabilities.
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A diversified company has a parenting advantage when
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it has superior corporate parent capabilities relative to other diversified companies and thus can boost the combined performance of its individual businesses through high level oversight, timely advice, and contributions of needed resource support
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Unrelated diversification strategies have two important negatives:
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o Demanding managerial requirements: the more unrelated businesses that a company has diversified into, the harder it is for corporate executives to have in-depth knowledge about each business. o No potential for competitive advantage beyond any benefits of corporate parenting and what each individual business can generate on its own.
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Without the added competitive advantage potential that cross-business strategic fit provides
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it is hard for the consolidated performance of an unrelated group of businesses to be any better than the sum of what the individual business units could achieve if they were independent
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all the benefits accruing from first rate corporate parenting capabilities are not exclusively attached to a
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strategy of unrelated diversification-these same benefits are equally available to companies pursuing a strategy of related diversification.
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Relying on shrewd acquisition skills of top level executives is a
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weaker and less reliable basis for creating shareholder value
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The procedure for evaluating the pluses and minuses of a diversified company's strategy and deciding what actions to take to improve the company's performance involves six steps:
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o Assessing the attractiveness of the industries the company has diversified into, both individually and as a group. o Assessing the competitive strength of the company's business units and drawing a nine-cell matrix to simultaneously portray industry attractiveness and business unit competitive strength. o Evaluating the competitive value of cross-business strategic fits along the value chains of the company's various business units. o Checking whether the firm's resources fit the requirements of its present business lineup. o Ranking the performance prospects of the businesses from best to worst and determining what the corporate parent's priorities should be in allocating resources to its various businesses. o Crafting new strategic moves to improve overall corporate performance.
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A simple and reliable analytical tool for gauging industry attractiveness involves calculating quantitative industry attractiveness scores based on the following measures:
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o Market size and projected growth rate. o The intensity of competition o Emerging opportunities and threats o The presence of cross-industry strategic fits o Resource requirements o Seasonal and cyclical factors o Social, political, regulatory, and environmental factors o Industry profitability o Industry uncertainty and business risk
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what does the assigned weight reflect for each attractiveness measure?
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relative importance in determining an industry's attractiveness—not all attractiveness measures are equally important
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The intensity of competition in an industry should
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nearly always carry a high weight
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For a diversified company to be a strong performer
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a substantial portion of its revenues and profits must come from business units in industries with relatively high industry attractiveness scores
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Doing an appraisal of each business unit's strength and competitive position
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not only reveals its chances for success in its industry but also provides a basis for ranking the units from competitively strongest to competitively weakest and sizing up the competitive strength of all the business units as a group
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Quantitative measures of each business unit's competitive strength can be calculated
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a procedure similar to that for measuring industry attractiveness.
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The following factors are used in quantifying the competitive strengths of a diversified company's business subsidiaries:
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o Relative market share o Costs relative to competitors' costs o Ability to match or beat rivals on key product attributes o Ability to benefit from strategic fits with sister businesses o Ability to exercise bargaining leverage with key suppliers or customers o Brand image and reputation o Other competitively valuable resources and capabilities o Profitability relative to competitors
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After settling on a set of competitive strength measures that are well matched to the circumstances of the various business units
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weights indicating each measure's importance need to be assigned
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The industry attractiveness and competitive strength scores can be used to portray
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strategic positions of each business in a diversified company. Industry attractiveness is plotted on the vertical axis, and competitive strength on the horizontal axis
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A nine-cell grid emerges from dividing
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the vertical axis into three regions (high, medium, and low attractiveness) and the horizontal axis into three regions (strong, average, and weak competitive strength).
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Each business unit is plotted on the nine-cell matrix according to its
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overall attractiveness score and strength score, and then shown as a "bubble."
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In general, a diversified company's prospects for good overall performance are enhanced by
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concentrating corporate resources and strategic attention on those business units having the greatest competitive strength and positioned in highly attractive industries
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The nine-cell attractiveness-strength matrix provides
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strong logic for fully funding the resource needs of competitively strong businesses in attractive industries, investing selectively in businesses with intermediate position on the grid, and getting rid of competitively weak businesses in unattractive industries unless they generate sizable cash flows that can be redeployed elsewhere
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A company's related diversification strategy derives its power in large part from
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the presence of competitively valuable strategic fits among its businesses and dedicated company efforts to capture them
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Evaluating the competitive value of cross-business strategic fits can be bypassed for diversified companies whose
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businesses are all unrelated (since, by design, no strategic fits are present), the presence of important strategic fits across the value chains of a company's related businesses is central to concluding just how good a company's related diversification strategy is
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Resource fit
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concerns whether each company business has adequate access to the resources needed to be competitively successful and whether the corporate parent has the financial means and parenting capabilities to support its entire group of businesses
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Resource fit exists when
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o each company business had adequate access to the resources it needs to be competitively successful o the parent company has sufficient financial resources and parenting capabilities to support its entire group of businesses without spreading itself too thin
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what is the most important dimension of financial resource fit
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concerns whether a diversified company can generate the internal cash flows sufficient to fund the capital requirements of its businesses, pay dividends, meet its debt obligations, and otherwise remain financially healthy
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what does a cash hog business generate?
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cash flows that are too small to fully fund its operations and growth; a cash hog business requires cash infusions to provide additional working capital and finance new capital investment
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what does a cash cow business generate?
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cash flows over and above its internal requirements, thus providing a corporate parent with funds for investing in cash hog businesses, financing new acquisitions, or paying dividends
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Aside from cash flow considerations, what two other factors should be considered in assessing whether a diversified company's businesses exhibit good financial fit?
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o Do any of the company's individual businesses not contribute adequately to achieving companywide performance targets? o Does the company have adequate financial strength to fund its different businesses, pursue growth via new acquisitions, and maintain a healthy credit rating?
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Just as a diversified company must have adequate financial resources to support its various individual businesses, it must also have what?
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a big enough and deep enough pool of managerial, administrative, and other parenting capabilities to ensure that each of its business units has the resources it requires for competitive success and good financial performance
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what three questions help reveal whether a diversified company has adequate nonfinancial resources?
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o Is there any evidence indicating that any of the company's business units is resource deficient—either because certain needed resources cannot be transferred in or shared with sister businesses or because the missing resources cannot be supplied by the corporate parent? o Are the corporate parent's resources and parenting capabilities poorly matched to the resource requirements of one or more businesses it has diversified into? o Are the parent company's resources being stretched too thinly by the resource requirements of one or more of its businesses?
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A diversified company must guard against overtaxing its parenting and resource capabilities, a condition that can arise when:
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• it goes on an acquisition spree and management is called upon to assimilate and oversee many new businesses quickly • certain business units lack sufficient resource depth to do a creditable job of transferring skills and competencies to resource-weak businesses.
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what business subsidiaries should receive top priority in allocating corporate resources to individual business units?
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business subsidiaries with the brightest profit and growth prospects, attractive positions in the nine-cell matrix, and solid strategic and resource fits
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Ideally, a diversified company will have sufficient resources to what?
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strengthen or grow its existing businesses, make any new acquisitions that are desirable, fund other promising business opportunities, pay off existing debt, and periodically increase dividend payments to shareholders and/or repurchase shares of stock
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how does a company make the best use of its limited pool of resources?
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both financial and nonfinancial, top executives must be diligent in steering resources to those businesses with the best opportunities and performance prospects, and allocating few, if any, resources to businesses with weak prospects.
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The strategic options boil down to five broad categories of actions:
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o Sticking closely with the existing business lineup and pursuing the opportunities these businesses present. o Broadening the company's business scope by making new acquisitions in new industries. o Divesting certain businesses and retrenching to a narrower base of business operations. o Restructuring the company's business lineup and putting a whole new face on the company's business makeup. o Pursuing multinational diversification and striving to globalize the operations of several of the company's business units
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The option of sticking with the current business lineup makes sense when?
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the company's present businesses offer attractive growth opportunities and can be counted on to generate good earnings and cash flows—and thus added value for shareholders
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Usually, expansion into new businesses is undertaken by acquiring companies already what?
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in the target industry. Some companies depend on new acquisitions to drive a major portion of their growth in revenues and earnings, and thus are always on the acquisition trail
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Focusing corporate resources on a few core and mostly related businesses avoids what?
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the mistake of diversifying so broadly that resources and management attention are stretched too thin
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On occasion, a diversification move that seems sensible from a strategic-fit standpoint turns out to be what?
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a poor cultural fit
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Selling a business outright to another company is what?
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is the most frequently used option for divesting a business
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Performing radical surgery on a company's business lineup is appealing when its financial performance is being squeezed or eroded by:
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o Mismatches between the businesses it has diversified into and the parent company's resources and parenting capabilities. o Too many businesses in slow-growth, declining, low-margin, or otherwise unattractive industries. o Too many competitively weak businesses. o The emergence of new technologies that threaten the survival of one or more important businesses. o Ongoing declines in the market shares of one or more major business units that are falling prey to more market-savvy competitors. o An excessive debt burden with interest costs that eat deeply into profitability. o Ill-chosen acquisitions that haven't lived up to expectations
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Pursuing multinational diversification offers two major avenues for growing revenues and profits:
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One is to grow by entering additional businesses, and the other is to grow by extending the operations of existing businesses into additional country markets
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Pursuing both growth avenues at the same time has many exceptional competitive advantage potential such as
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o A multinational diversification strategy facilitates full capture of economies of scale and learning/ experience curve effects o A multinational diversification strategy provides opportunities to capture economies of scope arising from cost-saving strategic fits among related businesses. o A multinational diversification strategy provides opportunities to transfer competitively valuable resources both from one business to another and from one country to another. o A multinational diversification strategy provides opportunities to leverage use of a well-known and competitively powerful brand name o A multinational diversification strategy provides opportunities for sister businesses to collaborate in developing and leveraging competitively valuable resources and capabilities
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a globally powerful brand name enables a company to:
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-get prominent space on retailers' shelves for the products of its different businesses sold under that brand -win sales and market share simply on the confidence buyers place in products carrying the brand name -spend less money than lesser-known rivals for advertising.
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What makes a strategy of multinational diversification exceptionally appealing?
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that all five paths to competitive advantage can be pursued simultaneously
