copyright guy harley 2004 corporate level strategy week 5
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Copyright Guy Harley 2004
Corporate Level Strategy
Week 5
Copyright Guy Harley 2004
Outline
Levels of diversification Reasons for diversification Related diversification Unrelated diversification Diversification: Incentives and resources
Copyright Guy Harley 2004
What is corporate level strategy?
Strategies that detail actions to gain a competitive advantage through the selection and management of a mix of businesses competing in several industries or product markets
What business the firm should be in and how the corporate office should manage its group of business
Copyright Guy Harley 2004
Corporate Strategy
Developing and implementing multi-business strategies may be necessary for effective use of excess resources, capabilities and core competencies that have value across several businesses.
To enhance strategic competitiveness, & earn above average returns.
How to create value for the corporation as a wholeHow to create value for the corporation as a wholeHow to create value for the corporation as a wholeHow to create value for the corporation as a whole
How to create competitive advantage in each business in How to create competitive advantage in each business in which the company competes, using:which the company competes, using:How to create competitive advantage in each business in How to create competitive advantage in each business in which the company competes, using:which the company competes, using:
Corporate-Level StrategyCorporate-Level Strategy (Companywide Strategy)(Companywide Strategy)
Business-Level StrategyBusiness-Level Strategy (Competitive Strategy)(Competitive Strategy)
– Low costLow cost– DifferentiationDifferentiation– Integrated low cost/Integrated low cost/
differentiationdifferentiation
– Low costLow cost– DifferentiationDifferentiation– Integrated low cost/Integrated low cost/
differentiationdifferentiation
– Focused low costFocused low cost– Focused differentiationFocused differentiation– Focused low costFocused low cost– Focused differentiationFocused differentiation
A Diversified Company has Two Strategy LevelsA Diversified Company has Two Strategy Levels
Copyright Guy Harley 2004
What businesses should the corporation be in?What businesses should the corporation be in?
How should the corporate office manage the How should the corporate office manage the array of business units?array of business units?
Corporate strategy is what makes the corporate whole Corporate strategy is what makes the corporate whole add up to more than the sum of it business-unit partsadd up to more than the sum of it business-unit parts
Corporate Strategy concerns Two Key Questions:Corporate Strategy concerns Two Key Questions:
Copyright Guy Harley 2004
Primary Approach
Primary approach to corporate level strategy: Diversification Firms diversify when they have excess
resources, capabilities and core competencies that have multiple uses
Copyright Guy Harley 2004
Levels of diversification
Firms vary according to Relatedness
Connections between and among business units
Levels of diversification Low Medium High
Copyright Guy Harley 2004
Low levels of diversification
SingleMore than 95% of revenue comes from dominant business
Dominant Between 70% & 95 % of sales in a single
category eg Cadbury-Schweppes. Tend to be vertically integrated.
Copyright Guy Harley 2004
Moderate Levels of Diversification
Related-constrained diversification Less than 70% of revenue from dominant
business and Businesses share product, technological and
distribution linkages Related-linked diversification
Less than 70% of revenue comes from dominant business
Only limited links between businesses
Copyright Guy Harley 2004
High Levels of Diversification
Unrelated diversification Less than 70% of revenue from dominant
business No common links between businesses
Copyright Guy Harley 2004
Single and Dominant Business Strategies
Advantages (70-95% from single business)
More understanding of competitive dynamics managers develop specialised skills narrower range of business strategies managing synergies
Disadvantages More affected by economic downturn
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Diversified Position
Advantages increased economies of scope market power by blocking competitors through
multi-point competition or vertical integration financial economies tax advantages
Copyright Guy Harley 2004
Sharing: OperationalRelatedness
Corporate Relatedness
High
Low
Low
Related LinkedRelated Linked
Related Constrained
Related Constrained
Operational & Corporate Relatedness
Operational & Corporate Relatedness
UnrelatedUnrelated
Operational & Operational & Corporate Corporate
RelatednessRelatedness
Operational & Operational & Corporate Corporate
RelatednessRelatedness High
Vertical integration
Financial Economies
Economies of Scope
Diseconomies of scope
Copyright Guy Harley 2004
By developing economies of scope between By developing economies of scope between business units in the firms, which leads to business units in the firms, which leads to synergistic benefitssynergistic benefits
By developing market power, which leads to By developing market power, which leads to greater returnsgreater returns
Diversification most effectively adds value Diversification most effectively adds value by one of two mechanisms:by one of two mechanisms:
Adding Value by DiversificationAdding Value by Diversification
Copyright Guy Harley 2004
Alternative Diversification StrategiesAlternative Diversification Strategies
Related Diversification StrategiesRelated Diversification Strategies
Unrelated Diversification StrategiesUnrelated Diversification Strategies
Sharing ActivitiesSharing Activities11
Transferring Core CompetenciesTransferring Core Competencies22
Efficient Internal Capital Market AllocationEfficient Internal Capital Market Allocation33
RestructuringRestructuring44
Copyright Guy Harley 2004
1. - Sharing Activities Sharing activities often lowers costs or raises Sharing activities often lowers costs or raises
differentiationdifferentiation Sharing activities can lower costs if it:Sharing activities can lower costs if it:
Achieves economies of scaleAchieves economies of scale Boosts efficiency of utilisationBoosts efficiency of utilisation Means more rapid movement through learning curveMeans more rapid movement through learning curve
Sharing activities can enhance potential for or reduce the Sharing activities can enhance potential for or reduce the cost of differentiationcost of differentiation
Sharing activities must involve activities that are crucial Sharing activities must involve activities that are crucial to competitive advantageto competitive advantage
Copyright Guy Harley 2004
Sharing Activities - Assumptions
Strong sense of corporate identityStrong sense of corporate identity Clear corporate mission that emphasises the Clear corporate mission that emphasises the
importance of integrating business unitsimportance of integrating business units Incentive system that rewards more than just Incentive system that rewards more than just
business-unit performancebusiness-unit performance
Copyright Guy Harley 2004
2. - Transferring Core Competencies
Exploits interrelationships among divisionsExploits interrelationships among divisions Starts with value chain analysis:Starts with value chain analysis:
Identify ability to transfer skills or expertise Identify ability to transfer skills or expertise among similar value chainsamong similar value chains
Exploit ability to share activitiesExploit ability to share activities E.g. Two firms can share the same sales force, E.g. Two firms can share the same sales force,
logistics network or distribution channelslogistics network or distribution channels
Copyright Guy Harley 2004
2. - Transferring Core Competencies
AssumptionsAssumptions Transferring core competencies leads to competitive Transferring core competencies leads to competitive
advantage only if the similarities among business units advantage only if the similarities among business units meet the following conditions:meet the following conditions:
Activities involved in the businesses are similar enough Activities involved in the businesses are similar enough for expertise sharing to be meaningfulfor expertise sharing to be meaningful Transfer of skills involves activities that are important Transfer of skills involves activities that are important
to competitive advantageto competitive advantage The skills transferred represent significant sources of The skills transferred represent significant sources of
competitive advantage for the receiving unitcompetitive advantage for the receiving unit
Copyright Guy Harley 2004
3. - Efficient Internal Capital Market Allocation3. - Efficient Internal Capital Market Allocation
Firms pursuing this strategy frequently diversify by Firms pursuing this strategy frequently diversify by acquisition:acquisition: Acquire sound, attractive companiesAcquire sound, attractive companies Acquire units that are autonomousAcquire units that are autonomous Acquire corporation to supply needed capitalAcquire corporation to supply needed capital
Portfolio managers transfer resources from units that Portfolio managers transfer resources from units that generate cash to those with high growth potential and generate cash to those with high growth potential and substantial cash needssubstantial cash needs Add professional management and control to sub-Add professional management and control to sub-
unitsunits Sub-unit managers’ compensation is based on unit Sub-unit managers’ compensation is based on unit
resultsresults
Copyright Guy Harley 2004
3. - Efficient Internal Capital Market Allocation3. - Efficient Internal Capital Market Allocation
AssumptionsAssumptions Managers have more detailed knowledge of a Managers have more detailed knowledge of a
firm relative to outside investorsfirm relative to outside investors The firm need not risk competitive edge by The firm need not risk competitive edge by
disclosing sensitive competitive information to disclosing sensitive competitive information to investorinvestor
The firm can reduce risk by allocating resources The firm can reduce risk by allocating resources among diversified businesses, although among diversified businesses, although shareholders can generally diversify more shareholders can generally diversify more economically on their owneconomically on their own
Copyright Guy Harley 2004
4. - Restructuring
Seek out undeveloped, sick or threatened organisations Seek out undeveloped, sick or threatened organisations or industriesor industries
Parent company (acquirer) intervenes and frequently:Parent company (acquirer) intervenes and frequently: Changes sub-unit management teamChanges sub-unit management team Shifts strategyShifts strategy Infuses firm with new technologyInfuses firm with new technology Enhances discipline by changing control systemsEnhances discipline by changing control systems Divests part of firmDivests part of firm Makes additional acquisitions to achieve critical massMakes additional acquisitions to achieve critical mass
Unit will often be sold after one-time changes are made, Unit will often be sold after one-time changes are made, since parent no longer adds value to ongoing operationssince parent no longer adds value to ongoing operations
Copyright Guy Harley 2004
4. - Restructuring
AssumptionsAssumptions Requires keen management insight in selecting Requires keen management insight in selecting
firms with depressed values or unforeseen firms with depressed values or unforeseen potentialpotential
Must do more than restructure companies:Must do more than restructure companies: Need to initiate restructuring of industries to Need to initiate restructuring of industries to
create a more attractive environmentcreate a more attractive environment
Copyright Guy Harley 2004
ResourcesResources
DiversificationDiversificationStrategyStrategy
IncentivesIncentives
ManagerialManagerialMotivesMotives
Summary Model of the Relationship between Summary Model of the Relationship between Firm Performance and DiversificationFirm Performance and Diversification
Copyright Guy Harley 2004
Incentives Economies of scope
Sharing of activities Transferring core competencies
Market Power Blocking competitors Vertical integration
Financial economies Efficient internal capital allocation Business restructuring
Copyright Guy Harley 2004
Resources & Incentives
Incentives & Resources with neutral effects Anti-trust regulation Tax laws Low performance Uncertain future cash flows Risk reduction Tangible resources Intangible resources
Copyright Guy Harley 2004
Incentives to Diversify
Internal Incentives Poor performance may lead some firms to Poor performance may lead some firms to
diversify in an attempt to achieve better returnsdiversify in an attempt to achieve better returns To balance uncertain future cash flowsTo balance uncertain future cash flows In order to reduce riskIn order to reduce risk
Copyright Guy Harley 2004
Reasons for diversification
Managerial motives Diversifying managerial employment risks Increasing managerial compensation
Effective governance mechanisms may restrict Effective governance mechanisms may restrict such abusessuch abuses
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Perf
orm
an
ce
Level of Diversification
Diversification and Firm PerformanceDiversification and Firm PerformanceDiversification and Firm PerformanceDiversification and Firm Performance
Unrelated Business
Related Constrained
Dominant Business
Copyright Guy Harley 2004
Summary Model of the Relationship Summary Model of the Relationship between Firm Performance and between Firm Performance and
DiversificationDiversification
ResourcesResources
DiversificationDiversificationStrategyStrategy
FirmFirmPerformancePerformance
IncentivesIncentives
ManagerialManagerialMotivesMotives
Copyright Guy Harley 2004
Summary Model of the Relationship between Summary Model of the Relationship between Firm Performance and DiversificationFirm Performance and Diversification
ResourcesResources
DiversificationDiversificationStrategyStrategy
FirmFirmPerformancePerformance
InternalInternalGovernanceGovernance
StrategyStrategyImplementationImplementation
Capital Market Capital Market Intervention and Intervention and
Market for Market for Managerial TalentManagerial Talent
IncentivesIncentives
ManagerialManagerialMotivesMotives
Copyright Guy Harley 2004
Issues to Consider Prior to DiversificationIssues to Consider Prior to Diversification
What resources, capabilities and core competencies do What resources, capabilities and core competencies do we possess that would allow us to outperform we possess that would allow us to outperform competitors?competitors?
What core competencies must we possess in order to What core competencies must we possess in order to succeed with a new product or geographical market?succeed with a new product or geographical market?
Is it possible to leapfrog competitors?Is it possible to leapfrog competitors? Will diversification break up capabilities and Will diversification break up capabilities and
competencies that should be kept together?competencies that should be kept together? Will we only be a player in the new product or Will we only be a player in the new product or
geographical market, or will we emerge as a winner?geographical market, or will we emerge as a winner? What can the firm learn through its diversification? What can the firm learn through its diversification? Is it organised properly to acquire such knowledge?Is it organised properly to acquire such knowledge?
Copyright Guy Harley 2004
Acquisition and restructuring strategies
Copyright Guy Harley 2004
Outline
Mergers, acquisitions and takeovers Reasons for acquisitions Effective acquisitions Restructuring
downsizing downscoping leveraged buyouts restructuring outcomes
Copyright Guy Harley 2004
Merger Merger
Two firms agree to integrate operations on a relatively equal basis because they have resources and capabilities that create stronger competitive advantage
AcquisitionA transaction where one firm buys another firm with the intent of more effectively using a core competency by making the acquired firm a subsidiary within its portfolio of businesses
TakeoverAn acquisition where the target firm did not solicit the bid.
Copyright Guy Harley 2004
Reasons for Acquisitions Increased market power
An acquisition intended to reduce the competitive balance of the industry
Overcome barriers to entryAcquisitions overcome costly barriers to entry that may make ‘start-ups’ economically unattractive
Costs\risks of new product developmentBuying established businesses reduces the risk involved in start-up ventures
Copyright Guy Harley 2004
Reasons for Acquisitions (cont.) Increased speed to market
Closely related to barriers to entry … allows market entry in a more timely fashion
DiversificationA quick way to move into businesses when a firm lacks experience and depth in an industry
Avoiding excessive competitionFirms may acquire businesses in which competitive pressures are less intense than in their core business
Copyright Guy Harley 2004
Poor Performance of Acquisitions
Integration difficultiesDiffering cultures can make integration of firms problematic
Inadequate evaluation of targetWinners curse’ bid causes acquirer to overpay for firm
Large or extraordinary debtCostly debt can create onerous burden on cash outflows
Copyright Guy Harley 2004
Poor Performance of Acquisitions (cont.) Inability to achieve synergy
Justifying acquisitions can increase estimate of expected benefits
Too much diversificationThe acquirer does not have the expertise required to manage unrelated businesses
Managers overly focussed on acquisitionsManagers lose track of the core business by expending too much effort on acquisitions
Combined firm becoming too largeLarge bureaucracy reduced innovation and flexibility
Copyright Guy Harley 2004
Effective Acquisitions
Assets are complementaryBuying firms with assets that meet current needs to build competitiveness
Careful selection ProcessDeliberate evaluation and negotiations are more likely to lead to easy integration and building synergies Targets are selected and ‘groomed’ prior to acquisition etc.
Acquisition is friendlyFriendly deals make integration go more smoothly
Copyright Guy Harley 2004
Effective Acquisitions (cont.) Maintain Financial Slack
Provide enough additional financial resources so that profitable projects are not foregone
Low to Moderate DebtMerged firm maintains financial flexibility
FlexibilityFirm has experience at managing change and is flexible and adaptable. Both firms are adaptable
InnovationContinue to invest in R&D as part of the firm’s overall strategy
Copyright Guy Harley 2004
Restructuring
Changes in the composition of the firms set of businesses and/or financial structure
Often in response to poor performance and over-diversification
Forms Downsizing- reduce costs by laying off employees or
eliminating operating units Downscoping- reduce the level of unrelatedness in
the firm –leads to greater focus Leveraged buyout
Copyright Guy Harley 2004
Leveraged BuyoutsLeveraged Buyouts Purchase involving mostly borrowed funds Generally occurs in mature industries where R&D and
innovation are not central to value creation High debt load commits cashflows to repay debt,
creating strong discipline for management Increases concentration of ownership Focuses attention of management on shareholder value Greater oversight by ‘active investor’ board members Leads to more value-based decision making
Copyright Guy Harley 2004
Outcomes of restructuring
Downsizing reduces labour costs, but also leads to loss of human capital and lower performance?
Downscoping reduces debt costs and reestablishes emphasis on strategic controls resulting in higher performance
Leveraged buyouts provide emphasis on strategic controls but increased debt costs, long term result is increased performance but greater risk
Downsizing
Downscoping
Leveraged
Buyout
Reduced Labour Costs
Reduced Debt Costs
High Debt Costs
Loss of Human Capital
Lower Performance
Higher Risk
AlternativesAlternatives Short-Term Short-Term OutcomesOutcomes
Long-Term Long-Term OutcomesOutcomes
Restructuring and OutcomesRestructuring and OutcomesRestructuring and OutcomesRestructuring and Outcomes
Emphasis on Strategic Controls
Higher Performance
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