CHAPTER 9: CORPORATE STRATEGY: SHAPING THE PORTFOLIO

StrategyA View from the Top

By: Kluyver & Pearce

Corporate Strategy: Introduction

Ask several questions like “What is your strategy?” – most effective answer is to identify 3 to 5 strategic themes that are simple to communicate and comprehend

Primary purpose of strategy: creating a powerful management tool for aligning behaviors and decision making at all levels within the company Provides the basis for communication to the broader

stakeholder community

Concerned with decisions about which businesses a company operates in, actions that shape the corporate portfolio of businesses, and decisions about how to create value in portfolio by exploiting synergies among multiple business units

Economics of Scale

Economies of scale occurs when the unit cost of performing an activity decreases as the scale of the activity increases Unit costs can fall as scale is increased due to the use

of better technologies in production processes or greater buyer power in large scale purchasing situations

Economics of learning – occurs when cost can be reduced as a result of finding better ways to perform a given task

Economics of Scope

Occurs when the unit cost of an activity falls because the asset used is shared with other activities Example: Frito – Lay Corporation

Decision opportunities fall into three broad classes: Horizontal scope Geographical scope Vertical scope

Economics of Scope continued

To capitalize on the advantages that scale and scope can bring, companies must: Make related investments to create global marketing

and distribution organizations Create the right management infrastructure to

effectively coordinate the myriad activities that make up the modern multinational corporations

First movers advantage – Timing is critical Challengers face a formidable uphill battle

What is “Core”?

Core is defined as the companies’ most valuable products, most important channels, and their distinctive capabilities

According to Bain International, the mistaken view of the relationship between returns and competitive strengths can cause one of three strategy “traps”: Assuming that business units that are performing well

have reached their limit, and therefore deciding not to make any further investments in the core business

Assuming that there is greater upside potential in under-performing businesses and making unwarranted, more risky investment in underperforming portfolio components

Prematurely abandoning core businesses

Growth Strategies

A growth strategy that works for one company might not be appropriate for another

Relying on internal growth alone to meet revenue targets can be equally risky

To formulate a successful growth strategy, a company must: Carefully analyze its strengths and weaknesses How it delivers value to customers What growth strategies its culture can effectively

support

Growth Strategies continued

Selecting the right growth strategy requires a careful analysis of opportunities, strategic resources, and cultural fit

3 avenues by which to grow its revenue base: Organic or internal growth Growth through acquisition Growth through alliance-based initiatives

Referred to as the “Build, Buy, or Bond” paradigm

Concentrated Growth Strategies

A corporation that continues to direct its resources to the profitable growth of a single product category in a well defined market, and possibly with a dominant technology is said to pursue a concentrated growth strategy. Targeting increases in market share – most direct way

of pursuing this strategy3 ways of pursuing concentrated growth is:

Increasing the number of users of the product Increasing product usage by stimulating higher

quantities of use or by developing new applications Increasing the frequency of the product’s use

Concentrated Growth Strategies continued

Four specific conditions favor concentrated growth: Industry is resistant to major technological

advancements Targeted markets are not product saturated The product – market is sufficiently distinctive to

dissuade competitors from trying to invade the segment

Necessary inputs are stable in price and quantity and are available in the amounts and at the times needed

Vertical and Horizontal Integration

Vertical integration - describes a strategy of increasing a corporation’s vertical participation in an industry’s value chain Barriers to entry and price discrimination

Backward integration – entails acquiring resource suppliers or raw materials or manufacturing components that used to be sourced elsewhere

Forward integration – a strategy of moving closer to the ultimate customer

Vertical and Horizontal Integration continued

Vertical integration affects industry structure and competitive intensity Example: Oil Industry

Four reasons to vertically integrate: The market is too risky and unreliable and is at risk of “failing” A company in an adjacent stage of the industry chain has more

market power. When used to create or exploit market power by raising

barriers to entry or allowing price discrimination across customer segments.

When an industry is young, companies sometimes forward – integrate to develop a market.

Vertical and Horizontal Integration continued

PIMS comparative analysis posed three important questions with respect to vertical and horizontal integrations: Are highly integrated businesses in general more or

less profitable than less integrated ones? Under what circumstances is a high level of vertical

integration likely to be most profitable? Apart from its influence on overall profitability, what

are the principal benefits and risks associated with vertical integration strategies?

Diversification Strategies

Diversification is defined as a strategy of entering product markets different from those in which a company is currently engaged Example: Berkshire Hathaway – operates insurance,

food, furniture, footwear, and other businesses

Pose a great challenge to corporate executives

Diversification Strategies continued

Diversification Strategies are motivated by a variety of factors: Desire to create revenue growth Increase profitability through shared resources and

synergies Reduce the company’s overall exposure to risk by

balancing the business portfolio Opportunity to exploit underutilized resources

Relatedness or the potential for synergy – major consideration in formulating diversification strategies

Diversification Strategies continued

Related diversification strategies target new business opportunities Have meaningful commonalities with the rest of the

company’s portfolio

4 different forms of relatedness: Tangible links between business units Intangible resources Gain or exercise market power Strategic relatedness

Diversification Strategies continued

6 questions useful for evaluating the risks associated with a diversification strategy: What can our company do better than any of its

competitors in its current markets? What strategic assets are needed to succeed in the

new market? Can the firm catch or leapfrog competitors? Will diversification break up strategic assets that need

to be kept together? Will our firm simply be a player in the new market or

will it be a winner? What can the corporation learn by diversifying, and

are we organized to learn it?

Porter’s Three Tests

Porter’s three tests useful for deciding whether a particular diversification move is likely to enhance shareholder value: The attractiveness test The cost of entry test The better – off test

Mergers and Acquisitions

Mergers – signifies that two companies have joined to form one company

Acquisition – occurs when one firm buys another Management team of the buyer tends to dominate

decisions making in the combined company Can quickly position a firm in a new business or

market Eliminates a potential competitor and does not

contribute to the development of excess capacity

Mergers and Acquisitions continued

Six themes that have emerged to help increase the effectiveness of the merger and acquisition process Successful acquisitions are usually part of a well – developed

corporate strategy Diversification through acquisition is an ongoing, long-term

process that requires patience Successful acquisitions result from disciplined strategic

analysis, which looks at industries first before it targets companies, while recognizing that good deals are firm specific

An acquirer can add value in only a few ways, and before proceeding with an acquisition the buying company should be able to specify how synergies will be achieved and value created

Objectivity is essential, hard to maintain once the acquisition chase ensures

Most acquisition flounder on implementation

Cooperative Strategies

Capture the benefits of internal development and acquisition while avoiding the drawbacks of both

Key drivers that attract executives to cooperative strategies include: Need for risk sharing Corporation’s funding limitations The desire to gain market and technology access

The Strategic Logic of Alliances

According to the Booz Allen Hamilton, Inc. each life cycle phase of a business has its own, unique alliance drivers Product innovation, credibility, and access to capital –

key drivers of alliance initiatives in the early growth stage

Alliance’s external value and market and customer reach – most important factors in the rapid growth and consolidation phases

The Strategic Logic of Alliances continued

4 different alliance models based on the role the alliance plays in the participates’ corporate strategy and structure of the leadership of joint venture: Franchise model Portfolio model Cooperative model Constellation model

The Strategic Logic of Alliances continued

4 groups alliances are divided into on the basic of whether participants are competitors and on the relative depth/breadth of the alliance: Expertise alliances New – business alliances Cooperative alliances M&A – like alliances

Cooperative

alliances

M&A – like alliances

New business alliances

Expertise alliances

Narrow Broad

Competitor

s

Partnership Type

Non-Competitors

Alliance Scope

Growth and Strategic Risk

Different growth strategies entail different kinds and levels of strategic risk

Study by Bain International suggests that strategic risk can be measured in terms of how far a growth initiative takes a company away from the established strengths of its core business Distance from the core is measured on five key

dimensions

Disinvestments: Sell-Offs, Spin-Offs, and Liquidations

Sell-off of an SBU to a competitor or spin off into a separate company make sense when the corporation is the wrong corporate parent for the business Example: recent sale of Chrysler to Cerberus

Key motivation for splitting a major company into two or more freestanding units is: To unlock value for shareholders

For every successful spin, there are two that fail to live up to their potential Vital that the board of directors and executives understand

the special pressure so they can develop and execute growth strategies that will fulfill the promise

Disinvestments: Sell-Offs, Spin-Offs, and Liquidations continued

Three major success factors that distinguishes a successful spin-off: Ensure that both the parent corporation and the unit

spun off have viable business and financial structures Meet or exceed earnings expectations Continue growth