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©© 2007 Thomson/South2007 Thomson/South--Western.Western.All rights reserved.All rights reserved.

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Strategic ManagementStrategic ManagementCompetitiveness and Globalization:Competitiveness and Globalization:Concepts and CasesConcepts and Cases

Michael A. Hitt •R. Duane Ireland •Robert E. Hoskisson

Seventh edition

STRATEGIC

ACTIONS:

STRATEGY

FORMULATION

STRATEGIC

ACTIONS:

STRATEGY

FORMULATION

CHAPTER 6CHAPTER 6

Strategy at the CorporateStrategy at the CorporateLevelLevel

Management of StrategyManagement of StrategyConcepts and CasesConcepts and Cases

© 2007 Thomson/South-Western. All rights reserved. 6–2

KKNOWLEDGENOWLEDGE OOBJECTIVESBJECTIVES

1.1. Define corporateDefine corporate--level strategy and discuss its purpose.level strategy and discuss its purpose.

2.2. Describe different levels of diversification with different corpDescribe different levels of diversification with different corporateorate--level strategies.level strategies.

3.3. Explain three primary reasons firms diversify.Explain three primary reasons firms diversify.

4.4. Describe how firms can create value by using a relatedDescribe how firms can create value by using a relateddiversification strategy.diversification strategy.

5.5. Explain the two ways value can be created with an unrelatedExplain the two ways value can be created with an unrelateddiversification strategy.diversification strategy.

6.6. Discuss the incentives and resources that encourageDiscuss the incentives and resources that encouragediversification.diversification.

7.7. Describe motives that can encourage managers toDescribe motives that can encourage managers to overdiversifyoverdiversify aafirm.firm.

Studying this chapter should provide you with the strategicmanagement knowledge needed to:


The Role of DiversificationThe Role of Diversification

••Diversification strategies play a major role in theDiversification strategies play a major role in thebehavior of large firms.behavior of large firms.

••Product diversification concerns:Product diversification concerns:

The scope of the industries and markets in which theThe scope of the industries and markets in which thefirm competes.firm competes.

How managers buy, create and sell differentHow managers buy, create and sell differentbusinesses to match skills and strengths withbusinesses to match skills and strengths withopportunities presented to the firm.opportunities presented to the firm.


Two Strategy LevelsTwo Strategy Levels

••BusinessBusiness--level Strategy (Competitive)level Strategy (Competitive)

Each business unit in a diversified firm chooses aEach business unit in a diversified firm chooses abusinessbusiness--level strategy as its means of competing inlevel strategy as its means of competing inindividual product markets.individual product markets.

••CorporateCorporate--level Strategy (Companywide)level Strategy (Companywide)

Specifies actions taken by the firm to gain aSpecifies actions taken by the firm to gain acompetitive advantage by selecting and managing acompetitive advantage by selecting and managing agroup of different businesses competing in severalgroup of different businesses competing in severalindustries and product markets.industries and product markets.


CorporateCorporate--Level Strategy: Key QuestionsLevel Strategy: Key Questions

••CorporateCorporate--level Strategylevel Strategy’’s Values Value

The degree to which the businesses in the portfolioThe degree to which the businesses in the portfolioare worth more under the management of theare worth more under the management of thecompany than they would be under other ownership.company than they would be under other ownership.

What businesses shouldWhat businesses shouldthe firm be in?the firm be in?

How should the corporateHow should the corporateoffice manage theoffice manage thegroup of businesses?group of businesses?

Business UnitsBusiness Units


Levels of Diversification: Low LevelLevels of Diversification: Low Level

Dominant BusinessDominant BusinessBetween 70% and 95% ofBetween 70% and 95% ofrevenue comes from a singlerevenue comes from a singlebusiness.business.

AA

AA

BB

Single BusinessSingle BusinessMore than 95% of revenueMore than 95% of revenuecomes from a single business.comes from a single business.


Levels of Diversification: Moderate to HighLevels of Diversification: Moderate to High

••Related ConstrainedRelated ConstrainedLess than 70% of revenueLess than 70% of revenue

comes from a singlecomes from a singlebusiness and allbusiness and allbusinesses sharebusinesses shareproduct, technologicalproduct, technologicaland distribution linkages.and distribution linkages.

••Related Linked (mixedRelated Linked (mixedrelated and unrelated)related and unrelated)Less than 70% of revenueLess than 70% of revenue

comes from the dominantcomes from the dominantbusiness, and there are onlybusiness, and there are onlylimited links betweenlimited links betweenbusinesses.businesses.

CC

AA

BBCC

AA

BB


Levels of Diversification: Very High LevelsLevels of Diversification: Very High Levels

••Unrelated DiversificationUnrelated DiversificationLess than 70% of revenue comes from the dominantLess than 70% of revenue comes from the dominant

business, and there are no common links betweenbusiness, and there are no common links betweenbusinesses.businesses.

CCBB

AA


FIGUREFIGURE 6.16.1 Levels and Types of DiversificationLevels and Types of Diversification

Source: Adapted from R. P. Rumelt, 1974, Strategy, Structure and Economic Performance, Boston: Harvard Business School.


TableTable 6.16.1 Reasons for DiversificationReasons for Diversification

Value-Creating Diversification•Economies of scope (related

diversification)•Sharing activities•Transferring core competencies•Market power (related

diversification)•Blocking competitors through

multipoint competition•Vertical integration•Financial economies (unrelated

diversification)•Efficient internal capital

allocation•Business restructuring

Value-Neutral Diversification•Antitrust regulation•Tax laws•Low performance•Uncertain future cash flows•Risk reduction for firm•Tangible resources•Intangible resourcesValue-Reducing

Diversification•Diversifying managerial

employment risk•Increasing managerial

compensation


High Low

ValueValue--Creating Strategies of DiversificationCreating Strategies of Diversification

Operational and Corporate Relatedness

Corporate Relatedness: Transferring Skills intoBusinesses through Corporate Headquarters

OperationalRelatedness:

SharingActivitiesbetween

Businesses

High

Low

Related ConstrainedRelated ConstrainedDiversificationDiversification

Vertical IntegrationVertical Integration(Market Power)(Market Power)

UnrelatedUnrelatedDiversificationDiversification

(Financial Economies)(Financial Economies)

Related LinkedRelated LinkedDiversificationDiversification

(Economies of Scope)(Economies of Scope)

Both Operational andBoth Operational andCorporate RelatednessCorporate Relatedness

(Rare capability that creates(Rare capability that createsdiseconomies of scope)diseconomies of scope)


FIGUREFIGURE 6.26.2 ValueValue--Creating Diversification Strategies:Creating Diversification Strategies:Operational and Corporate RelatednessOperational and Corporate Relatedness


Related DiversificationRelated Diversification

••Firm creates value by building upon orFirm creates value by building upon orextending:extending:ResourcesResourcesCapabilitiesCapabilitiesCore competenciesCore competencies

••Economies of ScopeEconomies of ScopeCost savings that occur when a firm transfersCost savings that occur when a firm transfers

capabilities and competencies developed in one of itscapabilities and competencies developed in one of itsbusinesses to another of its businesses.businesses to another of its businesses.


Related Diversification: Economies of ScopeRelated Diversification: Economies of Scope

••Value is created from economies of scopeValue is created from economies of scopethrough:through:

Operational relatedness in sharing activitiesOperational relatedness in sharing activities

Corporate relatedness in transferring skills orCorporate relatedness in transferring skills orcorporate core competencies among units.corporate core competencies among units.

••The difference between sharing activities andThe difference between sharing activities andtransferring competencies is based on how thetransferring competencies is based on how theresources are jointly used to create economiesresources are jointly used to create economiesof scope.of scope.


Sharing ActivitiesSharing Activities

••Operational RelatednessOperational Relatedness

Created by sharing either a primary activity such asCreated by sharing either a primary activity such asinventory delivery systems, or a support activity suchinventory delivery systems, or a support activity suchas purchasing.as purchasing.

Activity sharing requires sharing strategic control overActivity sharing requires sharing strategic control overbusiness units.business units.

Activity sharing may create risk because businessActivity sharing may create risk because business--unit ties create links between outcomes.unit ties create links between outcomes.


Transferring Corporate CompetenciesTransferring Corporate Competencies

••Corporate RelatednessCorporate RelatednessUsing complex sets of resources and capabilities toUsing complex sets of resources and capabilities to

link different businesses through managerial andlink different businesses through managerial andtechnological knowledge, experience, and expertise.technological knowledge, experience, and expertise.


Corporate RelatednessCorporate Relatedness

••Creates value in two ways:Creates value in two ways:

Eliminates resource duplication in the need to allocateEliminates resource duplication in the need to allocateresources for a second unit to develop a competenceresources for a second unit to develop a competencethat already exists in another unit.that already exists in another unit.

Provides intangible resources (resource intangibility)Provides intangible resources (resource intangibility)that are difficult for competitors to understand andthat are difficult for competitors to understand andimitate.imitate.

••A transferred intangible resource gives the unit receiving it anA transferred intangible resource gives the unit receiving it animmediate competitive advantage over its rivals.immediate competitive advantage over its rivals.


Related Diversification: Market PowerRelated Diversification: Market Power

••Market power exists when a firm can:Market power exists when a firm can:Sell its products above the existing competitive levelSell its products above the existing competitive level

and/orand/orReduce the costs of its primary and support activitiesReduce the costs of its primary and support activities

below the competitive level.below the competitive level.


Related Diversification: Market PowerRelated Diversification: Market Power(cont(cont’’d)d)••Multipoint CompetitionMultipoint Competition

Two or more diversified firms simultaneously competeTwo or more diversified firms simultaneously competein the same product areas or geographic markets.in the same product areas or geographic markets.

••Vertical IntegrationVertical Integration

Backward integrationBackward integration——a firm produces its own inputs.a firm produces its own inputs.

Forward integrationForward integration——a firm operates its owna firm operates its owndistribution system for delivering its outputs.distribution system for delivering its outputs.


Related Diversification: ComplexityRelated Diversification: Complexity

••Simultaneous Operational Relatedness andSimultaneous Operational Relatedness andCorporate RelatednessCorporate Relatedness

Involves managing two sources of knowledgeInvolves managing two sources of knowledgesimultaneously:simultaneously:

••Operational forms of economies of scopeOperational forms of economies of scope

••Corporate forms of economies of scopeCorporate forms of economies of scope

Many such efforts often fail because ofMany such efforts often fail because ofimplementation difficulties.implementation difficulties.


Unrelated DiversificationUnrelated Diversification

••Financial EconomiesFinancial Economies

Are cost savings realized through improvedAre cost savings realized through improvedallocations of financial resources.allocations of financial resources.

••Based on investments inside or outside the firmBased on investments inside or outside the firm

Create value through two types of financialCreate value through two types of financialeconomies:economies:

••Efficient internal capital allocationsEfficient internal capital allocations

••Purchase of other corporations and the restructuring theirPurchase of other corporations and the restructuring theirassetsassets


Unrelated Diversification (contUnrelated Diversification (cont’’d)d)

••Efficient Internal Capital Market AllocationEfficient Internal Capital Market Allocation

Corporate office distributes capital to businessCorporate office distributes capital to businessdivisions to create value for overall company.divisions to create value for overall company.

••Corporate office gains access to information about thoseCorporate office gains access to information about thosebusinessesbusinesses’’actual and prospective performance.actual and prospective performance.

Conglomerates have a fairly short life cycle becauseConglomerates have a fairly short life cycle becausefinancial economies are more easily duplicated byfinancial economies are more easily duplicated bycompetitors than are gains from operational andcompetitors than are gains from operational andcorporate relatedness.corporate relatedness.


Unrelated Diversification: RestructuringUnrelated Diversification: Restructuring

••Restructuring creates financial economiesRestructuring creates financial economies

A firm creates value by buying and selling other firmsA firm creates value by buying and selling other firms’’assets in the external market.assets in the external market.

••Resource allocation decisions may becomeResource allocation decisions may becomecomplex, so success often requires:complex, so success often requires:

Focus on mature, lowFocus on mature, low--technology businesses.technology businesses.

Focus on businesses not reliant on a clientFocus on businesses not reliant on a clientorientation.orientation.


External Incentives to DiversifyExternal Incentives to Diversify

•• Antitrust laws in 1960s and 1970sAntitrust laws in 1960s and 1970sdiscouraged mergers that createddiscouraged mergers that createdincreased market power (vertical orincreased market power (vertical orhorizontal integration.horizontal integration.

•• Mergers in the 1960s and 1970s thusMergers in the 1960s and 1970s thustended to be unrelated.tended to be unrelated.

•• Relaxation of antitrust enforcementRelaxation of antitrust enforcementresults in more and larger horizontalresults in more and larger horizontalmergers.mergers.

•• Early 2000: antitrust concerns seem toEarly 2000: antitrust concerns seem tobe emerging and mergers now morebe emerging and mergers now moreclosely scrutinized.closely scrutinized.

AntiAnti--trusttrustLegislationLegislation


External Incentives to Diversify (contExternal Incentives to Diversify (cont’’d)d)

•• High tax rates on dividends cause aHigh tax rates on dividends cause acorporate shift from dividends tocorporate shift from dividends tobuying and building companies in highbuying and building companies in high--performance industries.performance industries.

•• 1986 Tax Reform Act1986 Tax Reform Act

Reduced individual ordinary income taxReduced individual ordinary income taxrate from 50 to 28 percent.rate from 50 to 28 percent.

Treated capital gains as ordinaryTreated capital gains as ordinaryincome.income.

Thus created incentive for shareholdersThus created incentive for shareholdersto prefer dividends to acquisitionto prefer dividends to acquisitioninvestments.investments.

AntiAnti--trusttrustLegislationLegislation

Tax LawsTax Laws


Internal Incentives to DiversifyInternal Incentives to Diversify

••High performance eliminates theHigh performance eliminates theneed for greater diversification.need for greater diversification.

••Low performance acts asLow performance acts asincentive for diversification.incentive for diversification.

••Firms plagued by poorFirms plagued by poorperformance often take higherperformance often take higherrisks (diversification is risky).risks (diversification is risky).

LowLowPerformancePerformance


FIGUREFIGURE 6.36.3 The Curvilinear Relationship betweenThe Curvilinear Relationship betweenDiversification and PerformanceDiversification and Performance


Internal Incentives to Diversify (contInternal Incentives to Diversify (cont’’d)d)

••Diversification may beDiversification may bedefensive strategy if:defensive strategy if:

Product line matures.Product line matures.

Product line is threatened.Product line is threatened.

Firm is small and is in matureFirm is small and is in matureor maturing industry.or maturing industry.


UncertainUncertainFuture CashFuture Cash

FlowsFlows


Internal Incentives to Diversify (contInternal Incentives to Diversify (cont’’d)d)

•• Synergy exists when the value createdSynergy exists when the value createdby businesses working togetherby businesses working togetherexceedsexceeds the value created by themthe value created by themworking independentlyworking independently

•• …… but synergy creates jointbut synergy creates jointinterdependence between businessinterdependence between businessunits.units.

•• A firm may become risk averse andA firm may become risk averse andconstrain its level of activity sharing.constrain its level of activity sharing.

•• A firm may reduce level of technologicalA firm may reduce level of technologicalchange by operating in more certainchange by operating in more certainenvironments.environments.


UncertainUncertainFuture CashFuture Cash

FlowsFlows

Synergy andSynergy andRiskRisk

ReductionReduction


Resources and DiversificationResources and Diversification

••A firm must have both:A firm must have both:Incentives to diversifyIncentives to diversifyThe resources required to create value throughThe resources required to create value through

diversificationdiversification——cash and tangible resources (e.g.,cash and tangible resources (e.g.,plant and equipment)plant and equipment)

••Value creation is determined more byValue creation is determined more byappropriate use of resources than by incentivesappropriate use of resources than by incentivesto diversify.to diversify.

••Managerial Motives to DiversifyManagerial Motives to DiversifyManagerial risk reductionManagerial risk reductionDesire for increased compensationDesire for increased compensation


FIGUREFIGURE 6.46.4

Summary Model of theSummary Model of theRelationship betweenRelationship betweenFirm Performance andFirm Performance andDiversificationDiversification

Source: R. E. Hoskisson & M. A. Hitt, 1990,Antecedents and performance outcomes ofdiversification: A review and critique of theoreticalperspectives, Journal of Management, 16: 498.

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06[2] Strategy at the Corporate Level - ridwaniskandar Blog · CHAPTER 6 Strategy at the Corporate Level ... •Diversification strategies play a major role in the ... 06[2] Strategy