Strategy Formulation

Strategies for Growth and Diversification

Identifying Growth Strategies

Define the industry Analyze options for growth

What Is Our Industry?

Defining the industry in new ways can present new opportunities. Examples:
Disney IBM

Business-Level Strategies For Growth

Product/Service
Existing New

Existing Domain (i.e., Industry Market New

Market Penetration Strategy Market Development Strategy

Product Development Strategy Diversification Strategy

Product/Market Expansion: Scale Strategies

Market Penetration
Goal: increase market share
Low risk/marginal returns Every business does this

Market Development
Goal: find new markets
Marketing expertise Mature products/services

Product/Market Expansion: Scope Strategies

Product Development
Goal: develop & introduce new products/services

Technical expertise
Growth of products/services (Could Entail Related Diversification)

Diversification
Goal: develop & introduce products/services to new or emerging markets
(Most likely Unrelated Diversification)

When Does Diversification Make Sense?

Single business strategies have a number of advantages but also a number of risks -- all ones eggs in one basket The logic: to spread corporate risk across multiple industries to enhance shareholder value: SYNERGY (i.e., 2 + 2 = 5)

Diversification -- Motives
The risks of single business strategies are more severe for management than for shareholders of publicly traded firms. Diversification may be motivated by managements desire to reduce risk. Diversification only makes sense when it enhances shareholder value!

Tests For Judging Diversification

Attractiveness

Better-off
Cost of entry

Attractiveness Test
Is the target industry attractive? (Use 5forces model to assess industry attractiveness) Does the diversification move fit with the grand strategy of the firm?

Better-off test
Does the diversification move produce opportunities for synergies? Will the company be better off after the diversification than it was before? How and why?

Cost of Entry Test

Is the cost of the diversification worth it? Will the diversified firm create enough additional value to justify the cost?

Methods for Diversification

Acquisition of an existing business Creation of a new business from within, e.g. a start-up Joint venture with another firm or firms

Acquisition
Most popular approach to diversification

Quick market entry

Avoids entry barriers: Technology Access to suppliers Efficiency / economies of scale Promotion Distribution channels

Major Acquisition Issue

Acquire a successful company at a high price

or
Acquire a struggling company at a bargain price

Start-Up
Appropriate when: You have time to launch

Market moves slowly

Internal entry costs lower than acquisition costs You already possess necessary skills Target industry is fragmented

Joint Ventures
Pooling resources to spread risk Achieving synergy from respective capabilities Leveraging one anothers experience Complicated; potential for conflicts if responsibilities, liabilities, & rewards not clearly delineated

Related Diversification
Businesses are distinct but their value chains possess strategic fit in operations, marketing, management, R&D. distribution, labor, etc. Therefore, they tend to exploit economies of scope Tend to (historically) outperform unrelated diversifications

Unrelated Diversification
No common linkage or element of strategic fit among SBUs -- i.e., no meaningful value chain interrelationships Strategic approach: venture opportunistically into attractive industries that have solid potential for financial returns Conglomerates Dominant logic: spreads businesses risk over multiple industries, stabilizing corporate profitability (in theory)

Attractive Acquisition Targets for Unrelated Diversification

Companies whose assets are undervalued (buyem & sellem to realize capital gains) Companies that are financially distressed (purchase at bargain price & turnem around through injections of financial resources & managerial expertise) Companies with bright prospects, but limited capital

Dominant logic: any company that can be acquired on good financial terms & offers good prospects for profitability is a good business for diversification

Drawbacks of Unrelated Diversification

Places enormous demands on corporate management -shifting resources & making moves into unknown areas, etc. Cannot capture synergies -- no strategic fit between SBUs Few businesses have offsetting up-down cycles, so salesprofit stability is more mythical than real (& when EVERYTHING IS in a downturn, assets spread thin are sometimes consumed )

Strategic Analysis of Diversified Companies

The essence of strategic management is to allocate resources to those areas that possess the greatest potential for future success

Corporate Strategy for Diversified Firms -Key Strategic Issues

(1) How attractive are our current businesses?

(2) With these businesses, what is our performance outlook for X years in the future?
(3) If answers to (1) & (2) above arent satisfactory, what should we do to get out of some businesses, strengthen those remaining, & get into new businesses to boost our prospects for better performance?

BCG Growth-Share Matrix

Dimensions: Industry growth rate

Relative market share position of the businesses

SBUs plotted as circles with area proportional to their contribution to overall corporate sales

BCG Business Portfolio Matrix

Relative Market Share Position
High
Stars

Low
Question Marks

High
Industry Growth Rate Low
Cash Cows Dogs

BCG Matrix -- Strengths

Encourages strategists to view a diversified firm as a collection of cash flows & cash requirements (** its major strategic implication **)

Explains why priorities for corporate resource allocation differ from SBU to SBU

Demonstrates the progression of an SBU -from Q-mark ===>Star ===>Cash Cow

BCG Matrix -- Weaknesses

Over-simplifies market growth & market share issues 4 simple categories are neat, but trends are more valuable

Doesnt directly identify which SBUs offer the best investment opportunities
Considers only 2 variables

G.E. 9-Cell Matrix

Dimensions: Long-term industry attractiveness

Business strength/Competitive position

SBUs plotted as circles with area proportional to the size of the industry, & a sector within each circle representing the SBUs market share in its industry

GE 9-Cell Matrix
Business Strength/Competitive Position

Strong

Average

Weak

H
Long-Term Industry Attractiveness

Strategic Implications of the G.E. 9-Cell Matrix

SBUs in 3 upper left cells get top investment priority

SBUs in 3 middle diagonal cells merit steady investment to maintain & protect their industry positions

SBUs in 3 lower right cells are candidates for harvesting or divestiture

Advantages of G.E. 9-Cell Matrix

Allows for intermediate rankings between high & low and between strong & weak

Incorporates a wider variety of strategically relevant variables than the BCG matrix
Stresses the channeling of corporate resources to SBUs with the greatest potential for competitive advantage & superior performance

Weaknesses of G.E. 9-Cell Matrix

Provides no guidance on specifics of SBU strategy Only suggests general strategic posture -- aggressive expansion, fortify-&-defend, or harvest/divest Doesnt address the issue of strategic coordination across related SBUs

Tends to obscure SBUs about to take off or crash & burn -static, not dynamic

Life-Cycle Portfolio Matrix

Dimensions:

Industry stage in the life cycle

SBUs competitive position

Area of each SBU circle is proportional to size of the industry; sectors denote SBUs market share in its industry This matrix displays the distribution of the firms businesses across the various stages of industry evolution

Life-Cycle Portfolio Matrix

SBUs Competitive Position Strong Introduction Growth LifeCycle Stages Early Maturity Late Maturity Decline Average Weak

Common Problems Associated With Diversified Firms:

Overemphasis on ROI Under-emphasis on future earnings streams Short-term focus Growth more valued than quality & value Over-decentralized; top managers become isolated & out-of-touch Avoidance of manageable (strategic) risk for the sake of short-run profit

Performance: Effectiveness & Efficiency

Effectiveness: external criteria Efficiency: internal criteria Not mutually exclusive Both important

Effectiveness
Doing the right thing; goal attainment Determine by the market Establishes what price you can command Measures: sales, market share, etc.

Efficiency
Doing the thing right Ratio of output to input Determines price you must charge Measures: operating profit, unit cost structure, etc.

Market Criteria
Future projection Reflects anticipated results Indicates investor confidence Measures: trend in stock price or cash value

Operational Criteria
Past & present Reflects actual results Indicates managerial competence Measures: ROE, ROI, ROA, market share, revenue, operating margin (profit), time-tomarket, inventory turns, quality, etc.

Performance: The Bottom Line

No simple bottom line No single criterion of performance is inherently most important Multidimensional Situational -- different measures are more appropriate at different times Difficult to be successful on all measures at the same time