Diversification As a

Strategy

GROUP 2
ROSELINE D’MARY | ROHIT JHARIA | ALOK SINGH
NITIN I HARINATH BABU | ROHAN PAUNIKAR |
YESHWANTHI AC
DIVERSIFICATION
Developmental Diversification
Functional diversification
Product diversification
Customer diversification
Geographic diversification
Financial diversification
Rumelt’s three major categories of diversified companies
Dominant Business Companies
•70-95% of sales from a single business or
vertical integration of chain of businesses
•Ex: GM, IBM, Texaco
• Based on specialization ratio
Serve similar markets and use
similar distribution system
• Employ similar production
technologies
• Exploit similar science-based
research
Related Business Companies Unrelated Business companies
•adding activities that are tangibly related to •conglomerates
the collective skills and strengths possessed by •Ex: Litton, Rockwell International, ABG, TATA
the company
•adding activities that are tangibly related to
the collective skills and strengths possessed by
the company
•Ex: DU Pont, GE,GF
Performance of Diversified companies
(Studies)
1. Accounting-based performance studies (1950-1970)
 Corporate growth rates: Unrelated business > Related business > Dominant
business
 Capitalproductivity: Related business > Dominant business > Unrelated
business
2. Capital market performance studies: confirms Rumelt’s findings
3. Forbes and Business week:
 Unrelated business: volatile capital productivity due to extensive use of
financial leverage
 Average PE ratio < Market PE ratio
 Gulf& Western companies which has divested operations showed debt
reduced pe ratio increased
COMPONENTS OF STRATEGY
FOR A DIVERSIFIED COMPANY

Concept of fit Concept of corporate

among management of business
businesses units

Corporate Goals

Concept of
Generic
assembly of the
Functional
portfolio
policies
 Concept of fit Concept of corporate
among businesses management of business
units
Corporate Goals

Concept of Generic Functional

assembly of the policies
portfolio

Corporate Goals:
 These are broad corporate level goals which are made to achieve
economic and non-economic objectives
 They reflect how top management intends to create economic value for
investors
 These include areas such as profitability, growth, financial stability and social
responsibility
 Concept of fit Concept of corporate
among businesses management of business
units
Corporate Goals

Concept of Generic Functional

assembly of the policies
portfolio

Concept of fit among businesses:

 This explains the relation between individual businesses
 Various possible range of fits:
 Unrelated businesses integrated by financial criteria

 Highly related businesses sharing assets and skills

 Concept of fit Concept of corporate
among businesses management of business
units
Corporate Goals

Concept of Generic Functional

assembly of the policies
portfolio

Concept of assembly of the portfolio:

 Approach of finding and acquiring new business units to the corporate
portfolio
 Levels:
 Broadest level: Creation of a mix of internal development of new
businesses, acquisitions, venture capital subsidiaries and joint ventures
 Operational level: Approach and mechanism for assembling new
businesses

 Finally, company must have an organizational mechanism in place to carry

out its concept of assembly
 Concept of fit Concept of corporate
among businesses management of business
units
Corporate Goals

Concept of Generic Functional

assembly of the policies
portfolio

Concept of corporate management of businesses units:

 Range of concepts of management
 Individual units having complete autonomy (unrelated diversifier)
 Business units have more autonomy regarding strategy and divisional issues

 Involvement of corporate management in divisional affairs (related

diversifier)
 Corporate management plays a key role in R&D, divisional strategy
formulation and personnel selection
 Concept of fit Concept of corporate
among businesses management of business
units
Corporate Goals

Concept of Generic Functional

assembly of the policies
portfolio

Generic Functional policies:

 Corporate wide philosophies or approaches to managing functional areas of businesses
 Functional areas exist in areas of:
 Finance: capital structure, cash reserves etc.
 Labor: desirability of unionization, collective bargaining
 Value Creation and Strategic “Fit”

Strategic fit can be Shareholders

Strategy of a diversified in terms of interests in value
Fit can take variety
diversified company financial, generic Goal of fit is to creation must be
of different forms
is “fit” or relationship functional skills, create real prioritized over
and lead to a variety
among distinct complementary economic value for others in order to
of economic
businesses in the strategic assets, shareholders retain economic
benefits
portfolio compatible and social values of
management styles the company
Value Creation and Strategic “Fit”
continued

How diversifying
company create Questions can be Trade-offs between risk and
real economic answered when skills & return achieved by diversified
value for its company is superior than that
shareholders ?
resources of 2 businesses
of single business
satisfies at least one of the
following conditions :
How does notion of
strategic fit relate to In efficient capital markets,
value creation ? 1. An income stream > unsystematic risk is irrelevant in
portfolio investment in 2 equity valuation process
companies
Comparison between
A diversifying company can
Corporate diversification on 2. Reduction in variability create value only when its risk-
shareholder’s behalf & of income stream > return trade-offs include
independent portfolio benefits unavailable through
portfolio investment in 2
diversification on investor’s simple portfolio diversification
part business
 Seven principal ways:

 SYNERGY:
Skills Resources
• Google acquired Andriod Inc. in 2005

 REDUCE AVERAGE COST

• Investment in closely related current operations field
• P&G invested in I.T. infrastructure and achieved cost saving

Related  EXPANSION IN COMPETENCE AREA

Diversification
• Investment to closely related diversifying acquisitions
• Walmart

 REDUCE SYSTEMATIC RISK

• Diversifying by acquiring a company reduce its tech, marketing risk
• Translate into less variable income stream
• M&M acquired Punjab Tractors Ltd. (PTL)
 Seven principal ways contd…

 BALANCING THE CYCLICAL WORKING CAPITAL

REQUIREMENTS
• Route cash from units operating wit surplus to deficit
• Reducing need for working capital funds from outside
Unrelated
Diversification
 IMPROVE LONG RUN PROFITABILITY

 RISK POOLING
• Diversified company can have lower cost of capital
 Conclusion

In related diversification, skills and resources are transferable.

Knowledge from one can be applied to problem and opportunity facing by

other.

In unrelated and conglomerate diversification, efficient corporate

management leads to a larger return for corporate investors.

Only financial benefits can be achieved after the unrelated diversifying

acquisition.
Thank You