Companies can be Combined to Benefit from Infrastructure

Horizontal integration takes place when some firms expand by acquiring other companies in the same line of business adding new products or services to the existing product or service line. Such acquisitions eliminate competitors and provide the acquiring organizations with access to new markets. Horizontal integration could come, thus, through mergers and acquisitions. The purchase of one firm by another of approximately the same size is called a merger. It is called an acquisition when one of the organizations involved is considerably larger than the other. Most software companies use the mergers and acquisitions route to acquire complementary businesses, products or services linked by a common technology and common customers.

Concentric diversification occurs when an organization diversifies into a related but distinct business. With concentric diversification the new business can be related to existing businesses through products, markets or technology. The new product is a spin off from the existing facilities, products and processes. For example, an electronic major decided to diversify into related businesses of cellular phones, telecommunication equipment, electronic components etc. to exploit its core advantages in the form of related technology, strong distribution network etc.

Concentric diversification may occur due to factors such as common distribution channel, marketing skills, common brand name and common customers. Organizations such as  Proctor & Gamble operate multiple businesses related by a common distribution network (grocery stores) and common marketing skills (advertising). Another major company relies on strong brand names and reputation to link their diverse businesses which include movie studios and theme parks. Pharmaceutical firms such as Cipla, Rambaxy, sell numerous products to a single set of customers: hospitals, doctors, patients and drugstores.

Related diversification extends the distinctive core competence (technologies, resources, skills) or set of firm specific resources to a new   line of business. Such firms can now extend their resources into new industries that share common characteristics. Another obvious purpose is to create and exploit synergies in marketing, operations, managerial competence etc. At times, two firms may combine to exploit complementary core competencies. One firm that is strong in research and product development may merge with another that is strong in distribution.

Firms often expect that sharing of activities across units would result in increased strategic competitiveness and improved  financial returns.

At Proctor and Gamble  a paper towels business and a baby diapers business both use paper products as a primary input to the manufacturing process. Having a joint paper manufacturing plant that produces inputs for both units is an example of operational relatedness.

Related diversification extends a firms’ distinctive competence across closely fitting businesses to create new sources of value that form the basis for building synergy.

Honda has developed and transferred its expertise in small and now larger engines for a number of vehicles from motor cycles and lawn mowers to its range of automotive products.

Motorola’s  remarkable long term success in semi-conductors and wireless telecommunication products has been built on the development of a set of core technological capabilities that are transferred and integrated across a number of different business areas.

Related diversification can also be used to gain market power. A large diversified company can use a powerful competitive weapon called – predatory pricing – to kill competition. Predatory pricing is the ability to cut prices below the level of rivals costs and sustain losses over the period needed to cause the competitor to exit or sell out. Firms can also increase market power by using mergers and acquisitions to consolidate their operations.

A decade ago the Tatas, the Birlas,  BPL and AT&T got together to create a multi billion dollar  cellular telecom behemoth covering more than 1 million subscribers.

Further large diversified firms may have access to markets or distribution channels it could not access on its own. For example soft drink units having tie ups with big retail units to expand their market share.

Infrastructure can be shared to mutual benefits: Production facilities, marketing programmes, purchasing procedures and delivery routes can be shared by diversified firms leading to great economies on the cost front.   Giant fast moving consumer goods (FMCG)  firms such as Proctor and Gamble. Hindustan Uni Lever Ltd mix their truckloads with multifarious items depending on customer preferences in each location because it is inefficient to ship pure loads of very light but bulky items (potato chips) or very dense goods (liquid laundry detergent), FMCG firms save on fuel bills and road taxes. These firms supply multifarious items to the same retail outlets – saving a lot on advertising, promotion and delivery expenses. Usually in diversified firms, accounting, legal, services, public relations and  information technology tend to be centralized. They also centralize the R&D facilities. Sharing infrastructural benefits have enabled companies such as Philips, IBM, Matsushita, Dupont and Xerox to create large scale research  labs that have offered immense benefits to multiple businesses.

Reduces Economic Risk:

Related diversification reduces an organization’s dependence on any one of its business activities and thus reduces economic risk. Even if one or two of a firm’s businesses lose money the organization as a whole may still survive because the healthy businesses will generate enough cash to support the other.

Thus, related diversification strategies are basically designed to extend a firm’s distinctive competence and resources to other businesses. They enable a firm to lower its costs across a wider base of activities, increase the differentiation of its businesses; learn and transfer new technologies, skills, and capabilities at a faster rate to diverse fields.

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