Bpol 2

Corporate Level Strategy

Types of Diversification

Single Business

• 95% or more revenue comes from a single business

• Ex: Netflix & Saudi Aramco

• Level of Diversification: Low

Dominant Business

• Between 70% and 95% of revenue comes from single

• NVIDIA & Eli Lilly

• Level of Diversification: Low

• Line

Related Constrained

• less than 70% of revenue comes from dominant business

• all business share product, technological, and distribution linkages

• Ex: Honda and Volkswagen

• Level of Diversification: Moderate to High

• Triangle Linked

Related Linked

• Less than 70% of revenue comes from the dominant business

  *Only limited links between businesses

• Open Triangle

• Tesla & Amazon

• Level of Diversification: Moderate to High

Unrelated

• Less than 70% of revenue comes from the dominant business

• No common links between businesses

• Samsung

• Level of Diversification: Very High

• Triangle NOT linked

Operational Relatedness

creating value through shared activities

The coordination trap

inflexibility if demand drops or resources are tied up

Corporate-level core competencies

complex sets of resources and capabilities that link different businesses, primarily through managerial and technological knowledge, experience, and expertise.

Corporate-level core competencies creates value by

• the elimination of the need to allocate resources to an existing core competence that has already been developed in another business

• since managerial "know-how" is invisible and complex, it provides a more sustainable competitive advantage than physical assets that rivals can simply buy.

Market Power

Exists when a firm is able to sell its products above the existing competitive level or to reduce the costs of its primary and support activities below the competitive level, or both

Pooled negotiating power

gaining greater bargaining power with suppliers & customers

Vertical integration

when a company produces its own inputs (backward integration) or owns its own source of output distribution (forward integration).

Rationale of Vertical Integration

•Save on operational costs

•Avoid market costs

•Improve product quality

•Protect technology from imitation by rivals

•Exploit underlying capabilities in the marketplace

•Access to more information and knowledge that are complementary

•Especially valuable when no market prices exist for connected assets (high search / transaction costs)

Drawbacks of Vertical Integration

•Outside suppliers may produce product at lower cost

•Bureaucratic costs can affect success of vertical integration

•Requires substantial investments in specific technologies, so may reduce firm’s flexibility, esp. when new technology arrives

•Changes in demand create capacity balance and coordination problems

•Massive investment in specific internal tech makes it expensive and difficult to pivot when new innovations emerge.

•A dip in retail demand causes a backup through the entire chain, creating major internal coordination failures.

The Era of De-integration

•At the turn of the 21st century, most firms divested non-core units and moved to independent supplier networks to regain strategic flexibility.

•The Boeing 787 Dreamliner (De-integration Failure)

The Shift to Re-integration

•Recently, firms have begun reintegrating to secure direct control over the quality, cost, and timing of their critical supplies.

•Tesla’s Battery and Software (Strategic Re-integration)

The Information Advantage: Efficient Capital Allocation

• risk balancing

• superior internal data

• competitive privacy

Risk Balancing

Management reduces overall firm risk by allocating capital to high-potential projects across businesses with offsetting risk profiles.

Superior Internal Data

Internal managers possess better, more detailed information for capital decisions than external market analysts.

Competitive Privacy

Unlike external annual reports, internal data is not available to competitors, preventing them from duplicating the firm’s investment strategy.

Unrelated Diversification: Two Paths to Value

1. Efficient internal capital (Internal Bank)

2. Restructuring of assets (Strategic Buy & Sell)

Efficient Internal Capital Allocation (The "Internal Bank")

•Information Advantage: Managers have deeper, private data than Wall Street, allowing for better-informed funding of high-potential projects.

•Risk Balancing: The firm reduces overall risk by allocating capital to business units whose risk profiles offset each other.

Restructuring of Assets (The "Strategic Buy & Sell")

•The Process: Value is created by buying underperforming companies at low prices (e.g., during a recession), restructuring their operations, and selling them when the market expands.

•Limitations: This is difficult in service industries or high-tech sectors where value is tied to intangible human capital or rapidly obsolete innovations.

Incentives to Diversify: Low Performance

•Low performance is sometimes an incentive for a firm to diversify (not a good reason)

•However, evidence suggests that diversification that does not strengthen the value proposition of your core business (i.e. unrelated diversification) will not improve performance

Incentives to Diversify: Uncertain Future Cash Flows

•Maturing product lines

•Incentive for diversification as a defensive strategy (to survive long term)

•Diversification to new products, markets or businesses

•Reduces uncertainty of future cash flows.

Value-Reducing Diversification: Managerial Motives to Diversify

• Self-Interest & Risk

• The Empire Building Tax

• Corporate Governance

Self Interest & Risk

Executives may diversify to lower their personal employment risk, ensuring the company survives even if its core business fails.

The "Empire Building" Tax

Increased complexity often leads to higher executive compensation without adding actual value to the enterprise.

Corporate Governance

Boards of Directors and strict compensation policies act as essential "guardrails" to prevent excessive, value-reducing diversification.

Value Creating Influences

•Economies of Scope

•Market Power

•Financial Economics

Value-Neutral Influences

•Incentives

•Resources

Value-Reducing Influences

•Managerial Motives to Diversify

Why go international?

1. Increased market size

2. Economies of scale

3. Location advantages

4. Extend Products Life cycle

Increased market size

Accessing customers beyond domestic borders

Economies of scale

Spreading R&D and manufacturing costs.

Location Advantage

Gaining access to cheaper labor or resources

Extend Products Life cycle

maximize returns on its R&D and innovation investments.

Selecting an International Corporate-Level Strategy

1. Focus

2. Requirement

3. Management

4. Key Strategic Impact

International Corporate Level Strategy: Focus

Geographic Diversification (The scope of global operations).

International Corporate Level Strategy: Requirements

Required when the firm operates in multiple countries or regions

International Corporate Level Strategy:management

HQ guides overall strategy; country managers can have substantial strategic input

International Corporate Level Strategy:key strategic impact

The choice determines where power lies and how flexible the business strategy is:
•Does the local unit get flexibility?

•Is the strategy centralized at the home office

Corporate Level Strategies

1. Global

2. Transnational

3. International

4. Multidomestic

Grab the intelligent monkey

Global International Corporate Level Strategy

High Global Integration

Low Local Responsiveness

Transnational International Corporate Level Strategy

High Need for Global Integration

High Need for Local Responsiveness

International International Corporate Level Strategy

Low Global Integration

Low Local Responsiveness

Multidomestic International Corporate Level Strategy

Low Global Integration

High Local Responsiveness

Modes of Entry (low to high control and risk)

1. Exporting

2. Licensing

3. Strategic Alliances

4. Aquisitions

5. Wholly Owned Subsidiary

Exporting

the firm sends products it produces in its domestic market to international markets

•Involves low expense to establish operations in host country

•Involves contractual agreements

•Involves high transportation costs

•Low control over marketing and distribution

•Trade Barriers:
   Tariffs, Quotas, Product Standards, Import Licenses,    Local Content Requirements, etc.

 

Licensing

an agreement that allows a foreign company to purchase the right to manufacture and sell a firm’s products within a host country’s market or set of markets

•Involves low cost to expand internationally

•Allows licensee to absorb risks

•Has low control over manufacturing and marketing

•Offers lower potential returns (shared with licensee)

•Involves risk of licensee imitating technology and product for own use

•May have inflexible ownership arrangement

Strategic Alliance

collaboration with a partner firm for international market entry

•Involves shared risks and resources

•Facilitates development of core competencies

•Involves fewer resources and costs required for entry

•May involve possible incompatibility, conflict, or lack of trust with partner

•Is difficult to manage

 

Acquisition (cross border acquisition)

a firm from one country acquires a stake in or purchases 100% of a firm located in another country

•Allows for quick access to market

•Involves possible integration difficulties

•Is costly (debt financing)

•Has complex negotiations and transaction requirements

Green field venture (investment)

A firm establishes a new wholly owned subsidiary in another country/market by building its operations in the foreign country from the ground up

•Is costly

•Involves complex processes

•Allows for maximum control

•Has the highest potential returns

•Carries high risk

Political Risks

Instability in national governments

•War, both civil and international

•Government regulations

•Conflicting and diverse legal authorities

•Potential nationalization of a firm’s private assets

•Government corruption

•Changes in government policies

Prior to implementing any of the five modes of international entry, political risk analysis should be conducted, where the firm examines potential sources and factors of noncommercial disruptions of their foreign investments and the operations.

Economic Risks

Fundamental weaknesses in a country or region’s economy

•Currency differences or fluctuations

•Wage rate differences

•Difficulties in enforcing property rights

•Unemployment

•Interdependent with political risks (e.g. Government oversight and control of economic/financial capital)

 

Management Problems

Cost of coordination across diverse geographical business units

•Institutional and cultural barriers

•Understanding strategic intent of competitors

•The overall complexity of competition and the business environment

•Shortage of internationally equipped leadership

Cooperative Strategy

A strategy in which firms work together to achieve a shared objective

Cooperative Strategy Creates Superior Customer Value

Allows firms to offer a product or service that neither could offer alone, or to offer it in a significantly better way.

Cooperative Strategy Achieve Synergy Economically

The combined cost of cooperating to create new value is less than the cost of going it alone.

Strategic Alliance

A primary type of cooperative strategy in which firms combine some of their resources and capabilities to create a mutual competitive advantage

•Involves the exchange and sharing of resources and capabilities to co-develop or distribute goods and services

•Requires cooperative behavior from all partners

Reasons to Develop Strategic Alliances

1. Value creation and access

2. Market and competitive position

3. Efficiency, innovation, growth

Strategic Alliance : value creation and access

Create value that firms couldn't develop independently.

•Gain access to the resources and capabilities needed to reach objectives.

•Access new or restricted markets more quickly and with greater penetration.

Strategic Alliance: market and competitive positioning

Enhance a firm’s competitive capabilities and take advantage of opportunities.

•Gain market power and reduce competition.

•Build strategic flexibility and enhance organizational response times.

•Overcome trade barriers and competitive challenges.

Strategic Alliance: efficiency, innovation, growth

Establish better economies of scale and scope to lower costs.

•Help the firm innovate and gain new knowledge and experiences.

•Provide a new source of revenue and growth; they can account for 25-40% of sales in large firms.

 

Liability of Foreignness: The Cost of Being an Outsider

•The legitimate costs associated with operating in foreign markets due to unfamiliarity.

•Caused by administrative, cultural, geographic, and economic differences.

•Difficulty in implementing global strategies contributes to this liability.

3 Types of strategic alliances

1. joint venture

2. equity strategic alliance

3. nonequity strategic alliance

joint venture

•Two or more firms create a legally independent company by sharing some of their resources and capabilities

•Optimal when firms need to create a competitive advantage that is substantially different from their individual advantages, and when highly uncertain, hypercompetitive markets are targeted

equity strategic alliance

•Partners who own different percentages of equity in each other’s companies

•Many foreign direct investments, such as those companies from multiple countries are making in China, are completed through an equity strategic alliance

nonequity strategic alliance

•Two or more firms develop a contractual relationship to share some of their unique resources and capabilities

•less formal, fewer partner commitments, and intimate relationship among partners is not fostered

Business Level Cooperative Strategies

1. complementary strategic alliances

2. uncertainty reducing strategy

3. competition response strategy

4. competition reducing strategy

complementary strategic alliances

1.Combines assets to create new value

•Vertical: Firms cooperate in different stages of the value chain (e.g., outsourcing ). Highest probability of sustainable competitive advantage.

•Horizontal: Partners cooperate in the same stage of the value chain. Often between competitors; requires high trust.

Uncertainty reducing strategy

1.(Hedges against risk/uncertainty )

•Most common in fast-cycle markets (e.g., product development, setting tech standards ).

competition response strategy

1.(Response to a competitor's action )

•Tends to provide a temporary competitive advantage.

competition reducing strategy

Used to avoid destructive or excessive competition (two types)

•Includes Tacit Collusion (indirect coordination, e.g., Mutual Forbearance ). Lowest probability of sustainable competitive advantage.

•Competition-reducing strategic alliances are reviewed by governments to make sure the collaboration does not violate antitrust laws

2 types of collusion

1. Tacit

2. Explicit (illegal)

Tacit collusion

Indirectly coordination of production and pricing decisions by observing other firm’s actions and responses

Explicit collusion

Firms directly negotiate production output and pricing agreements to reduce competition (illegal)

Mutual forbearance

•a form of tacit collusion in which firms avoid competitive attacks against those rivals they meet in multiple markets

Corporate level cooperative strategies help the firm diversity in terms of:

•Products offered to the market

•The markets it serves

Corporate level cooperative strategies require ____ resource commitments than M&A strategies

fewer

Diversifying Alliances

• expand markets or products

• Allows expansion into new areas with less risk and greater flexibility than an M&A. Permits a "test" of a future merger between partners.

Synergistic Alliances

• create joint efficiencies

• Creates joint economies of scope and synergy across multiple functions or businesses between partners.

Franchising

• spreading risk and competency

• A contractual relationship used to share resources and capabilities with partners. Spreads risks and uses competencies without merging.

Cross Border Strategic Alliance

Firms from different nations combining resources for competitive advantage.

Cross-Border Strategic Alliance Benefits

•Market Entry: Use a host partner’s knowledge of local customs and regulations to expand.

•Risk Sharing: Reduces the financial burden of going into a foreign market alone.

Cross-Border Strategic Alliance Challenges

•Complexity: Different management styles and cultures make these very hard to manage.

•The "Trojan Horse" Risk: Must ensure partner doesn't just steal your tech and become your competitor

Network Cooperative Strategy

Instead of one-on-one, firms form a web of multiple alliances to reach shared goals.

2 types of network cooperative strategy

1. stable network

2. dynamic network

Stable Network

Long-term and predictable; used in mature industries to keep costs low (e.g., Airlines).

Dynamic Network

•Rapidly changing; used in tech-heavy industries to drive fast innovation (e.g., Silicon Valley).

The secret sauce of network cooperative strategy

•Success depends on social relationships and high levels of trust between all the partners in the web

Risks of Cooperative Strategy

• high failure rate

• Inadequate contracts

• Misrepresentation of competencies

• Partners fail to use their complementary resources

• Holding alliance partners’ specific investments hostage

Risk and Asset Management Approaches of Cooperative Strategy

•Detailed contracts and monitoring

•Developing trusting relationships

2 Approaches to managing cooperative strategies

1. cost minimization approach

2. opportunity maximization approach

cost minimization management approach

Focus: Minimize costs and prevent opportunistic behavior by partners.

Contracts: Use formal, detailed contracts with partners.

Behavior: Specifies how partner behavior and strategy are to be controlled and monitored.

Risk View: Assumes partners will act opportunistically and relies on monitoring and legal safeguards (low trust).

Opportunity Maximization Approach

Focus: Maximize the partnership's value-creation opportunities.

Contracts: Maintain fewer formal, limiting contracts to allow for fewer constraints.

Behavior: Encourages partners to learn from each other and explore additional marketplace possibilities.

Risk View: Assumes trusting relationships can be developed to manage risks effectively (high trust).

Corporate Governance Defined

•Mechanisms to manage relationships among stakeholders (with conflicting interests), and determine and control the strategic direction and performance of organizations

•Ensuring strategic decisions are made effectively

•Establishes order between owners and top-level managers (interests may conflict)

•Agency relationship

Why separate ownership & control?

Separation of these tasks forms the foundation of today's public corporation.

•Principals/Owners – (SHAREHOLDERS)

Act as risk-bearers, receiving returns based on company performance and stock price.