Aim: Create value such that the collective worth of businesses exceeds individual ownership.
Synergies must be unattainable through market equity investing.
Vertical integration generates value chain economies which enhance the value of the corporate whole.
Example Case: **Leprino Foods (Mozzarella Cheese)
Chain Overview:
Dairy Farmers (supply milk)
Crop Farmers (grow alfalfa & corn)
Seed Companies (supply seeds)
Food Distributors
Pizza Chains
End Consumers
Backward Vertical Integration: Involves the acquisition of suppliers.
Forward Vertical Integration: Involves the acquisition of distribution channels or customers.
Key Elements:
Synergies: The focal firm aligns to enhance collaboration and reduce costs.
Economic Returns: Capture above-normal returns to avoid perfect competition.
Cost Reduction: Streamline operations.
Revenue Enhancement: Boost sales through more efficient processes.
Must meet VRIO Criteria:
Is it Valuable?
Is it Rare?
Is it costly to Imitate?
Is the firm Organized to exploit it?
If these criteria are satisfied, it may lead to a competitive advantage.
Economic exchanges should maximize firm value.
Different forms of exchange (markets vs. integrated hierarchies) must be evaluated based on value generation.
Integration is favorable when greater value than market exchange can be captured.
Leverage Capabilities: Use strengths from one area to improve others.
Exploit Flexibility: Maintain adaptability in changing environments.
Manage Opportunism: Reduce risks from market opportunism by internalizing operations; must be cost-effective.
Integration strategies may be rare based on how a firm chooses to integrate or not integrate.
Rarity not only considers the number of integrations but also the value borne from such strategies.
Example: Toyota's choice against supplier integration.
Form vs. Function:
Form is often imitable.
Function may be costly to replicate if it relies on:
Historical uniqueness
Causal ambiguity
Social complexity
Resource limitations
High capital costs
Acquisition and Internal Development: Paths to vertical integration.
Strategic Alliances: Offer alternatives to ownership without commitments and costs.
Functional Structure (U-Form):
Includes departments such as Accounting, Finance, Marketing, HR, Engineering.
CEO plays a crucial role in controlling operations and fostering cooperation among functions and businesses.
Essential controls include:
Cooperation and competition management amongst functions.
Integration of new businesses into existing operations.
Monitoring managerial efforts towards achieving value chain economies.
Separated into strategic and operational budgets for clarity and effectiveness.
Strategic Budgets: Focus on long-term inputs & outputs.
Operational Budgets: Oversee short-term outputs.
Board Committees: Provide oversight, ensuring alignment with strategic direction.
Different compensation structures incentivize cooperation:
Salary and cash bonuses influenced by individual or group performance.
Stock options for individual and group performance.
Core Insight: Vertical integration is viable when it can create and capture value chain economies.
Facilitates leveraging capabilities and mitigating opportunism and uncertainty.
It’s not inherently rare or costly to imitate; careful evaluation is critical.
Vertical integration is vital in international expansion discussions.
It must be predicated on appropriate justifications and circumstances to avoid costly errors.
Ownership carries costs; thus, integration should only occur if benefits outweigh those costs.