Corporate-Level Strategy

Corporate-Level Strategy
Focuses on building value by
managing operations in multiple
businesses
Addresses two issues:
What businesses should a corporation
participate in
How can these businesses be managed
so they create synergy
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Topics to Discuss
Diversification
Related vs. Unrelated

Synergies
Types
How to achieve
Issues to consider

Mergers, acquisitions, and other

means of achieving diversification
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Diversification
Diversification is the expansion of
operations by entering new
businesses or product lines

Two Types of Diversification

Related
Diversifying into similar, or adjacent,
activities
Often seen when a company diversifies
into a part of the value chain

Unrelated
Diversifying into activity that is unrelated
to existing business(es)

Synergy
The rationale for diversification is to achieve
synergies
Otherwise, why diversify?
If you get $5 of value out of something that you pay $5 for, you
havent created value
Diversification can (potentially) lead to value creation

Synergies are the result of diversification

We will define synergy as the measurable benefit of
diversification
Measurable means that you can quantify the benefit in
dollars
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Two Generic Types of Synergies

Cost savings
Most common synergy
Easiest to estimate
Examples: elimination of duplicate jobs,
facilities, etc.

Revenue enhancements

Impact of Diversification on
Synergies
The nature of synergies is affected
by the type of diversification
We will explore synergies in more
detail under:
Related diversification
Unrelated diversification

Related Diversification

Related Diversification Synergies

Related diversification can create two sources of
synergy:
1. Sharing resources across businesses
Results primarily in cost reduction synergies

2. Enhanced market power due to greater scale /power

Can result in cost reductions
e.g. improved ability to bargain with suppliers, which reduces
costs

Or, can result in enhanced revenue

e.g. improved pricing power with customers

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Cost Savings from Sharing of

Resources some Definitions
Economies of scale: reduced unit costs
that result by spreading (sharing) a
resource across an increased quantity of
existing products
Economies of scope: reduced unit costs
that result by spreading (sharing) a
resource across a wider variety or greater
number of products
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Examples of Sharing of Resources

Shared order-processing systems (e.g.
Amazon)
Books, electronic goods, home goods, etc.

3M competencies in adhesives leveraged

across many industries and products
Apple leverages its product design
competency across personal computers,
mobile devices, phones, music /
entertainment
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Increased Market Power

1. Pooled negotiating power
Results from stronger bargaining position (at
parent level) relative to suppliers, customers or
competitors
2. Vertical integration
An expansion of the firm by integrating either
the preceding or successive product processes
Backward integration: incorporate more
processes toward original source of raw
materials
Forward integration: incorporate more
processes toward ultimate consumer
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Vertical Integration

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Benefits of Vertical
Integration
Results in secure supply of raw materials or
distribution channel that can not be held
hostage by market forces
Protection and control over assets and
services required to produce and deliver
valuable products and services
Access to new business opportunities and
new forms of technology
Simplified procurement and administrative
procedures
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Risks of Vertical Integration

Costs and expenses associated with
increased overhead and capital
expenditures
Loss of flexibility resulting from large
investments
Problems associated with unbalanced
capacities along the value chain
Additional administrative costs associated
with managing a more complex set of
activities
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Summary: Related
Diversification
Synergies can take the form of:
Cost savings
Revenue enhancements

Benefits (synergies) of related

diversification can be created by:
Sharing of resources
Increased market power
Through larger size or vertical integration

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Unrelated Diversification

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Unrelated Diversification
Unrelated diversification limits the
opportunity to obtain synergies from
Sharing resources
Enhanced market power

The synergies from unrelated

diversification derive from different
sources
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Unrelated Diversification
Two main sources of synergy
1. Corporate office can contribute to:
Parenting (positive contributions as a result of
support)
Restructuring of acquired businesses

2. Corporate office can manage businesses as

a portfolio
Allocate resources to optimize corporate goals of
profitability, cash flow, and growth
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Restructuring
Asset Restructuring
Sale of unproductive assets (or whole businesses); or
possibly, acquisitions that strengthen core business

Capital Restructuring
Change of debt-equity mix, or mix between different
classes of debt or equity

Management Restructuring
Change in composition of top management team,
organizational structure, reporting relationships
Tight financial controls, rewards based on achievement of
short- or medium-term goals
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Portfolio Management
Three key aspects to portfolio management:
Assess competitive position of each business
Suggest strategic alternatives for each business
Allocate resources across the businesses

Key purpose:
Achieve a balanced portfolio of businesses
That is, businesses whose profitability, growth,
and cash flow complement each other

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BCG Portfolio Matrix

Key
Each circle
represents one of
the firms
business units
Size of circle
represents the
relative size of the
business unit in
terms of revenue

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Limitations of Portfolio Management

Business units compared on only two
dimensions
Business units viewed as stand-alone
entities
Process becomes largely mechanical
Reliance on strict rules regarding
resource allocation across SBUs can
be detrimental
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How Firms Accomplish

Diversification

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Methods of Diversification
Internal development / organic
growth
Strategic alliances (cooperative
relationship)
Joint ventures more formal alliance
created when two firms contribute
equity to a new legal entity
Mergers and acquisitions
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Benefits of Mergers and Acquisitions

Potential synergies
Cost savings
Revenue enhancements

Can acquire critical technology, physical

assets or know-how quickly
Obtain resources needed to help expand it
product offerings and services
Can lead to consolidation within industry and
can force other players to merge
Means to enter new market segments
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Limitations of Mergers and

Acquisitions
The takeover premium paid for an acquisition is typically
very high
Acquiring firm often pays a 30% or higher premium
Premium creates very high performance bar to justify cost

Cultural issues often doom the intended benefits

Departure of key employees
Decline in productivity

Competing firms can often imitate any advantages realized

Managers credibility and ego can get in the way of sound
business judgment
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Mergers and Acquisitions

A key analytic objective in a M&A situation is to identify
synergies
Cost reductions
Revenue enhancements

Once synergies are estimated, the estimates can be used

to help determine a purchase price for the target company
Two main approaches to valuing a business:
Market comparables
Price to earnings multiple (P/E)
Price to EBITDA multiple

Discounted cash flow analysis (DCF)

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Affect of M&A on Employees

Acquisitions or mergers can be a quick and
efficient way to acquire:
Physical assets (factories, natural resources, etc.)
Systems, know-how, intellectual property

But M&A are typically tough on employee

morale
Minority stakes and joint ventures are
sometimes more effective when a key
objective is to retain key managers of the
target company
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Growth for Growths Sake

Senior executives of larger firms:
Earn higher compensation
Enjoy more prestige
Have more job security

There is allure to mergers and acquisitions

High visibility
Exciting
Ego plays a role

Managerial motives can erode value creation

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