VERTICAL INTEGRATION

Presented by: Ekta Mohta, Pankaj Lalwani Pooja Fatehpuria.

Corporate-Level Strategy
Corporate-Level Strategy should allow a company, or its business units, to perform the value-creation functions at lower cost or in a way that allows for differentiation and premium price.

Corporate strategy is used to identify:

1. 2.

3.

Businesses or industries that the company should compete in. Value creation activities that the company should perform in those businesses. Method to enter or leave businesses or industries in order to maximize its long-run profitability.

Corporate-Level Strategy: The Multi-Business Model

A companys corporate-level strategies should be chosen to promote the success of a companys business model and to allow it to achieve a sustainable competitive advantage at the business level.

Business Model at Two Levels

1.

Business models and strategies for each business unit or division in every industry in which it competes. Higher-level multi-business model that justifies its entry into different businesses and

2.

Repositioning & Redefining

Corporate-level strategies are primarily directed toward improving a companys competitive advantage and profitability in its present business or product line.

Horizontal Integration

The process of acquiring or merging with industry competitors.

Vertical Integration
Expanding operations backward into an industry that produces inputs for the company or forward into an industry that distributes the companys products.

Strategic Outsourcing
Letting some value creation activities within a business be performed by an independent entity.

Vertical Integration Entering New Industries

A

company may expands its operations backward into industries that produces inputs to its products or forward into industries that utilize, distribute or sell it products.

Backward Vertical Integration Company expands its operations into an industry that produces inputs to the companys products.

 Forward

Vertical Integration

Company expands into an industry that uses, distributes, or sells the companys products.

Full Integration Company produces all of a particular input from its own operations. Disposes of all of its completed products through its own outlets.

Taper

Integration In addition to company-owned suppliers, the company will also use other suppliers for inputs or independent outlets in addition to companyowned outlets.

Stages in the Raw Material to Consumer Value Chain

Full & Taper Integration

Copyright Houghton Mifflin Company. All rights reserved.

9 | 16

Increasing Profitability Through Vertical Integration

A company pursues vertical integration to strengthen the business model of its original or core business or to improve its competitive position.

1.

Facilitates investments in efficiencyenhancing specialized assets

Allows company to lower the cost structure or Better differentiate its products

1.

Enhances or protects product quality

To strengthen its differentiation advantage through either forward or backward integration

1.

Results in improved scheduling

Makes it easier and more cost-effective to plan, coordinate, and schedule the transfer of product within the value-added chain Enables a company to respond better to changes in demand

Advantages
Improve

supply chain coordination Provide more opportunities to differentiate by means of increased control over inputs Capture upstream and downstream profits margins Increase entry barriers to potential competitors, example the firm can gain sole access to scarce resources. Gain access to downstream distribution channels that otherwise would be inaccessible Lead to expansion of core competencies. Reduce transportation costs if common ownership results in closer geographic proximity

Disadvantages
Capacity

balancing issues. Example the firm may need to build excess upstream capacity to ensure that its downstream operations have sufficient supply under all demand conditions Potentially higher cost due to low efficiencies resulting from lack of supplier competition Decreased flexibility due to previous upstream or downstream investment. Decreased ability to increase product variety if significant in-house development is required. Developing new core competencies may compromise existing competencies.

Problems with Vertical Integration

Companies may disintegrate or exit industries adjacent to the industry value chain when encountering disadvantages from the vertical integration.

Cost structure is increasing.

Company-owned suppliers develop a higher cost structure than those of the independent suppliers Bureaucratic costs of solving transaction difficulties.

The technology is changing fast.

Vertical integration may lock into old or inefficient technology. Prevent company from changing to a new technology that could strengthen the business model.

Demand is unpredictable. Creates risk in vertical integration investments.

Factors favoring integration

Taxes

and regulations on market transactions. Obstacles to the formulation and monitoring of contracts. Strategic similarity between the vertically related activities. Sufficiently large production quantities so that the firm can benefit from economies of scale. Reluctance of other firms to make investment specific to the transaction.

Vertical integration can weaken business model when:

Company-owned suppliers lack incentive to reduce costs Changing demand or technology reduces ability to be competitive

Alternatives to Vertical Integration: Cooperative Relationships

Strategic Alliances are long-term agreement between two or more companies to jointly develop new products or processes that benefit all companies concerned.

Short-term contracts and competitive bidding

May signal a companys lack of commitment to its supplier

Strategic alliances and long-term contracting

Enables creation of a stable long-term relationship Becomes a substitute for vertical integration Avoids the problems of having to manage a company located in an adjacent industry

Building long-term cooperative relationships

Hostage taking creating a mutual dependency Credible commitments a believable promise
or pledge

Maintaining market discipline power to

discipline supplier

Contd
Long

term explicit contracts Franchise agreements Joint ventures Co-location of facilities Implicit contracts (relying on firms reputation )