Corporate Strategy: Vertical Integration and Horizontal Diversification
Corporate Strategy: Defining Your Competitive Path
To define your corporate strategy, you must address key tasks: selecting industrial sectors, allocating resources to each business unit, and defining generic strategies. This involves managing growth, maintaining competitive positions, restructuring, or executing divestitures.
Growth and Strategic Direction
Growth involves increasing size through assets, products, sales, or markets. Two fundamental decisions are required:
- Direction: Where do you want to go?
- Execution: How will you achieve it?
Vertical Integration
Vertical integration is the process where a company develops activities related to the complete production cycle, becoming its own supplier or customer.
- Dimensions: Direction (backward to suppliers, forward to clients) and extent (total or partial).
- Benefits: Cost reduction (economies of scale, reduced stock, transaction cost removal) and improved competitive position (supply warranty, differentiation, increased market power).
- Risks: Increased investment, higher global risk, reduced profitability, loss of flexibility, and the requirement for diverse skill sets.
Note: Recent trends favor vertical disintegration, allowing companies to focus on their core business by outsourcing non-critical activities.
Horizontal Development (Diversification)
Diversification is driven by global risk reduction, market saturation, and the search for synergies.
Porter's Three Tests for Diversification
- Industry Attractiveness: Is the industry profitable?
- Cost of Entry: Is the investment viable?
- Better-Off Test: Does the new business improve the overall value chain?
Types of Diversification
- Linked Diversification: Entering a business with strategic links to the core, allowing for shared resources and transferred skills. Risks: Coordination costs and inflexibility.
- Unrelated Diversification: Investing in businesses with no relationship to the core activity. Focus: Risk reduction and profit stability. Risks: Management complexity and potential harm to the traditional business.