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Chapter 6 –Corporate-Level Strategy

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Two Strategy LevelsBusiness-level strategy (competitive)

Each business unit in a diversified firm chooses a business-level strategy as its means of competing in individual product markets

Corporate-level strategy (company-wide)

Specifies actions taken by the firm to gain a competitive advantage by selecting and managing a group of different businesses competing in several industries and product markets

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Corporate-Level Strategy: Key QuestionsCorporate-level strategy’s value

The degree to which the businesses in the portfolio are worth more under the management of the company than they would be under other ownership

What businesses should the firm be in?

How should the corporate office manage the group of businesses?

Business Units

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Example – Conglomerate DiscountGE overall: 70% increase in profits since 2001, but $20bn decrease in market value

General Electric’s planned sale of its plastics business to Saudi Basic Industries is double-edged sword:

Unit sold at $11.6bn, in contrast to investors’ valuation of $8bn

Sale unlocked 45% more value for shareholders

Many of GE’s assets may have more value than GE’s share price suggests

Source: Cox, R. & Cass, D. (2007). “Placing value on GE’s parts”, The Wall Street Journal, Tuesday, May 22: C14.

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Portfolio Matrix

?Market Share

High Low

Mar

ket

Gro

wth

Hig

hL

ow

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Levels and Types of Diversification

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To Enhance Strategic Competitiveness:

1. Economies of scope (related diversification) Sharing activities Transferring core competencies

2. Market power (related diversification) Blocking competitors by multipoint competition Vertical integration

3. Financial economies (unrelated diversification) Efficient internal capital allocation Business restructuring

Motives for Diversification

Rela

ted

Un

rela

ted

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Economies of Scope (EoS)Firm creates value by building upon or extending its:

Resources

Capabilities

Core competencies

Definition:

Cost savings that occur when a firm makes use of capabilities and competencies developed in one of its businesses in another of its businesses

Value is created from economies of scope through:

Operational relatedness in sharing activities

Corporate relatedness in transferring skills or corporate core competencies among units

Rela

ted

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Market PowerMarket power exists when a firm can:

Sell its products above the existing competitive level and/or

Reduce the costs below the competitive level

Multipoint Competition

Two or more diversified firms simultaneously compete in the same product or geographic markets

Vertical Integration

Backward integration – firm produces its own inputs

Forward integration – firm operates its own distribution system for delivering its outputs

Rela

ted

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Financial EconomiesCost savings realized through improved allocations of financial resources

Based on investments inside or outside the firm

Create value through two types of financial economies: Efficient internal capital allocation Purchasing other corporations and restructuring

their assets

Un

rela

ted

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ExamplesIntuitively, which of the following strategies make

sense? Why (please explain)?

1. Apple introduces an I-Pod player with a larger memory.

2. PepsiCo distributes Lay’s Potato Chips to the same stores where it sells Pepsi Cola.

3. General Electric borrows money from Bank of America at 3 percent interest rate and then makes capital available to its jet engine subsidiary at 8 percent interest.

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Motives for DiversificationIncentives and Resources with Neutral Effects:

Antitrust regulation / Tax Law

• Antitrust laws in 1960s and 1970s discouraged mergers that created increased market power

• Tax rate on dividend vs. capital gain

Low performance

• Firms plagued by poor performance often take higher risks (diversification is risky)

Uncertain future cash flows

• Diversification may be defensive strategy if, Product line matures or is threatened

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Motives for DiversificationManagerial Motives (Value Reduction)

Diversifying managerial employment risk

Increasing managerial compensation