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CORPORATE-LEVEL STRATEGY
This chapter discussing about corporate level strategies, which are strategies firms use
to diversify their operations from a single business competing in a single market into several
product markets and, most commonly, into several businesses. Thus, a corporate-level
strategy specifies actions a firm takes to gain a competitive advantage by selecting and
managing a group of different businesses competing in different product markets. Corporatelevel strategies help companies select new strategic positionspositions that are expected to
increase the firms value. Thus, an effective corporate-level strategy creates, aggregate
returns that exceed what those returns would be without the strategy and contributes to the
firms strategic competitiveness and its ability to earn above-average returns. Product
diversification, a primary form of corporate-level strategies, concerns the scope of the
markets and industries in which the firm competes as well as how managers buy, create and
sell different businesses to match skills and strengths with opportunities presented to the
firm. Successful diversification is expected to reduce variability in the firms profitability as
earnings are generated from different businesses.
LEVELS OF DIVERSIFICATION
Diversified firms vary according to their level of diversification and the connections
between and among their businesses. The more links among businesses, the more
constrained is the relatedness of diversification. The figure below describes example, lists
and defines five categories of businesses according to increasing levels of diversification.

Wm. Wrigley Jr. Company

United Parcel Service (UPS)

Campbell Soup, Procter & Gamble,

and Merck & Company

General Electric (GE)

United Technologies, Textron, Samsung,

and Hutchison Whampoa Limited (HWL)

REASONS FOR DIVERSIFICATION

A firm uses a corporate-level diversification strategy for a variety of reasons, we can
see it in the table below.

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29113323 / YP 50 B
Typically, a diversification strategy is used to increase the firms value by improving its
overall performance. Value is created either through related diversification or through
unrelated diversification when the strategy allows a companys businesses to increase
revenues or reduce costs while implementing their business-level strategies.

Value-neutral reasons for diversification include a desire to match and thereby

neutralize a competitors market power (such as to neutralize another firms advantage
by acquiring a similar distribution outlet).

Decisions to expand a firms portfolio of businesses to reduce managerial risk can have
a negative effect on the firms value. Greater amounts of diversification reduce
managerial risk in that if one of the businesses in a diversified firm fails, the top
executive of that business does not risk total failure by the corporation. As such, this
reduces the top executives employment risk. In addition, because diversification can
increase a firms size and thus managerial compensation, managers have motives to
diversify a firm to a level that reduces its value

Operational relatedness and corporate relatedness are two ways diversification

strategies can create value, see figure below. The figures vertical dimension depicts
opportunities to share operational activities between businesses (operational relatedness)
while the horizontal dimension suggests opportunities for transferring corporate-level core
competencies (corporate relatedness). The firm with
a strong capability in managing operational synergy,
especially in sharing assets between its businesses,
falls in the upper left quadrant, which also represents
vertical sharing of assets through vertical
integration. The lower right quadrant represents a
highly developed corporate capability for
transferring one or more core competencies across
businesses. This capability is located primarily in
the corporate headquarters office. Unrelated
diversification is in the lower left quadrant.

Value-Creating Diversification
With the related diversification corporate-level strategy, the firm builds upon or
extends its resources and capabilities to create value.
Related Constrained And Related Linked Diversification
Firms seek to create value from economies of scope through two basic kinds of
operational economies: sharing activities (operational relatedness) and transferring
corporate-level core competencies (corporate relatedness). The difference is based on
how separate resources are jointly used to create economies of scope.

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29113323 / YP 50 B

Firms can create operational relatedness by sharing either a primary activity (such as inventory delivery
systems) or a support activity (such as purchasing practices).
Pursuing operational relatedness is not easy, and often synergies are not realized as planned. Activity
sharing is also risky because ties among a firms businesses create links between outcomes.
Gaining economies of scope by sharing activities across a firms businesses may be important in reducing
risk and in creating value.

Operational
Relatedness: Sharing
Activities

more attractive results are obtained through activity sharing when a strong corporate headquarters
office facilitates it.

The firms intangible resources, such as its know-how, become the foundation of core competencies.
Corporate-level core competencies are complex sets of resources and capabilities that link different
businesses, primarily through managerial and technological knowledge, experience, and expertise.
Two ways, the related linked diversification strategy helps firms to create value:

Corporate
Relatedness:
Transferring of Core
Competencies

- First, because the expense of developing a core competence has already been incurred in one of the
firms businesses, transferring this competence to a second business eliminates the need for that
business to allocate resources to develop it.
- Resource intangibility is a second source of value creation through corporate relatedness. Intangible
resources are difficult for competitors to understand and imitate.
The unit receiving a transferred corporate-level competence often gains an immediate competitive
advantage over its rivals.
One way managers facilitate the transfer of corporate-level core competencies is by moving key people
into new management positions.

Market Power
Firms using a related diversification strategy may gain market power when
successfully using their related constrained or related linked strategy.
Market power exists when a firm is able to sell its products above the existing competitive
level or to reduce the costs of its primary and support activities below the competitive
level, or both. Firms can create market power through multipoint competition and vertical
integration.
Multipoint competition exists when two or more diversified firms simultaneously compete
in the same product areas or geographic markets. Some firms using a related
diversification strategy engage in vertical integration to gain market power.
Vertical integration exists when a company produces its own inputs (backward
integration) or owns its own source of output distribution (forward integration).
Market power is gained as the firm develops the ability to save on its operations,
avoid market costs, improve product quality, and, possibly, protect its technology from
imitation by rivals, also created when firms have strong ties between their assets for which no
market prices exist.
Simultaneous Operational Relatedness and Corporate Relatedness
The ability to simultaneously create economies of scope by sharing activities
(operational relatedness) and transferring core competencies (corporate relatedness) is
difficult for competitors to understand and learn how to imitate. If the cost of realizing
both types of relatedness is not offset by the benefits created, the result is diseconomies
because the cost of organization and incentive structure is very expensive.
Unrelated Diversification
An unrelated diversification strategy can create value through two types of
financial economies. Financial economies are cost savings realized through improved
allocations of financial resources based on investments inside or outside the firm.

Efficiency results as investors take equity

positions (ownership) with high expected future
cashflow values. Capital is also allocated through
debt as shareholders and debtholders try to
improve the value of their investments by taking
stakes in businesses with high growth and
profitability prospects. The corporate
headquarters office distributes capital to its
businesses to create value for the overall
corporation and may generate gains from
internal capital market allocations that exceed
the gains that would accrue to shareholders as a
result of capital being allocated by the external
capital market.

Restructuring of
Assets

Efficient Internal
Capital Market
Allocation

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29113323 / YP 50 B
Financial economies can also be created when
firms learn how to create value by buying,
restructuring, and then selling the restructured
companies assets in the external market. As the
ensuing Strategic Focus on unrelated diversified
companies that pursue this strategy suggests,
creating financial economies by acquiring and
restructuring other companies assets involves
significant trade-offs.As the Strategic Focus
Segment also indicates, care must be taken in a
downturn to restructure and buy and sell at
appropriate times.

Value-Neutral Diversification: Incentives And Resources

Next we discussing about the different incentives to diversify sometimes exist, and
the quality of the firms resources may permit only diversification that is value neutral rather
than value creating.
Incentives to Diversify
Incentives to diversify come from both the external environment and a firms
internal environment. External incentives include antitrust regulations and tax laws.
Internal incentives include low performance, uncertain future cash flows, and the pursuit
of synergy and reduction of risk for the firm.
Antitrust
Regulation
and Tax Laws

Regulatory changes can create incentives or

disincentives for diversification. Such as U.S. in the
1960s and 1970s, antitrust laws prohibiting mergers
that created increased market power.

Uncertain
Future Cash
Flows

Small firms and companies in mature or maturing

industries sometimes find it necessary to diversify
for long-term survival. Diversifying into other
product markets or into other businesses can
reduce the uncertainty about a firms future cash
flows.

Low
Performance

Some research shows that low returns are related to greater levels of diversification. If high performance
eliminates the need for greater diversification, then low performances may provide an incentive for
diversification. Research evidence and the experience of a number of firms suggest that an overall curvilinear
relationship, as illustrated in figure above, may exist between diversification and performance. Although low
performance can be an incentive to diversify, firms that are more broadly diversified compared to their
competitors may have overall lower performance.

Synergy and
Firm Risk
Reduction

Synergy exists when the value created by business units working together exceeds the value that those same
units create working independently. But as a firm increases its relatedness between business units, it also
increases its risk of corporate failure, because synergy produces joint interdependence between businesses
that constrains the firms flexibility to respond. This threat may force two basic decisions. First, the firm may
reduce its level of technological change by operating in environments that are more certain. Alternatively,
the firm may constrain its level of activity sharing and forgo synergys potential benefits.

Resources and Diversification

Even when incentives to diversify exist, a firm must have the types and levels of
resources and capabilities needed to successfully use a corporate-level diversification
strategy. Although both tangible and intangible resources facilitate diversification, they
vary in their ability to create value. Indeed, the degree to which resources are valuable,
rare, difficult to imitate, and non-substitutable influences a firms ability to create value

Silvia Regina
29113323 / YP 50 B
through diversification. Compared with diversification that is grounded in intangible
resources, diversification based on financial resources only is more visible to competitors
and thus more imitable and less likely to create value on a long-term basis. Tangible
resources may create resource interrelationships in production, marketing, procurement,
and technology, defined earlier as activity sharing. Intangible resources are more flexible
than tangible physical assets in facilitating diversification. Although the sharing of
tangible resources may induce diversification, intangible resources such as tacit
knowledge could encourage even more diversification.
Value-Reducing Diversification: Managerial Motives to Diversify
The desire for increased compensation and reduced managerial risk are two motives
for top level executives to diversify their firm beyond value-creating and value-neutral levels.
Diversification provides additional benefits to top-level managers that shareholders do not
enjoy. Because large firms are complex, difficult-to-manage organizations, top-level
managers commonly receive substantial levels of compensation to lead them. Greater levels
of diversification can increase a firms complexity, resulting in still more compensation for
executives to lead an increasingly diversified organization. As shown in figure below, the
level of diversification that can be expected to
have the greatest positive effect on performance is
based partly on how the interaction of resources,
managerial motives, and incentives affects the
adoption of particular diversification strategies. As
indicated earlier, the greater the incentives and the
more flexible the resources, the higher the level of
expected diversification. Financial resources (the
most flexible) should have a stronger relationship
to the extent of diversification than either tangible
or intangible resources. Tangible resources (the
most inflexible) are useful primarily for related
diversification.