Relationship between diversification strategy, organization structure and economic performance

Diversification Strategies: 1. Single business 2. Dominant business 3. Related business i. Related constrained: Most competent businesses are related to each other ii. Related linked: Only one to one relationships exist 4. Unrelated business The 3rd one outperforms others (on an average). Related constrained was the best of the lot. The 4th one was the worst performer of the lot. As product diversification increased, returns decreased (on an average) As market diversification increased, returns remained steady (on an average)

Larger firms were better than smaller firms only in intermediate levels of diversification Structure of the industry and the competitive position of the firm determined its performance Strategic position of each business determines its cash flow and the balance of these cash flows determines the overall performance Link between diversity and performance is a function of: F(diversification strategy (Rumlet), profit potential & competitive position of individual businesses, cash flow characteristics(Montgomery)) The above explains less than 20% (Rumlet) or 38% (Montgomery) of variance in the performance The new methodology: Focus more on the outliers (the best and worst performers). The factor: Quality of management The evolution of the top management and its ability to acquire new skills and recognize that the approach to managing a diversified firm was different from that of a single business firm Tools of the top management are administrative in nature. They influence the strategic choices made by the unit-level managers Corporate Management <-> Sector Executives <-> Business Level Management Assumptions in explaining the linkage: 1. Top management is a collection of individuals. Organizational schema is a product of managers interpretations of experiences while operating within certain firms and industries. They allow in making timely decisions 2. Complexity of the top managements tasks = F (strategic variety, no of distinct businesses and size of those businesses)

3. Dominant logic: The way managers conceptualize the business and make critical resource allocation decisions. Greater the strategic variety, greater the need for multiple dominant logics 4. Formation of dominant logic is limited by the experience of the top management Sources of Dominant Logic: 1. Operant conditioning: Behavior that was i. Reinforced, was emitted more frequently in the future ii. Punished/ignored, tended to disappear over time This leads to development of a particular type of mindset and repertoire of tools. These cannot be changed in a short time period. 2. Power of Paradigm: These are represented by a set of shared beliefs or conventional wisdom. They affect how we evaluate the events around us. 3. Pattern recognition: Synonymous to the experience that one has and that one can recollect. This doesnt help when the structure of the industry changes. 4. Cognitive biases: The bias that creeps in when a complex decision is simplified based on the information that is already known to us. By not using analytical approaches or not searching for adequate information, decision makers tend to apply business rules of one type of industry to another, where it might not be applicable. Strategic Variety: How to reduce it: 1. Divesting the business that doesnt fit but, sometimes a profitable business could be lost 2. Creation of sectors: Little variety within a sector, but major variety across sectors. Creation of sector executives. But, the relationship b/w sector and top level can become unclear What causes changes in Strategic Variety? 1. Structural shifts in the industry in which the businesses operate. 2. Changes in the business mix because of a. Acquisition of a new business b. Internal development of a new business Real Diversity arises from the strategic variety, i.e. the variety of the dominant logic needed to run the business and not the no of businesses a firm has. Factors limiting top management: composition of the team, their experience, and attitude towards learning. The strategic variety that a firm can handle depends on the top management team. How to cope with increased strategic variety? 1. Decentralization: Making decisions where the proper expertise is available. But decisions such as plans, strategies, budgets etc. cannot be decentralized. 2. Reduce the strategic variety: Aka the focus strategy. Strive for a particular type of excellence in all businesses. But, this may impose inappropriate logic on certain businesses Top Management has an inbuilt limit in terms of handling variety. This can be attenuated, but not eliminated.

When are new dominant logics added? 1. When there is a crisis 2. And when the existing dominant logic fails to eliminate the problem This causes the crisis to deepen and prompts for the search of a new dominant logic How are new dominant logics added? 1. Changing top management structure to include individuals with more experience 2. Encourage them to learn 3. Rehearsals about possible future scenarios 4. Reward experimenting even if it fails