The concept of diversification:

Generally diversification means expansion of business either through operating

in multiple industries simultaneously (product diversification) or entering into
multiple geographic markets (geographic market diversification) or starting a
new business in the same industry.
At the business unit level , diversification occurs when a business unit expands
into a new segment of the present industry in which the company is already
doing business.
LEVELS OF DIVERSIFICATION:

A. Low Levels of Diversification:

This level of diversification seen in accompany that operates its activities mainly on a
single dominant business .The company is in single business if its revenue is greater
then 95 percent of the total sales.

B. Moderate to High Levels of Diversification:

In this level two types of diversification is evident related constraint and related linked .
In the case of related constraint diversification less than 70 percent of revenue comes
from the dominant business and all SBU share product.
C. Very High Level of Diversification:
This level is applicable to companies that have unrelated
diversification. It earns less than 70 percent of its revenue from the
dominate business but there are no common link between the SBU.

When to diversify business : Diversification aims to buildings

shareholder value. This becomes possible when a diversified group of
businesses can perform well under the auspices of a single corporate
parent.
However diversification does not always yield beneficial result .It works well –
1. When a company runs out of profitable growth opportunities in its original
or core businesses.
2. when a company possesses technological expertise and resources that are
well suited for completing in different industries.
3. When a company wishes to establish a strong institutional image and that
wish a supported by adequate manpower physical and financial capabilities.
4. When accompany has opportunities to add value for its customer.
Diversification Approaches:
A company needs to choose a path to diversify its business .It may choose either
related diversification approach or unrelated diversification approach or a
combination of both , depending on circumstances .
The principal difference between the two is that related diversification emphasis
some commonality in market, product and technology where unrelated
diversification is based mainly on profit consideration.
 Related Diversification Approach
Related diversification involves diversifying a business activity
which is related to core business of the company.

For example: The core business Akiz Group “Bidi’’ manufacturing. When
Akiz decided to produce Cigarettes, it was a related diversification.
 Justification related diversification:
1. It has the potential of cross business synergies. Value chain
relationship between the core and new businesses produce the
synergies.
2. It has strategic appeal
3. It is possible to create economics of scale through diversifying
businesses into related areas.
4. It provides a sharper focus for managing diversification because of
concentration in similar business.
5. It can result in greater consolidated performance then single
business strategy.
6. It can create value by resource sharing between various businesses.
7. It provides fewer risk.
 Situations Favorable for Related Diversification :
i. The core competencies of the company are applicable to a variety of
business situations .
ii. The management of the company is capable enough to manage the
affairs of several businesses simultaneously.
iii. Trade unions do not create resistance to cross business transfer of
manpower & others resources.
iv. Bureaucratic costs of implementation do not outweigh the benefits
derived from resource sharing between businesses.
Unrelated Diversification Approach:-

Unrelated diversification is also known as “conglomerate diversification’’ or

‘lateral diversification’. An unrelated diversified company is known as a
conglomerate.

An unrelated diversified company has more than one businesses which are
operating their activities in different industries.

As Hill and Jones defined, “unrelated diversification is diversification into a

new business area that has no obvious connection with any of the
company’s existing areas.”
Related and unrelated Diversification : How Are They Different ?

● Some different between related and unrelated diversification

approaches are obvious:
Related Diversification Unrelated diversification
1.Related Diversification involves 1.An unrelated diversification company
diversifying into a business activity has more than one businesses which
which is related to the core business of are operating their activities in different
the company. industries.

2. Resource-sharing and skill-transfer 2. The main focus of unrelated

between different businesses are the diversification approach is to create
focus of related diversification approach. shareholder value through acquiring
totally new market segments.
3. Create value in more ways. 3. Create value is less ways.

4. Involves fewer risk. 4. Involves higher risk.

5. Lesser bureaucratic costs. 5. Bureaucratic costs are much

less than the related ones.
 When a company should adopt unrelated diversification:

Some of the favorable situations for unrelated diversification are as

follows:-
1. When the core functional skill of the company can hardly be used in the businesses other than the
original business.
2. When the higher-level managers are skilled enough to acquire weak business and establish backward
or forward linkages.
3. When a company seen that entering into a different industry offers a good profit opportunity.
4. When the prospective business in an industry other than the industry
of core business has a significant growth potential.

5. When the company is least interested in exploiting strategic fit

relationship.
ADVANTAGES OF UNRELATED DIVERSIFICATION :

1. SPREADING OF RISKS OVER DIFFERENT INDUSTRIES:

UNRELATED DIVERSIFICATION INVOLVES ENTERING INTO NEW INDUSTRIES. THUS IT IS

POSSIBLE TO SPREAD THE BUSINESS RISK OVER DIFFERENT INDUSTRIES.

2.PROFIT PROSPECTS IN OTHER INDUSTRIES:

UNRELATED DIVERSIFICATION PROVIDES AN OPPORTUNITY TO ENTER INTO ANY

BUSINESS IN ANY INDUSTRY WHICH HAS PROFIT PROSPECTS.

3.OPPORTUNITIES TO OFFSET LOSSES:

BECAUSE OF INVESTMENT IN DIVERSE AREAS OF BUSINESS ACTIVITIES , THERE

IS A POSSIBILITY OF OFFSETTING LOSSES IN ONE BUSINESS WITH THE GAINS IN
ANOTHER BUSINESS IN ANOTHER INDUSTRY.
4.Increase in shareholder value:

Skilled corporate managers can increase shareholder value by taking over highly prospective
business in different industries.

5.Quick financial gain:

There are opportunities for quick financial gain if the parent company resorts to diversification
through acquisition of business having under valued assets which have good profit potential.

6.Greater earning stability:

Unrelated diversification offers greater earning stability over the business cycle. However stability in
earning depends on mangers ability to avoid the disadvantages of unrelated diversification .
Disadvantages of Unrelated Diversification:

1.Unreliablity in building shareholder value:

Management experts are of the view that unrelated diversification is an unreliable approach to
building shareholder value unless corporate manage are exceptionally talented,

2.Business-jungle and managerial difficulties:

When a conglomerate has a large number of diverse businesses corporate mangers may find if
difficult to manage effectively the jungle of businesses

3.Dangers in screening businesses through acquisitions:

Unrelated diversification through acquisition of other firms requires a sound screening from among
available firms.
4.Risk of unknown:
A new business acquired by the diversifier company is an unknown entity to the corporate mangers.
This may pose a risk to them. Any mistake in assessing industry attractiveness or predicting unusual
problems may prove fatal.
5. Insignificant contribution in building competitive strength:
Experience show that a strategy of unrelated diversification cannot always create competitive
strength in the individual business units.
Diversification Strategies:
A single business company may diversity its business in many ways. These called diversification
strategies. When a company wants to diversity its business it may follow any or all of the following
strategies :
1. New Venture Strategy
2. Acquisition Strategy
3. Joint Venture strategy
 Diversification of
Strategies
A single –business company may diversity its
business in many ways. These are called
diversification strategies.
1.New venture Strategy
2.Acquisition Strategy
3.Joint venture Strategy
New Venture Strategies
• New venture strategy is also known as “internal start-up". A new
venture strategy encompasses diversifying into a new business
through forming a new business-unit. The newly created –business
unit operates its businesses under the corporate umbrella. Creating a
new company warrants various activities on the part of the
management of the company. These includes investment in new
production facilities, scouting of suppliers establishing links with the
intermediacies in the distribution channel, developing a customer
base, selecting and training employees for the new business also so
forth .Everything a company is done new.
 Acquisition Strategy
In many cases ,it is very difficult to adopt a new venture strategy for
diversification of business. Because it takes long years to develop knowledge
recourses, scale of operation and market reputation. To avoid the difficulties of
implementing new venture strategy, some companies diversify it business via
acquisition of an existing firm.

A B
Figure 12.2: Company A acquires Company B
 Joint Venture Strategy
Joint venture acquisition involves creation of a new firm(or new venture )jointly by two
more companies. The companies that join together to form a joint venture are called
partner-companies (or supply partners ) that is venture is owned by the partners.

A
B
C
Figure 12.13 Company A and B establishes Company C. Here company C is the joint venture of A and B.
Liquidation strategy
Liquidation strategy is the strategy of writing off a business units investment. The business
is typically sold in part or as a whole . This strategy is usually adopted when it becomes
difficult to find a buyer for a losing unit. Generally the business unit that are weak follow
liquidation strategy. It is not possible liquidation strategy is the last resort , since liquidation
strategy is indirectly the indication of managements admittance of failure, it is the least
preferred strategy. However planned liquidation minimizes losses to all stakeholders in the
long run.
Retrenchment strategy
There are many reasons that may cause decline in sales and profits of a company . In a
profit declining company , the strategy managers may consider retrenchment strategy to
recover the situation.

Turnaround strategy
The principal purpose of the retrenchment strategy and around strategy is similar
recovering a weak business unit. Both are designed to fortify the basic distinctive
competence of the company.
Turnaround strategy may include the following actions :

. Selling or closing down a losing unit having a poor prospect.

. Changing the present strategy and adopting a different business level strategy.
. Creating a new venture to earn greater return.

Restructuring strategy :
Restructuring strategy involves divestment of one or more business unit of a diversified
company and acquiring news business units.
Multinational Diversification Strategy
A company may follow a strategy of diversifying its
business into foreign markets. When a company
faces hard times in the domestic market or finds
a high prospect in foreign markets, it may
undertake a multinational diversification
strategy.
 Multinational diversification offers several
ways to build competitive advantages

1.Full capture of economies of scale.

2.Opportunities to capitalize on cross-business economies of
scope.
3.Opportunities to transfer competitively valuable resources from
one business to another.
4.Ability to leverage use of a well-known and competitively
powerful brand name.
5.Opportunities to use cross-business or cross-country.
 Strategic analysis and Strategy choice at the Corporate
Level
In a diversified company, all the business-units constitute its
business portfolio. Each business-unit or SBU is treated as a
stand-alone profit center. Business portfolio approach is
commonly followed in a diversified company for corporate
strategic analysis.
 BCG Matrix
Also known as ‘Growth/Share Matrix, BCG Matrix was developed
by Boston Consulting Group a world-renowned management
consulting firm located in the USA.
BCG Matrix is mostly used by companies as a portfolio planning
tool.
 Matrix has four steps
1.Dividing the business-organization into several (at least two)
SBUs.
2.Determining the prospects of each SBU of the organization.
3.Comparing each SBU against other SBUs with the help of a
matrix (two-dimensional).
4.Setting strategic objectives for each SBU.
 How to Use BCG Matrix in Practice

To use this matrix,the SBUs of the company are plotted on a

two-dimentional chart.One dimention of the chart (vertical
dimention or Y-axis) represent future market growth
(growth rate of SBUs industry)and other dimention
(horizontal dimention or X-axis) represent an SBUs relative
market share.
 Quadrant 1 Quadrant 2

STAR QUESTION MARK

Quadrant 3 Quadrant 4

CASH COW DOG

Figure:BCG Matrix
STAR: An SBU with high market growth and high relative market share is
considered as a star business unit .It is a profitable business. It has
attractive long-term profit opportunities.

QUESTION MARK: An SBU is considered as question mark when it has

high market growth and low market share .It is relatively weak in
competitive terms .A question mark business unit is risky due to inherent
uncertainty in high growth market and weak market share position.

CASH COW: An SBU is considered as a cash cow when it has low market
growth and high market share. It is highly profitable firm and generates
substantial amount of cash. Since this SBU has a lack of opportunity for
future expansion,more cash should not be injected.
DOG: An SBU with low market growth and low market share is treated
as dog. It has a weak competitive position in alow-growth industry. It
cannot generate cash and also it has a dim prospect. The corporate
head office has to decide about in future.

BCG recommends several thing:

1.The stars should be nurtured with the surplus cash flows from the
cash cows. The long-term objective should be to consolidate the star
SBUs position.

2.The question mark should be provided support from the surplus of

the cash cows .However , if a question mark SBUs long-term prospect
is uncertain ,it should be divested.
3. In order to make a diversified company business portfolio more
attractive , the corporate head office should have an objective of
turning the favored question mark SBU s into stars.

4. The company should seriously think about gettiin rid of dpg SBUs.

5. The corporate management should consider making the company

an organization of a balanced portfolio with enough number of
stars ,question marks and cash cows.
Limitation of BCG Matrix:
BCG Matrix has certain flaws , because of these flaws ,it should be used
cautiously.

1. BCG matrix is criticized as a very simplistic model. An ABU is affected not

only by market share and growth rate . Many other relevant factors such
product differentiation ,niche market possibility , etc. affect the business
operations of the SBU. BCG matrix does not take into account all these
factors.
2. BCG matrix suggests a straight-forward linkage between relative market
share and cost savings. In reality ,cost advantage may not accrue to an SBU
simply due to high market share.
3. Cash cow SBUs are supposed to generate substantial cash flows because
of their high market share. It may not always be true.
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