Management - Appunti per esame generale

Class 29: Scope advantages: Diversification and vertical integration

1. Diversification

- Diversification: A firm diversifies when it enters a new business (strategic area) in

addition to the original one.

- Types of diversification

- Single business (mono-business): Firms are not diversified or have a dominant

business.

- Dominant business

- Related Business: When the business share clients or technology.

- Unrelated business: When the business do not share clients or technology.

- Multi-business: Firms are diversified, they are called conglomerates when they

combine many unrelated businesses.

- It is smart to diversify in two conditions:

- Economies of scope among multiple businesses.

- Economies of scope exist when the integrate production of products

generates economic advantages that aren't generated when these

products are produced independently in different firms.

- These economies arise because the same resources are shared in the

production of two or more goods.

- Possible shared resources:

- Input

- Production

- Sales and marketing

- R&D

- It must be more efficient to manage these economies of scope though

hierarchical forms of governance, rather than through intermediate or

market governance.

2. Reasons for diversification:

- To reduce risks (portfolio logic)

- To use available cash (search for investment opportunities)

- To enter attractive markets (life cycle of industries)

- To generate strategic know-how (industries where innovation happens)

- To exploit economies of scope

3. Risks of diversification

- Loss of focus:

- Managerial attention is a scarce resource and businesses perceived as minor

could be neglected in a diversified firm.

- Consistency and reputation: Unrelated businesses can put a strain on the image of the

firm. Bad performance of one business could damage the reputation of the others.

- Satisfaction of consumers’ needs: Search for synergies (= interaction or cooperation of

two or more organizations) may imi the ability to satisfy consumers due to excessive

standardization of products.

- Complexity and coordination: It is difficult for managers to coordinate too many

businesses, unless they delegate responsibility. But if businesses are independent, then

most benefits of diversifications are lost.

- Difficult to relocate knowledge, competencies and intangibles: This is because they are

mostly tacit and difficult to replicate.

4. Why do firms diversify

- Economic reasons:

- Economies of scope, financial reasons, diversification of risks for shareholders.

- Managerial reasons:

- Empire-building, higher compensation, risks for managers.

- Behavioral reasons:

- Naive diversification, emotional issues.

- The BCG (growth-share matrix) portfolio matrix compares a diversified company’s

businesses on the basis of two criteria:

- Market (industry) growth (index of industry attractiveness)

- Relative market share (index of relative strength in market)

- BCG matrix:

- Stars​ : High growth and high

relative market share.

- Cash cows (Problem

child)​ : Low growth and high relative market

share. ​

- Question​ marks​ : High

growth and low relative market share.

- Dogs​ : Low growth and low

relative market share.

5. Vertical integration

​ ​ ​

- Level​ of​ vertical​ integration​ : Number of stages in which a company engages.

​

- Value​ chain​ : Set of discrete activities necessary to design, build, sell and distribute a

product/service.

- Some activities may be undertaken within the firm or externally (ie. via

contractors).

- Vertical integration is a direct (ownership) control of (part of) the value chain.

- A vertical integration strategy consists in integrating suppliers’ activities

(upstream ro backward integration) or customers’ activities (downstream or

forward integration).

- Forward: Integration of distribution

- Backward: Integration of input provision

- Balanced; Includes production and distribution

- Hybrid configurations: Apple controls hardware, software and distribution,

even though hardware production is outsourced.

- Some industries have historically been characterized by high degree of vertical

integration (ie. oil industry) -> however in the same industry competitors may vary

considerably in their degree of vertical integration.

Class 30: Cost structure analysis, break-even point.

1. Determinants of operating income

- There are three basic types of factors which determine the results that a firm actually

achieves in a given time frame.

​

- Structural​ factors (structural determinants)​ :

- Production capacity, specialization, experience, modularization, vertical

and horizontal integration, economies of scale, economies of learning,

economies of scope.

- Determines the way a business is structured and how it functions.

- Variations linked to this category are associated with drastic changes to

the assets structure, the technical and organizational structures, human

resources and the economic activities of the firm.

​ ​

- Purchasing​ and selling​ prices​ :

- This is the second class of factors that determines the level of costs and

revenues in a given time period.

- Both prices depend on internal and external factors.

​ ​ ​

- Production​ and​ sales​ volumes​ :

- At a given capacity, with relative fixed and variable costs, the total costs

which the firm has to bear are strictly linked with actual volumes

produced.

- This is limited by the productions capacity of a firm.

- The following graph represents how structural determinants, purchasing

and selling prices and volumes are related.

2. Break-even analysis (BEA)

- BEA illustrates and models the relationship between volumes produced and sold by a

firm, and its operating income.

- Types of costs: ​

- Variable​ costs​ : Strong and direct link with production and sales.

- BEP analysis assumes linearity of total variable costs.

​

- Fixed​ costs​ : No strong and direct link with production and sales value (ie.

overhead costs)

​ ​

- Structural​ fixed​ costs​

: Connected to the production capability.

​ ​

- Development​ fixed​ costs​ : Costs that support current activities and future

development.

- BEP analysis assumes linearity of total fixed costs.

​

- Total​ costs​ : Variable + fixed costs

​

- Operating​ BEP​ : Amount of sales that allows the firm to cover its operating costs.

​

- Quantity​ BEP​ (​ QBEP​ ): FC) / (RU - VCU).

- The production volume for which total revenues are equal to total costs -> R = TC

- R = VC + FC

- Ru*Q = VCu * Q + FC

- Q (Ru - VCu) = FC

- Q = FC / (Ru - VCu)

- CMu = Ru - VCu

- Q = FC / CMu

​ ​

- BEP​ in​ revenues​ : BEP*Ru

- The amount of monetary sles that makes operating income equal to zero.

​ ​ ​ ​

- BEP​ in​ revenue​ %

: FC/CM%

- CM​ : R - VC

- CM %​ : (Ru - VC) / Ru or CMu/Ru

- R = Revenu

- TC = Total costs

- VC = Total variable costs

- FC = Total fixed costs

- Ru = Revenue per unit (Selling price)

- VCu = Variable cost per unit

- CM = Contribution margin

- CMu = Unit contribution margin

3. Operating risk

- Suppose there are exogenous changes in volume.

- A firm with very rigid cost structure (ie. high ratio of fixed costs to total costs) will

react badly to drops in volumes but positively to an increase in volumes.

- A firm with flexible cost structure (ie. low ratio of fixed costs to total costs) can

easily reduce costs, but if volume increase the firm will experience unavoidable

cost increases.

- Operating elasticity can be measured by calculating the relationship between

total variable costs and fixed costs at the BPE.

- The higher the operating elasticity, the lower the risk.

​

- Operating​ elasticity​ : (VCu * BEP) / FC

4. Profit point

- Profit point: Sales volume that covers all costs (operations + financial charges and fiscal

costs) and provides an acceptable income.

- Sales: (FC + Target operating income (TOI)) / CM%

- Revenues: (FC + TOI) / CM%

- Volumes: (FC + TOI) / CMu

Class 32: Strategy implementation. The choice of growth mode.

1. Corporate growth strategies

- Expansion:

- Internal (organic) growth​ :

- New product development

- Increase market share

- Expanding product lines

- Pros:

- Incremental

- Maximum control

- Preserve organizational culture

- Encourages internal entrepreneurship

- Cons:

- Low form of growth

- Need to develop new resources

- Risk of failure

- Investments can be hard to recuperate

​

- External​ growth​ :

- Merger and acquisitions

- Strategic alliances

- Equity base

- Non equity base

- Pros:

- Reducing competition

- Quick access to new products and markets

- Access to technical expertise and economies of scale

- Access to an established brand name

- Diversification of business risk

- Cons:

- Incompatibility of top management

- Clash of corporate cultures

- Operational problems

- Increased business complexity

- Loss of flexibility

- Antitrust implications

2. Contractual forms

- Mergers and acquisition

- Merger: The combination of two previously separate organizations, typically as

more or less equal partners.

- Acquisition: Involves one firm taking over the ownership of the other. (aka

takeover).

- Reasons:

- Strategic:

- Extension of scope, geography, markets

- Consolidation of scale, efficiency, power

- Capabilities

- Financial:

- Financial efficiency

- Tax

- Asset unbundling

- Managerial:

- Personal ambition

- Bandwagon effect

- Strategic alliances: An agreement between two or more players to share resources or

knowledge to be beneficial to all parties involved.

- Equity alliances: creation of a new entity that is owned separately by the partners

involved.

- Joint venture: Two organizations remain independent but set up a new

organization jointly owned by the partners.

- Equity based.

- Access to resources that can’t be acquired through market

transactions and the firm can’t/ doesn't want to expand internally

in the short term.

- Joint venture agreement: Defines the scope, the roles, the rights

and obligations of the parties.

- Consortium: Several partners setting up a venture together.

- Non-equity alliances: Looser than equity based alliances, no commitment implied

by ownership. Range from close working relations with suppliers, outsourcing of

activities or licensing of technology, to enlarge R&D consortia, industry clusters

and innovation networks.

- Firms joint through formal agreements (non-equity) and eventually will set

up a new organizatio