S4: Corporate Strategy Flashcards
(36 cards)
What is parenting advantage?
value created when the parent company improves a business more than any alternative owner could.
What is the type of diversification used by conglomerates in emerging markets?
they pursue unrelated diversification but manage it through shared administrative systems and resource orchestration.
What are the three questions of each dimension of corporate strategy?
- Horizontal diversification: what range of products and services should the company offer?
- Vertical integration: in what stages of the industry value chain should the company participate
- Internalization: Where should the company compete geographically in terms of regional, national or global markets.
What is the diversification discount?
Conglomerates engaging in multiple activities are assigned lower value by the market than focused companies sticking with their core.
What are the causes of the diversification discount?
- Focused companies are believed to have a better understanding of their markets and allocate resources more efficiently
- Complex structures of diversified companies may be seen as increasing risk and uncertainty associated with company’s operations
- It is harder to assess performance and growth potential of individual business units within a conglomerate, which makes valuation harder
- Investors question capital allocation efficiency and believe better returns can be achieved by focusing all resources in most promising or high-growth segments.
What is related diversification?
growth strategy in which companies expand business operations into new products related or synergistic to existing business. These new products share similarities, allowing firms to capitalize its existing strengths.
What is meant with the cynical twist in parenting advantages?
Core benefits more than the segments when both share suppliers and customers
Core benefits more than the segments when it provides outputs to segments.
Parenting often benefits parent more than the offspring, though it still tends to leave a net-positive result at corporate level.
What is horizontal diversification?
increasing the range of products offered by a company.
What are the two types of diversification?
- Related diversification: diversifying into products or services with relationships to a company’s existing business
- Unrelated diversification (conglomerate): diversifying into products or services with no relationship to company’s existing businesses.
What are the three characteristics of the diversification-performance relationship?
- High and low levels of diversification are generally associated with lower performance
- Companies competing in single markets could potentially benefit from economies of scope by leveraging core competencies into adjacent markets
- Unrelated diversification often doesn’t create additional value and causes a diversification discount
Name 5 motives for diversification?
- Economies of scale
- Growth
- Risk reduction
- Strategic control
- Parenting advantage
What are economies of scope?
cost savings and efficiencies achieved by producing and providing multiple products or services together. Arise when joint production or provision of multiple products or services allow for shared resources, capabilities, or processes that result in cost advantages.
What are the underlying arguments for growth as motive for diversification?
- Without growth, companies are prisoners of their industry
- Companies in low growth, cash flow rich industries are susceptible to diversification
What are the underlying arguments for risk reduction as a motive for diversification?
- Bringing different businesses with imperfectly correlated cash flows together under common ownership reduces variance of combined cash flows
- Companies can reduce exposure to financial risks associated with a single investment or market by diversifying investments or business operations
What are the two underlying arguments for strategic contral as a motive for diversification?
- Companies can cut out the middleman by moving into businesses offering valuable inputs for diversified companies’ other businesses, preventing markups and control issues like holdup by third parties
- Especially backward integration ODIs (Outward direct investments) help organizations acquire capabilities and asset positions faster, and enter new, related markets more readily.
What are the underlying arguments for parenting advantages as a motive for diversification?
- Diversified companies can facilitate the transfer of managers, knowledge, best practices, and expertise between different business units
- Established parent companies can lend credibility and reputation to their subsidiaries, helping them gain market acceptance and trust more easily
- Parent companies can assess and adjust their portfolio of businesses over time. They can divest underperforming or non-core businesses and invest in new opportunities that align with their strategic goals.
How do parenting advantages come to exist?
Parenting advantages are derived from the resources and general management skills of the parent company.
What institutional voids do diversified business groups fill?
- Illiquid capital markets
- Shallow managerial labor markets
- Weak corporate governance standards
- Dysfunctional courts and limited arbitrage opportunities
What is a type 1 agency problem?
small shareholders fear lazy, incompetent or over-ambitious managers
What are the effects of weak corporate governance?
- White collar worker wages rise
- Destruction of old plants falls
- Creation of new plants falls
- Overall profitability and productivity decline
Diversification makes managerial monitoring more difficult due to complexity and opacity of corporate structures. Managers will choose the ‘quiet life’
What is type 2 agency problem?
small shareholders fear large, controlling owners who can pursue their own interests at the expense of more dispersed owners.
Name the different causes of type 2 agency problems?
- Divergent goals between classes of shareholders
- Information asymmetry and varying board room access
- Distinction between control and cashflow rights
- Opacity and complexity due to diversification
- Infrastructure for tunneling in place due to diversification
- Reluctant courts and weak rule of law
What is tunneling?
transfer of assets and profits out of firms for benefit of controlling shareholders, often at expense of minority shareholders.
Name three ways in which tunneling can be done?
- Manipulating transfer pricing between group companies
- Paying excessive compensation or dividends to insiders
- Diluting minority ownership through unfair share issuances
