Session 24 (Diversification Strategies and M&A) Flashcards by Trevor Metz

Why do firms grow?

Increase profit, lower costs, increase market power, reduce risks, motivate management

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What are Mergers and Acquisitions?

Merger: Two firms join to form one (typically friendly)
Acquisition: One firm takes over another (can be hostile)
Hostile Takeover: Target does not want to be acquired

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What happens with most M&As?

They often fail to create a competitive advantage
Success often depends on integration capability

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Five Questions of Strategy

Where should we compete?
How will we get there?
How are we going to win in the market place?
How do we create value for our shareholders?
What is our sequence of moves?

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What is Corporate Strategy?

Corporate strategy is concerned about deciding which businesses to operate in and how to manage that array of businesses as opposed to a business unit or competitive strategy which is primarily concerned with staying ahead or succeeding in that particular business.

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What are the types of diversification?

Product Diversification
- Increase in variety of products / services
- Active in several product markets
Geographic Diversification
- Increase in variety of markets / geographic regions
- Regional, national, or international markets
Product-Market Diversification
- Product and geographic diversification

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Types of Corporate Diversification

Single business
- Low level of diversification
Dominant business
- Additional business activity pursued
Related diversification
1. Constrained: all businesses share competencies
2. Linked: some businesses share competencies
Unrelated diversification (conglomerate)
- No businesses share competencies

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Leverage Core Competencies for Diversification Matrix

See Slide 8 on Session 24 Deck

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Corporate Diversification and Firm Performance (Relationship)

Think of the graph

Single Business -> Dominant Business -> Related Diversification -> Unrelated Diversification
(goes in increasing order of diversification level)

Performance is U-shaped along the diversification level axis
Single Business and Unrelated Diversification have low performance, dominant business has medium performance, and related diversification has the highest performance

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How do firms achieve growth?

Build: internal development
Borrow: enter a contract or strategic alliance
Buy: acquire new resources, capabilities, and competencies

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Why do firms acquire other firms?

To access new markets and distribution channels
- To overcome entry barriers
- To access new capabilities or competencies
To preempt rivals
- Facebook and Google are famous for this (buy startups before they can become competitiors)

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Why doesn’t M&A necessarily create Competitive Advantage?

In most cases M&A does not create competitive advantage and does not realize anticipated synergies
Why mergers take place: principal agent problems, the desire to overcome competitive disadvantage, the want for superior acquisition and integration capability

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Build-Borrow-or-Buy Framework

See Slide 20 on Session 24 Deck

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What are the main issues in the Build-Borrow-or-Buy Framework?

Relevancy - How relevant are the firm’s existing internal resources to solving the resource gap?
Tradability - How tradable are the targeted resources that may be available externally?
Closeness - How close do you need to be to your external resource partner?
Integration - How well can you integrate the targeted firm, should you determine you need to acquire the resource partner?

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Relevance in The Framework

Are the firm’s internal resources highly relevant?
- If so, the firm should develop internally.
Internal resources are relevant if:
- They are similar to those the firm needs.
- They are superior to those of competitors.
- They pass the VRIO Framework.

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What is the VRIO Framework?

Value, Rarity, Imitability, and Organization

Tradability in The Framework

The firm creates a contract to:
- Transfer ownership
- Allow use of the resource
Contracts support borrowing resources
- Ex. Licensing and franchising

Closeness in The Framework

M&As are complex and costly.
- Used only when extreme closeness is needed
Closeness can be achieved through alliances.
- Equity alliances
- Joint ventures
- This enables resource borrowing

Integration in The Framework

Conditions for integrating the target firm:
- Low relevancy
- Low tradability
- High need for closeness
Consider other options first
- Examples of post integration failures abound

What are Strategic Alliances?

A voluntary arrangement between firms
Involves the sharing of:
- Knowledge, resources, capabilities
To develop:
- Processes, products, services

Why are Strategic Alliances attractive?

Firm goals can be achieved faster and at lower costs.
Complement or augment the value chain
Less complex legally
Can help a firm gain and sustain a competitive advantage

Why do firms enter Strategic Alliances?

Strengthen competitive position
- Change industry structure, influence standards
Enter new markets
- Product, service, or geographic markets
Hedge against uncertainty
- Real options perspective
- Breaks down investment into smaller decisions
- Staged sequentially over time
Access critical complementary assets
- Marketing, manufacturing, after-sale service
- Helps complete the value chain
Learn new capabilities
- Co-opetition: cooperation among competitors
- Learning races: to exit the alliance quickly

What can Strategic Alliances be governed by?

Non-Equity Alliances
- Partnerships based on contracts
Equity Alliances
- One partner takes partial ownership in the other.
Joint Ventures
- A standalone organization
- Jointly owned by two or more companies

Key Characteristics of Different Alliance Types

See Slide 35 in Session 24 Deck

What are the characteristics, advantages, disadvantages, and examples of non-equity alliances?

Characteristics: - Most common type of alliance - Based on contracts (e.g., supply, licensing, distribution agreements) - Exchange of explicit knowledge Advantages: - Flexible - Fast - Easy to initiate and terminate Disadvantages: - Weak ties - Lack of trust and commitment Examples: - Genentech–Lilly (exclusive licensing for Humulin) - Microsoft–IBM (nonexclusive licensing for MS-DOS)

What are the characteristics, advantages, disadvantages, and examples of equity alliances?

Characteristics: - One firm takes partial ownership of another - Involves equity investment (e.g., corporate venture capital) - Mainly explicit knowledge, with some tacit knowledge possible - Less common than non-equity alliances, more common than JVs Advantages: - Stronger ties than non-equity alliances - Trust and commitment can emerge - Offers a window into new technologies (option value) Disadvantages: - Less flexible - Slower - Requires significant investments Examples: - Renault–Nissan cross equity holdings - Roche’s investment in Genentech

What are the characteristics, advantages, disadvantages, and examples of joint ventures (JVs)?

Characteristics: - Two or more firms create a legally independent company - Least common type of alliance - Exchange of both tacit and explicit knowledge Advantages: - Strongest ties - Trust and commitment likely to develop - May be required by institutional or regulatory settings Disadvantages: - Involves long negotiations and significant investment - Long-term commitment - JV managers report to two parent companies Examples: - Hulu (NBC, Fox, Disney-ABC) - Dow Corning (Dow Chemical and Corning)

What strategy should you consider if you want sequential synergies (one company completes tasks and passes the results to a partner to do its part)?

Equity alliance (one company invests in an equity stake in the other)

What strategy should you consider if you seek modular synergies (managing resources independently and pooling results for greater profits)?

Nonequity alliance Example: An airline and a hotel chain agree to let hotel guests earn frequent-flyer miles. By connecting consumers’ choices of airline and hotel, both organizations

What strategy should you consider if you want reciprocal synergies (both firms execute tasks through close knowledge sharing)?

Acquisition Example: Exxon and Mobil knew they had to boost efficiency throughout their value chain to stay competitive. They could do this only by combining all assets and functions. So they merged.

What strategy should you consider if you must combine hard resources (e.g., manufacturing plants) to get desired synergies?

Acquisition Example: To generate economies of scale, home-improvement company Masco quickly scales up its acquired firms’ manufacturing

What strategy should you consider if you must combine soft resources (e.g., workforces) to get synergies?

Equity alliance Example: A commercial bank buys an equity stake in a securities firm rather than acquiring it, knowing that the bank’s culture and compensation structure could drive key securities firm employees out the door.

What strategy should you consider if you estimate being saddled with extensive redundant resources after collaborating with another organization?

Acquisition Example: When computer makers Hewlett-Packard and Compaq merged, they aimed to save $2 billion in the first year by eliminating redundancies across every function.

What strategy should you consider if the new entity will face high market uncertainty (e.g., you’re unsure whether consumers or regulators will embrace or support it)?

Nonequity or equity alliance Example: Bristol-Myers Squibb lost $650 million when its equity alliance partner ImClone’s drug Erbitux failed an FDA review. But it would have lost $3.5 billion if it had previously decided to acquire ImClone.

What strategy should you consider if you'll have rivals for potential partners?

Acquisition Example: Pfizer initially allied with Warner-Lambert to make Lipitor (Warner-Lambert’s untried cholesterol-reducing drug) a blockbuster. Pfizer wanted a closer relationship with Warner-Lambert, ultimately acquiring it after other companies expressed interest in it and submitted bids.

What are the three alliance-related tasks that must be managed concurrently?

Partner selection and alliance formation Alliance design and governance Post-formation alliance management

What must be present for partner selection and alliance formation?

Benefits must exceed the costs Five reasons for alliance formation - Strengthen competitive position - Enter new markets - Hedge against uncertainty - Access critical complementary resources - Learn new capabilities Partners must be compatible and committed.

What are some of the governance mechanisms?

Contractual agreement Equity alliances Joint venture Note: inter-organizational trust is critical