MGT 3830 Chapter 8

Industry Value Chain (Vertical Value Chain)

depiction of the transformation of raw materials into finished goods and services along distinct vertical stages, each of which typically represents a distinct industry in which a number of different firms are competing

(FOUR TYPES of Business Diversification) Dominant Business

derives 70-90% of its revenue from a single business

(FOUR TYPES of Business Diversification) Single Business:

derives > 95% of revenue from ONE business

Define Parent Subsidiary Relationship:

describes the most-integrated alternative to performing an activity within ones own corporate family.

product-market diversification strategy

corporate strategy in which a firm is active in several different product markets and several different countries

External Transaction Costs

costs of searching for a firm or an individual with whom to contract, and then negotiating, monitoring, and enforcing the contract

Internal Transaction Costs

costs pertaining to organizing an economic exchange within a hierarchy; also called administrative costs

Define Joint Ventures:

is another special form of strategic alliance, two or more partners create and jointly own a new organization. (since the partners are contributing to equity to a joint venture, they make a long-term commitment, which facilitates transaction-specific investments)

Strategic Outsourcing

moving one or more internal value chain activities outside the firm's boundaries to other firms in the industry value chain

Principal Agent Problem

situation in which an agent performing activities on behalf of a principal pursues his or her own interests

Diversification Discount

situation in which the stock price of highly diversified firms is valued at less than the sum of their individual business units

diversification premium

situation in which the stock price of related-diversification firms is valued at greater than the sum of their individual business units

Information Asymmetries

situations in which one party is more informed than another, because of the possession of private information

corporate strategy

the decisions that senior management makes and the goal-directed actions it takes to gain and sustain competitive advantage in several industries and markets simultaneously; addresses where to compete along three dimensions: products and services, industry value chain, and geography (regional, national, or global markets)

Vertical Integration

the firm's ownership of its production of needed inputs or of the channels by which it distributes its outputs

Economies of Scope

the savings that come from producing two (or more) outputs or providing different services at less cost than producing each individually

MORE or LESS Vertically Disintegrated with a LOW degree of vertical integration:

these firms can only focus on only a few stages of the industry value chain. (Example: Apple, focuses only on design, marketing, and retailing while; all other value chains are OUTSOURCED)

To understand the different types and degrees of corporate and the four types of diversification, these two variables are helpful...

1. % of Revenue from dominant/primary business 2. Relationship of Core Competencies across business units

These underlying strategic management concepts will guide you the discussions of the three dimensions of corporate strategies :

1. Core Competencies 2. Economies of Scale 3. Economies of Scope 4. Transaction Costs

product diversification strategy

corporate strategy in which a firm is active in several different product markets

Executives must determine their corporate strategy by answering three questions:

1. In what stages of the industry value chain should the company participate (vertical integration)? 2. What range of products and services should the company offer? 3. where should he company compete geographically in terms of regional, national, or international markets?

RISKS of Vertical Integration:

1. Increasing Costs 2. Reducing Quality 3. Reducing Flexibility 4. Increasing the potential for legal repercussions.

BENEFITS of Vertical Integration (Both Backward & Forward):

1. Lowering Costs 2. Improving Quality 3. Facilitating scheduling and planning 4. Facilitating investments in specialized assets 5. Securing critical supplies and distribution channels

FOUR types of business diversification

1. Singlet Business 2. Dominant Business 3. Related Diversification 4. Unrelated diversification: the conglomerate

ALTERNATIVES to Vertical Integration:

1. Taper Integration 2. Strategic Outsourcing

Implications for the Strategist:

1. The Degree of Vertical Integration (in what stages of the IVC to participate) 2. The type of Diversification (what range of products or services to offer) 3. The Geographic Scope (where to compete?)

What are the THREE dimensions of Corporate Strategy?

1. Vertical Integration 2. Diversification 3. Geographic Scope

Why do firms need to grow? (5)

1. to increase profits 2. to lower costs 3. to increase market power 4. reduce risk 5. motivate management

Review Exhibit 8.2 and 8.3 in textbook

:)

A ___________________________ is a major disadvantage of organizing economic activity within firms, as opposed to within markets.

Principal-Agent Problem

Review Exhibit 8.4 (Alternatives on the Make-OR-Buy Continuum)

See Notes..

Review Exhibit 8.5 (Backward & Forward Integration along the Industry Value Chain)

See Notes..

TRUE of False? LONG-TERM contracts that work much like short term contracts BUT they have a DURATION generally > one year, which helps over come the drawback of short term contracts having NO incentives to specific investments.

TRUE

TRUE or FALSE? not ALL industry value chain stages are equally profitable..

TRUE

True or False? Determining the boundaries of the firm so that it is more likely to gain and sustain a competitive advantage is the critical challenge in corporate strategy.

TRUE

True or False? SHORT TERM contracts have NO incentives to make transaction-specific investments.

TRUE

Define Strategic Alliances:

Voluntary arrangements between firms that involve the sharing of knowledge, resources, and capabilities with the intent of developing processes, products, or services

Franchising

a LONG-TERM contract in which a franchisor grants a franchisee the right to use the franchisor's trademark and business processes to offer goods and services that carry the franchisor's brand name; the franchisee in turn pays an up-front buy-in lump sum and a percentage of revenues

Credible Commitment

a LONG-TERM strategic decision that is both difficult and costly to reverse

Conglomerate

a company that combines two or more strategic business units under one overarching corporation; follows an unrelated diversification strategy

boston consulting group (BCG) growth share matrix

a corporate planning tool in which the corporation is viewed as a portfolio of business units, which are represented graphically along relative market share and speed of market growth. SBUs are plotted into four categories (dog, cash cow, star, and question mark), each of which warrants a different investment strategy

Licensing

a form of LONG-TERM contracting in the manufacturing sector that enables firms to commercialize intellectual property

Core Competence Market Matrix (Exhibit 8.9)

a framework to guide corporate diversification strategy by analyzing possible combinations of existing/new core competencies and existing/new markets

Define Equity Alliances:

a partnership in which at least one partner takes partial ownership in the other partner. a partner purchases an ownership share by buying stock or assets and thus making an equity investment.

Transaction Cost Economics

a theoretical framework in strategic management to explain and predict the boundaries of the firm, which is central to formulating a corporate strategy that is more likely to lead to competitive advantage

Taper Integration

a way of orchestrating value activities in which a firm is backwardly integrated but also relies on outside-market firms for some of its supplies, and/or is forwardly integrated but also relies on outside-market firms for some of its distribution

FULLY Vertically Integrated:

all activities are conducted within the boundaries of the firm (Example: Weyerhaeuser, one of the largest paper and pulp companies)

Transaction Costs

all internal and external costs associated with an economic exchange, whether within a firm or in markets

Diversification

an increase in the variety of products and services a firm offers or markets and the geographic regions in which it competes

Forward Vertical Integration

changes in an industry value chain that involve moving ownership of activities closer to the end (customer) point of the value chain

Backward Vertical Integration

changes in an industry value chain that involve moving ownership of activities upstream to the originating (inputs) point of the value chain

(FOUR TYPES of Business Diversification) Related Diversification

corporate strategy in which a firm derive less than 70 percent of its revenues from a single business activity and obtains revenues from other lines of business that are linked to the primary business activity

(FOUR TYPES of Business Diversification) Unrelated Diversification Strategy

corporate strategy in which a firm derives less than 70 percent of its revenues from a single business activity and there are few, if any, linkages among its businesses

geographic diversification strategy

corporate strategy in which a firm is active in several different countries

specialized assets

unique assets with high opportunity cost: they have significantly more value in their intended use than in their next-best use. they come in three types: site specificity, physical-asset specificity, and human-asset specificity

Define Specialized Assets:

unique assists with high OC and are significantly more valued in their intended use than in their next best use.. three types: - site, physical-asset, and human-asset.

Core Competencies

unique strengths that are embedded deep within a firm

Economies of Scale

when a firm's average cost per unit decreases as its output increases