Page 127 - DCOM506_DMGT502_STRATEGIC_MANAGEMENT

Unit 7: Corporate Level Strategies

3. Diversification may sometimes result in neglect of the old business. Notes
4. Diversification may invite retaliatory moves by competitors, which may adversely affect
even the old businesses.

Types of Diversification: Broadly, there are two types of diversification:
1. Concentric diversification.
2. Conglomerate diversification.
1. Concentric Diversification: Adding a new, but related business is called concentric
diversification. It involves acquisition of businesses that are related to the acquiring firm
in terms of technology, markets or products. The selected new business has compatibility
with the firm’s current business.
The ideal concentric diversification occurs when the combined profits increase the strengths
and opportunities and decrease the weaknesses and threats. Thus, the acquiring firm
searches for new businesses whose products, markets, distribution channels and
technologies are similar to its own, and whose acquisition results in “Synergy’’. This is
possible with related diversification because companies strive to enter product markets
that share resources and capabilities with their existing business units.
Diversification must create value for shareholders. But this is not always the case. Acquiring
firms typically pay premiums when they acquire a target firm. Besides, the risks and
uncertainties are high. Why do firms still go in for diversification? The answer, in one
word, is “Synergy”.

In related diversification, synergy comes from businesses sharing tangible and intangible
resources. Additionally, firms can enhance their ‘market power’ through pooled negotiating
power. There are other advantages of concentric diversification.
Advantages
(a) Increases the firm’s stock value.

(b) Increases the growth rate of the firm.
(c) Better use of funds than ploughing them back into internal growth.
(d) Improves the stability of earnings and sales.
(e) Balances the product line when the life cycle of the current products has peaked.

(f) Helps to acquire a needed resource quickly (e.g. technology or innovative
management etc.)

(g) Achieves tax savings.
(h) Increases efficiency and profitability through synergy.
(i) Reduces risk.
2. Conglomerate diversification: Adding a new, but unrelated business is called conglomerate
diversification. The new business will have no relationship to the company’s technology,
products or markets. For example, ITC which is basically a cigarette manufacturer, has
diversified into hotels, edible oils, financial services etc. Similarly, Reliance Industries,
which is basically a textile manufacturer, has diversified into petro chemicals,
telecommunications, retailing etc.
Unlike concentric diversification, conglomerate diversification does not result in much of
synergy. The main objective is profit motive. But it has important advantages.

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