To what extent is diversification the best strategy to achieve profitable growth? (40 mark essay)
Definition of the key words
Diversification can be defined as the practice under which a firm enters an industry or market different from its core business. This shows relevance in regard to a company’s corporate strategy, as it is the change in the company’s direction of business. The company is wishing to diversify their methods whether that is the product, market or service.
However, can a diversification strategy lead to profitable growth? This is dependant on what the company subjectively defines as growth. The definition would describe growth as the process of improving measures of an enterprise’s success. Business growth can be achieved either by boosting the revenue of the business with greater product sales or service income, or by increasing the profitability of the operation by minimising costs.
More specific focus however can be drawn on the profitable fragment of growth and how the business can achieve this. Profitable growth can be achieved in many ways and strategic diversification has definitely played a large role in the growth of many large businesses today. However just like any strategy this all depends on many factors. For example, the type of industry the business is operating in or the risks involved into entering new markets.
Charles Tyrwhitt London Store
There are many ways in which to diversify a business, all which may be included in the strategy to achieve profitable growth. The most straightforward of these is to provide a natural extension of the goods or services that you already offer to customers.
For instance, Internet retailer Charles Tyrwhitt started out by selling quality work shirts to customers who wanted to trade up from high street providers such as M&S. From that small beginning, the company went on to offer a range of complementary products, such as ties, suits, cufflinks, women’s clothing and accessories. It was a natural progression that nonetheless drove rapid growth, but more specifically profitable growth. This being shown as Charles Tyrwhitt is now a modern and competitive player in the men’s fashion industry, the reasoning being that of the diversified strategy made by the company’s management.
This case study therefore shows that diversification can be successful when applied strategically to achieve profitable growth within a company.
What soft-drink company has the most diversified product portfolio?
Coca-Cola Case Study
In support of this statement, we can draw focus to an even larger player in it’s market, the Coca-Cola Company, which can be used as an example company which has successfully diversified it’s strategy and consequentially lead to profitable gross and success.
Coca-Cola is best known for Coke, but popular as that drink is, it certainly isn’t to everyone’s taste. To maximise market share the company offers a broad range of soft drinks, from orange through to diet versions of Coke itself. This is however arguably weak diversification as it is remaining in the existing market of soft drinks. Therefore, according to Ansoff’s Matrix it is arguably a better example of product development rather than diversification.
Specific Analys & Virgin Case Study
To draw even more specific analysis to the question, it is stated that diversification is the best strategy in order to achieve profitable growth. Arguably it is not the best strategy as this fluctuates depending on the company and that specific company’s desires for strategic change.
Virgin is one example of a company that owes most of its very profitable growth on mostly unrelated diversification; and yes although this type of strategy is very risky, it has big rewards. Supported by the diversified strategy employed making Virgin $ 21.3 billion (2011) and a value of £5.01 billion in 2008. Starting from only a small record shop in London in 1971, Richard Branson spent a mass amount of time growing his empire through strategic diversification from such things as transport, internet broadband, TV and even bridal wear in Manchester.
This shows that, although very unrelated at times, diversification has been the key element to Virgins overall very profitable growth. Therefore it can be concluded that for Virgin, diversification truly was the best strategy in terms of achieving profitable growth.
However, as with diversification success, there are many reasons that could explain why diversification strategies are often unsuccessful and therefore do not lead to profitable growth.
The risks associated with diversification become more acute when the company moves away from their natural selling point or methodology. Extending the product range to appeal to an existing customer base, as which was shown through the Charles Tyrwhitt case study, is relatively low risk. Although, launching an unrelated product to an established customer base carries a higher risk. Selling new products to a whole new marketplace is seen as the riskiest approach of all. Which can therefore logically be concluded, the least likely to yield the company any substantial profitable growth.
Diversification Drawbacks & Management
Another drawback shown with diversification is market instability and entering into a new venture within such turbulence could be another potential reason why diversification strategies that are undertaken can refuse to yield success.
A main example of this is the current recession within the UK, an economic factor that demonstrates high instability to new company’s wishing to start diversifying their strategy. Which arguably, will not have a high possibility of yielding the company profitable growth. However in terms of the company’s management, if drawing focus on the potential upside and failing to understand difficult conditions could lead to diversified failure.
If managers are focusing on the rewards that may be gained when pursuing the diverse strategy opposed to the conditions that surround the problems within the strategy implementation itself, then that is where the failure may lie.
Facebook & HMV Case Study
Facebook tried to acquire more company’s in order to diversify its management portfolio and obviously as any company desires, to achieve a higher profitable growth annually. This led to them purchasing Instagram for $1billion. This is diversified as Instagram highlights the ability to photo sharing, which differentiates from the online messaging initially set up by Facebook. Diversification strategies can sometimes fail due to the monetary basis of acquiring such diverse portfolios. This in combination with the whopping $19billion takeover of WhatsApp by Facebook also leads analysts to question the viability of Facebook’s profitable growth standing after the ludicrously high expenditure.
In terms of monetary focus, this arguably wasn’t the best strategy for Facebook to take as without these takeovers, Facebook would currently and for the next several years be in a much better financial standing.
HMV also showed failure in their diversification, since they spent £46million to diversify and acquire Mama Group in 2010. This led to a failure, and the company ended up selling Mama for £7.3million. Showing that the diversification strategy implemented was by far not the best strategy for HMV, as it didn’t meet profitable growth, and it also made an expediential loss on the sale back.
These are reasons why diversification strategies may not be the best strategy and also why they may not yield the company profitable growth.
Diverse Mergers & Takeovers
Additionally, some diversification strategies such as mergers might not succeed because of lack of institutional support. All the associated factors of the strategy have to be examined to be considered the best strategy for that specific company.
For example, having the right personnel that can facilitate the strategy is key, ensuring that profitable growth is within the company’s reach even with conditions of turmoil that may surround the strategy. Some diversification strategies simply cost too much money to initiate and sustain, taking away focus from the core success those organizations had experienced.
To conclude this essay, focus has to be drawn on the key terms within the question. ‘To what extent is diversification the best strategy to achieve profitable growth?’ It has been shown throughout this essay through the case studies provided, that the idea of diversification being the best strategy is very subjective.
It is dependent on the culture of the company and they steps they wish take in order to achieve the profitable growth. It’s known however that many diverse corporate strategies fail, an example of this being HMV. Therefore it cannot be stated to be the universally best strategy for profitable growth as it has shown many times to fail, also this then doesn’t take into account the other methods of gaining profitable growth such as cost minimisation, differentiation, market penetration, market development and new product development.
Finally, a strategy is a long-term plan to achieve an objective; this may involve high levels of investment, high risk and be difficult to reverse. Also it may take time to gain growth, of which may not necessarily be profitable. Therefore the idea that diversification strategy can achieve profitable growth is true, however the time taken to achieve this growth may be severely extended, especially in the current economic climate.