Session 6

Competitive Strategy
PGPPRO
Anand Nandkumar

Photographs: Anand Nandkumar

Quiz 1
https://forms.office.com/r/32SGzLqqUj
What is corporate strategy?

How to gain competitive advantage by operating in several

businesses simultaneously
• Vertical integration – stages of a value chain to be included in firm
boundaries
Horizontal diversification – Diversification across products
and across markets can exploit economies of scale and scope
• Internal versus external
• Mergers and acquisitions – buying firms or units externally
• Alliances – temporary arrangements to access certain types of resources
 Why and what?
To acquire • Which business(es) to compete in?
corporate • Which parts of the value chain to operate?
advantage through • How to organize activities?
the following • How to co-ordinate multiple businesses
• Creating value through synergies
decisions

To achieve alignment with the resources that a firm has or

intends to develop

Could be a source
of sustainable • Unique combination of businesses and organizing
competitive activities may be very hard to imitate
advantage
A business model for 2021
Step 1 – Rent a desk in Silicon Valley
Step 2 – Incorporate your company (UK)
Step 3 – Find investors for (almost) any project
Step 4 – Find freelance staff (programmers, professionals, etc.)
Step 5 – Produce prototypes, choose from over 2100 contract
manufacturers
Step 6 – Production (in the US, China, or anywhere else)
Step 7 – Payment systems that are simple, powerful, and free (!)
Step 8 – Ship anywhere in the world
Choice 1 – Which activities should be “internal”
to a firm? Clues from why firms exist
 Two considerations to integrate versus contract out

(1) Transaction costs

• For a firm to create value they need to need to hire workers, negotiate
prices and enforce contracts too frequently
• A firm is a device for creating long-term contracts when short-term
contracts are too bothersome, results in opportunism and subject to
incompleteness
• Sticky knowledge may also make economic exchanges costly
(2) Scale + scope economies
• Internal scale versus external scale
• VRIO – Internal scope economies
 Choice 2 – Vertical
and horizontal
diversification
Which value chain activities
and what scale?
 What is vertical
integration?
• Stages of the value chain to be
included in the firm’s (vertical)
boundaries

• Example: Should an electric car manufacturer

also manufacture batteries?
• Should a pharmaceutical drug manufacturer
also manufacture APIs?
Source: Barney & Hesterly (2011), Strategic Management and Competitive Advantage
 Raw
Backward vertical integration
Materials
More stages of the value chain; closer
to gaining access to raw materials.
Two types
of vertical Components
integration
Assembly

Forward vertical integration

More stages of the value chain within
Retail / firm’s boundaries; closer to interacting
Service directly with final customers.
Vertical integration

• Vertically integrate if • Vertically integrate if

• Firm has VRIO resources in a • “Transaction costs” are high
business activity • Costs related to using the market
• Even if a firm does not have VRIO • Search and information costs
resources, it may vertically integrate • Bargaining and decision costs
because of opportunism (later) • Policing and enforcement costs
• Internal scale economies are more than
• Vertically integrate if external
• Lowered flexibility is acceptable
• Vertically integrate if
• Knowledge is best managed within
the firm
Oil refinery example
• Consider the exchange between an oil refining
company and an oil pipeline construction
company.

• Oil refinery gets crude through ships.

• Alternate is crude from oil fields through trucks

is a more expensive option.

• But cheaper if pipeline can be built to connect oil

fields to refinery.

Source: Barney & Hesterly (2011), Strategic

Management and Competitive Advantage
Oil refinery (2)
• There is oil pipeline construction company.
• The refinery negotiates a deal is negotiated to build pipeline to connect.
• Say contract is for 5 years.
• At the end of 5 years, when it is time to re-negotiate
• The refining company knows that the pipeline is useless if it does not buy the
output.
• So, they will try to squeeze the pipeline’s margins during negotiations.
• The pipeline company, of course, anticipates this and so will not build the pipeline
in the first place.
Case: Tesla
• Why is Tesla expanding backwards?

• What are the costs of vertical integration?

Tesla is the only Auto manufacturer that makes its own battery

Source: https://www.usitc.gov/publications/332/journals/the_supply_chain_for_electric_vehicle_batteries.pdf

Why would Tesla manufacture its own batteries?

Some statistics
• Driven by scale needs?
• Tesla manufactures more EVs over its
next competitor by a factor of 1.5
• If there is that much capacity outside,
then it may make sense to do it
internally
• Opportunism?
• Exclusive suppliers may hold up
• Frequent renegotiations may
push up costs – EV battery
constitutes about 44% of Tesla
Model X in 2017
Scale…

Source: https://www.usitc.gov/publications/332/journals/the_supply_chain_for_electric_vehicle_batteries.pdf
Scope?
Choice 3
Diversification Which portfolio of business?
Horizontal versus vertical integration
Industry A Industry B Industry C

Raw Raw Raw

Vertical Materials Materials Materials
Integration

Components Components Components

Horizontal
Assembly Assembly Assembly Diversification

Retail / Retail / Retail /

Service Service Service
Corporate scope – Horizontal
integration
• Horizontal integration
– Investment in same stage of
value chain activity
– Driven by scale
– In the pharmaceutical
industry, CDMO’s gain
efficiencies through
horizontal integration

Source: Kraft to Acquire Cadbury in Deal

Worth $19 Billion, NY Times, 19 Jan 2010
 •

When/How
•
should you –

diversify? •

–
•
•
–
Related and unrelated diversification

Related diversification :If all businesses share Unrelated diversification: Firm’s

similar inputs, production, technologies, businesses share few common attributes.
distribution channels, customers, etc. Eg. E.g. GE Aviation, Energy, Financial
Pepsi’s focus on snack type food/beverage Products, Healthcare, NBC, real estate
Benefits of diversification

• Transfer / leverage competencies

• Resource sharing (economies of scope)
– Shared costs
– Greater specialization Related diversification

• Market synergies
– Negotiating power with buyers / suppliers

• General organizational competencies

– Corporate / managerial capabilities
Related & unrelated diversification
 • Diversification may also be harmful
– Diffusion of managerial attention /
bureaucratic costs
– Effort losses and poor coordination
– Focus on financial rather than strategic
Costs of metrics
– Conflicts between businesses
Diversification – Lack of flexibility

• Excessive diversification has been

associated with governance problems
– Managerial incentives to overdiversify
– Empire building
Quiz 2
https://forms.office.com/r/xjf6StwcRn
 Depends on the nature of General versus
resources specialized
Choice 4: How to
organizing Scope of businesses Wide versus narrow
corporate function
– alignment Coordination Transfer (private)
mechanisms versus share (public)
between
resources, Operational (mature)
Control systems versus financial
businesses with (emerging) controls
organization
Corporate function size Small versus large
Tata case
Questions
What do you think about the Tata group being in many
seemingly diverse businesses?
• Is this performance enhancing for Tata?

What was the rationale behind why Tata and Sons was
organized as a Business Group (BG)? Was it just to
exercise control in a (subtle way) or realize corporate
advantage? Explain

What were the issues with the setup?

Revenue of Tata Group from financial year 1996 to 2019
(in billion U.S. dollars)

Source: Statista
Tata Group is a bunch of related and unrelated businesses
Made up of related and unrelated businesses…
Corporate control – Shareholding by company

Source: Statista
Tata Group companies market cap display wide variance

Source: Statista
The Tatas appear to value the contribution of Tata and Sons

Source: Statista
• Tata Group appears to be in a
bunch of unrelated businesses,
why?
• Resource similarity

• Most services are shared and not

transferred but they have a large
corporate function

• Why are they successful?

Collins and Montgomery

Relatedness

Businesses Organization
Tata – summary
• “Tata-ness” the source of CA
• Most services appear to be driven by the notion of econ. of scale
• Some are just motivated by cost benefits
• Tata and Sons creates scale economies in other managerial functions such as
• Important when there are “institutional voids”
• Most services are shared and not transferred
• But corporate HQ role is to identify areas in which there may be scope or scale benefits
• Scope economies in managerial functions
• E.g. TMTC facilitates internal spillovers
• Role of the “corporate function” critical
• All this might come at the cost of redundancy
Tata – summary
• These economies cannot be realized through organizing as a multi
business firm
• But such a form might have autonomy although more redundancy

• Ultimately ability of Tata Group to perform better would depend on

whether Scope + Scale economies > the negative effects on autonomy
Man V. machine
• What is corporate strategy?

• When should firms vertically integrate?

• When should firms horizontally diversify?

Summary
What?
• How to gain competitive
advantage by operating in several
businesses simultaneously
Guiding principles
• Leverage scale and scope
economies of resources
How?
• Vertical integration, horizontal
diversification, M&A, alliances
• Be sure to think about the role and
nature of the corporate function
Questions?