Managing Business Growth

Managing Business Growth

• Businesses seek to expand for owner investment returns and improved competitiveness
• The unit provides an overview of how managers pursue and achieve business growth

Objectives

• Recognize the benefits and disadvantages of growing a business
• Identify and describe the four growth strategies
• Describe limits of organic growth
• Identify and describe cooperative strategies and strategic alliances
• Explain franchising along with the advantages and disadvantages
• Describe the risks and management of cooperative strategies

Key Terms

• Backward Integration
• Capability
• Cooperative Strategy
• Cost Minimization
• Diseconomies of Scale
• Diversification Strategies
• Economies of Scale
• Forward Integration
• Franchising
• Market Development Strategies
• Market Power
• Opportunity Maximization
• Organic Growth
• Penetration Strategies
• Product Development Strategies
• Related Diversification
• Resource
• Strategic Alliance
• Unrelated Diversification
• Value Chain

Potential Benefits of Growth

• Managers are motivated to grow the company for various reasons
• Firms seek increasing future cash flow to reward investors
• Larger size can lead to economies of scale, reducing unit costs via spreading fixed costs
• Market power increases with size, influencing prices charged to customers and paid to suppliers
• Lack of growth suggests lack of innovation, potentially allowing competitors to overtake the firm
• Manager compensation tends to rise with firm size
• Larger firms can retain employees with better opportunities for responsibility, advancement, and compensation

Potential Disadvantages of Growth

• Increasing revenue without profitability doesn't increase a firm's value
• Larger firms can become complex and hard to manage, especially with diversification
• Larger size doesn't always result in economies of scale
• Diseconomies of scale are an increase in unit costs associated with greater revenue
• Increased administrative personnel and bureaucracy are a common cause of diseconomies of scale
• Firms may face additional regulations and compliance costs with increased size
• Government anti-trust regulations might block firms seeking growth

Growth Strategies

• Despite potential pitfalls, growth advantages motivate managers to expand firms
• Businesses can use four broad growth strategies
• Penetration Strategies: Encouraging current customers to buy more of existing products
• Product Development Strategies: Developing and selling new products to current customers
• Market Development Strategies: Selling the firm's existing products to new customer groups or markets
• Diversification Strategies: Selling new products to new markets

Penetration Strategies

• Aims to encourage existing customers to increase purchases of current products through repeat purchases
• Relies on taking market share from competitors and expanding the market size
• Highly dependent on marketing

Product Development Strategies

• Involves developing new products for existing customers
• One advantage is the experience with customers and the problems that customers have with existing technologies
• The corporate reputation already established can also be a benefit to this strategy
• Other investments already made in the market, like distribution systems can also be of benefit

Market Development Strategies

• Building new customer groups for current products, categorized by:
  • Geographic expansions into new locations
  • Demographic targeting of new customer types based on factors such as income and education
  • New product use through finding alternate applications for current products (Ex. Clif Bars originally for recreation, then for snacks)

Diversification Strategies

• Typically rely on capabilities in new product development and marketing
• Related Diversification: Expansion into new markets or product capabilities similar to the company’s current core business
• Unrelated Diversification: Expansion into dissimilar markets or products

Prerequisites to Growth: Resources and Capabilities

• Firms require adequate resources and capabilities for growth

Strategy

• A "resource" is a productive input or competitive asset that the firm owns or controls
  • A brand (e.g. Coca-Cola) or a product patent are examples of resources
• A "capability," or competence, is how well the firm performs internal activities
  • Examples are marketing and R&D
• Resources and capabilities together are competitive assets and the basis on which firms compete

Limitations of Organic Growth & Cooperative Strategies

• A business grows through "Organic Growth" by increasing output/developing new products/new markets using its internally generated resources without acquiring other companies
• Firms lacking adequate resources or capabilities to effectively grow or compete need to address this issue. This includes:
  • Lacking necessary knowledge or expertise (management, markets, technologies)
  • Lacking access to low-cost capital from investors
• A "Cooperative Strategy" addresses the restraints of organic growth, and is a means of firms collaborating to achieve a shared goal

Strategic Alliances

• A common form of a cooperative strategy where firms combine resources/capabilities for a competitive edge
• These are more likely to succeed when partners behave cooperatively through:
  • Problem-solving
  • Trustworthiness
  • Consistently combining partner resources

Strategic Alliance Benefits

• Creating value partners couldn't achieve alone
• Entering markets more quickly with greater penetration
• Overcoming a lack of resources and capabilities mostly for small businesses
• Adding capabilities without greatly altering cost structures by partnering

Types of Strategic Alliances

• Equity Strategic Alliance: Firms owning different percentages of a combined company, using resources and capabilities for a competitive advantage
• Nonequity Strategic Alliance: Firms contractually share resources and capabilities for competitive advantage

Nonequity Strategic Alliance Details

• Firms don't establish a separate independent company; no equity positions are taken
• Examples include licensing, distribution, and supply contracts
• Compared to joint ventures and equity strategic alliances, nonequity strategic alliances are:
  • Less formal
  • Demand fewer partner commitments
  • Do not foster intimate relationships

Franchising Details

• "Franchising" is a type of strategy where a franchisor contracts a relationship to describe and control how resources/capabilities are shared with partners.
• A "Franchise" is a contractual agreement between two independent entities, the franchisor granting the franchisee to sell a product or do business under their trademark at a set time/location.
• Franchising is popular as U.S. franchise locations employ 18 million

Franchising

• Often seen in fragmented industries with many small and medium-sized firms, such as retailing, hotels, and motels
• In consolidating independent businesses in fragmented industries, franchise shares lead to gaining a larger market share.
• Primary Knowledge Responsibilities:
  • Franchisor's transfer knowledge/skills to equip franchisees to compete locally.
  • Franchisee's are responsible for providing feedback on how to improve effectiveness/efficiency.

Franchising's Pros and Cons

• Advantage: Franchisee bears most costs/risks of new locations, limiting franchisor expenses to recruitment, training, support, and monitoring efforts.
• Disadvantage: Maintaing quality control can be challenging, especially in foreign countries
  • The franchisor may face issues with franchisee standardization and consistency
  • The franchisor must carefully balance standardization and customization to address local consumer tastes.

Risks with Cooperative Strategies

• Many cooperative strategies fail
  • A large number have serious problems in the first two years
  • About half will ultimately fail

Risks that could occur with Cooperative Strategies:

• One partner could potentially act opportunistically
• One or both partners could misrepresent competencies.
• One or both partners might fail to share the resources and capabilities that they originally committed to.
• One company could potentially make investments specific to the alliance, while the partner does not

Managing Cooperative Strategies

• Two Methods:
  • Cost minimization
  • Opportunity maximization
• Cost Minimization: Involves formal contracts monitored to control partner behavior, aiming to reduce costs and prevent opportunistic actions.
• Opportunity Maximization: Seeks value creation via idea/resource sharing, using less formal contracts based on trust, respect, and open communication.