Entrepreneurship: Growth Strategies and Options PDF

CHAPTER 14: GROWTH STRATEGIES AND OPTIONS  LEARNING OUTCOMES LO1: Understand that a growth strategy is necessary for a business. LO2: Explain internal and external growth strategies. LO3: Discuss the various methods of internal or organic growth. LO5: Discuss the various met...

CHAPTER 14: GROWTH STRATEGIES AND OPTIONS  LEARNING OUTCOMES LO1: Understand that a growth strategy is necessary for a business. LO2: Explain internal and external growth strategies. LO3: Discuss the various methods of internal or organic growth. LO5: Discuss the various methods of external growth. LO6: Discuss internationalisation as an avenue for growth.  14.1 INTRODUCTION A small business does not include growth as its primary objective, but more often than not involves subsistence entrepreneurship. Growth is therefore at the heart of the entrepreneurial business. It is thus important to understand what is meant by the terms “strategy” and “growth strategies” as well as the various growth options entrepreneurs have at their disposal. Read: Natasha Sideris - tashas  14.2 WHAT IS STRATEGY? Definition – A pattern of action and resource allocation to achieve the goals of the business (Bateman & Snell 2015) Steps in the strategic planning process (Aldea, Iacob, Quartel & Franken 2013): 1. Visioning process. In this step, managers in the business develop the overarching vision (“dream”) and the mission (i.e. the reason for its existence). 2. Strategy analysis. The strategic analysis involves analysing the internal and external business environment. 3. Strategy formulation. The strategy formulation process starts with the setting of long-term objectives. 4. Strategy implementation. This stage of the strategic planning process concerns itself with implementing the specific strategies that were developed during the previous step. 5. Strategy evaluation. Managers inside the business need to ensure that the implemented strategy actually met the objectives that were set during the strategy formulation phase.  14.3 GROWTH STRATEGIES AND METHODS It is important that the correct growth strategy and method is chosen that will result in objectives being met. The Ansoff matrix is a strategic planning tool that provides a framework for decision-makers in a business to craft strategies that will result in growth. 14.3 GROWTH STRATEGIES AND METHODS (continued) Figure 14.1 The Ansoff matrix Source: De Bruin (2017)  14.3 GROWTH STRATEGIES AND METHODS (continued) The four different strategies of the Ansoff matrix Market penetration refers to selling more of the existing product to an existing market. Product development refers to the development of new products or services which are offered to the existing market. Market development refers to offering the existing products of the business to a new market. Diversification is regarded as the most risky as the business is developing a new product and offering it to a completely new market.  14.3 GROWTH STRATEGIES AND METHODS (continued) 14.3.1 Internal growth Internal growth is a type of growth in which the business focuses on growing its internal competencies, capabilities and resources, without the involvement of an external business, such as during a merger, acquisition or alliance. The internal expansion and growth strategies can take one or more of the following forms: » Increase of market share. » Growth in financial metrics like turnover, volume, income or profit. » Improved use of technology in delivering higher sales volumes, increased production capacity and more effective distribution. » Improved customer and consumer confidence. » Market expansion into new market areas and niches or into new locations, both local and international.  14.3 GROWTH STRATEGIES AND METHODS (continued) 14.3.1 Internal growth (continued) The entrepreneur must identify the distinctive base on which the business will compete, with the following options being available: – Cost leadership. A cost leadership strategy involves an internal effort to reduce fixed and variable costs in offering a product or service, thereby becoming the most efficient operator in the market. – Focus or specialisation. This type of strategy allows the business to focus on the needs of a particular market segment (niche) by offering a tailor-made product or product range. – Differentiation. A differentiation strategy aims to set the product apart from others in the market by offering different features or greater value, thereby allowing the business to sell the product at a premium price.  14.3 GROWTH STRATEGIES AND METHODS (continued) 14.3.1 Internal growth (continued) Advantages of internal growth include: – No external partner constraints: as internal growth is entirely a result of internal actions, the entrepreneur is not hampered by a lack of suitable targets for acquisition, merger or strategic alliance – Planned investment: organic growth can be planned as part of the business’s strategic plan – Independence: as the business is not reliant on external partners, the entrepreneur can craft the strategy of the business independent of the demands of external partners – Competitive advantage: internal growth allows the business to focus on building a sustainable competitive advantage in the form of increased knowledge, product/service superiority or greater manufacturing capacity – Consistent organisational culture: organic growth does not involve the acquisition or merger with an external business which may have a different organisational culture  14.3 GROWTH STRATEGIES AND METHODS (continued) 14.3.2 External growth External growth is growth that is not the result of internal action but rather as a result of the business using resources, capabilities and networks that are sourced from outside the business. When a business is considering pursuing external growth as part of its strategic plan, it is useful to consider the value chain approach.  14.3 GROWTH STRATEGIES AND METHODS (continued) 14.3.2 External growth (continued) Figure 14.2 External growth strategies in the industry value chain Source: Adapted from Wickham (2006)  14.3 GROWTH STRATEGIES AND METHODS (continued) 14.3.2 External growth (continued) Vertical integration is when a business acquires a company either above or below itself in the value chain. – Forward vertical integration is when the business acquires a company that is above it in the value chain. – Backward vertical integration is when the business acquires a company below itself; it is acquiring a supplier. Horizontal integration refers to the business acquiring a company that is on the same level in the value chain, most commonly in the form of acquiring a competitor. Example: merger, acquisition or joint venture Lateral integration occurs when the business acquires a company that is neither a supplier, customer or competitor. It is usually unrelated to its existing core business. – Northern integration is when the business acquires a new entrant that poses a competitive risk. – Southern integration is when the business acquires the manufacturers or suppliers of critical substitute products.  14.3 GROWTH STRATEGIES AND METHODS (continued) Advantaged of external growth strategies 14.3.2 External growth (continued) – Access to new resources and capabilities. A business might not have the financial, human or technological resources necessary to continue to innovate. – Enhanced competitive standing. By acquiring a competitor, supplier or customer, the business improves its competitiveness in the marketplace. – Diversifying income streams. A diversification strategy that is unrelated to the existing core business allows the business to diversify its income stream, thereby reducing its reliance on a single industry. – Cost effectiveness. Investment in innovation, distribution or increased sales efforts can be extremely costly and buying another company to access existing resources and capabilities can be more cost effective.  14.3 GROWTH STRATEGIES AND METHODS (continued) 14.3.3 Internationalisation as a growth strategy Internationalisation refers to a business operating in markets outside of its home country. In the past, internationalisation was mainly the ambit of large corporations due to the resources and expertise required to operate in another country. Entry modes in internationalisation – Equity modes require the business to invest its own capital into establishing an entity in another country. This can take the form of a wholly or partially owned subsidiary. – Non-equity modes do not require the business to outlay capital to establish a presence in an overseas market. This could involve either exporting the existing products to customers in an overseas market, or making use of some of the internal growth methods.  14.3 GROWTH STRATEGIES AND METHODS (continued) 14.3.3 Internationalisation as a growth strategy (continued) Characteristics of global businesses Outward business culture. An outward business culture refers to the business's mindset in looking for opportunities beyond the home market. The ability to use technology and digital tools effectively. It is important for the business to be able to sell its products and services in far-flung high-growth markets, while at the same time keeping its team connected in real time. Flexibility in product and service offering. Some products need to be modified to suit different tastes, preferences and legal requirements in other markets. Flexibility in operations and organisational structure. While existing standard operating procedures (SOPs) might be suitable for local operations, a business operating on a global scale has to adapt to local conditions.  14.3 GROWTH STRATEGIES AND METHODS (continued) 14.3.3 Internationalisation as a growth strategy (continued) Advantages and disadvantages of internationalisation (Lahiri, Mukherjee & Peng 2020) Advantages – Increased profits – Internationalisation can potentially increase revenue for the business due to higher sales volume or additional revenue through licensing. – Growth and competitiveness – Increased sales and revenue through internationalisation allows the business to expand, increase staff complement and grow its operations. – Reputation of business – Internationalisation allows the business to sell its existing products and services in more markets, thereby enhancing brand presence and recognition. – Organisational learning – As internationalisation is a different experience with varying business and environmental dynamics that a business has not previously dealt with, it can present an organisational learning experience.  14.3 GROWTH STRATEGIES AND METHODS (continued) 14.3.3 Internationalisation as a growth strategy (continued) Disadvantages – Managerial time and organisational expense to generate critical resources –Internationalisation is a difficult undertaking due to the many varying dynamics at play in the process. – Learning asset deployment in foreign locations – Should the business decide to engage in an equity form of investment, it might need to place existing employees in the foreign location. – Adapting to new environments – While a business might have strong intentions to compete globally, many businesses struggle to adapt to an environment that they are not accustomed to. – Loss of revenue and reputation if internationalisation fails – Often businesses either fail to adapt to the new market, are unfamiliar with the competition or overpay for an equity investment.  14.4 EXTERNAL GROWTH METHODS A strategy is the overarching plan of action that a business will pursue in order to achieve its objectives. The business needs to determine, as part of its strategic plan, where in the value chain it wants to position itself and which strategic actions are required to realise these objectives. The business needs to select certain methods to either move up, down or sidewise in the value chain. A variety of methods exist by which a business can pursue its strategy, for example, licensing, joint ventures, dealerships, etc. It is however important to note that any of these methods fall either under internal or external growth strategies.  14.4 EXTERNAL GROWTH METHODS (continued) Figure 14.3 Growth strategies and methods of implementation  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.1 Mergers A merger and or acquisition acquisitions refers to two or more companies being combined to form a new business. The difference between a merger and acquisition is in the manner in which this combination is achieved. An acquisition refers to a business purchasing another business, or part thereof. The business that makes the purchase is referred to as the acquirer, and the business being bought is referred to as the acquired. A merger is similar to an acquisition in that two or more companies are combined into a new business, or included as part of an existing business. A merger however differs in that it is much more collaborative, voluntary and mutually entered into. In an acquisition, there is one dominant business, the acquirer, who sets the terms and determines the future of the acquired. A merger on the other hand provides for two or more  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.1 Mergers and acquisitions (continued) Advantages and benefits of mergers and acquisitions (Pettinger 1996; Uddin 2017): Increased shareholder value through a combination of two companies Synergies in revenue generation and cost optimisation Unlocking value for shareholders of the acquired by selling part of the business Access to specialised and new technologies Access to intangible assets  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.1 Mergers and acquisitions (continued) Advantages and benefits of mergers and acquisitions (continued) Reduction in input resources Shorter time frame to grow Improved productivity, distributive or financing capacity Control of production capacity, price and value in a sector Risk reduction Improved bargaining power Access to high profile brand names  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.1 Mergers and acquisitions (continued) Challenges to the success of mergers and acquisitions Incomplete due diligence. When considering acquiring, or merging with, another business, careful examination of financial and non-financial aspects must occur. The financial statements, over a period of years, needs to be examined to determine any underlying trends, financial health and strategic performance. Organisational culture. Organisational culture refers to the values, traditions, norms, beliefs and behavioural patterns that are unique to a business. When two businesses come together, there will most certainly be differences in culture and management style. Cultural differences are one of the most common reasons why mergers and acquisitions fail, as the culture of two businesses may be incompatible.  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.1 Mergers and acquisitions (continued) Challenges to the success of mergers and acquisitions (continued) Implementation difficulties. Implementation should start when mergers or acquisitions are contemplated as a strategy or method of growth. It should not start only when the agreement is signed. This means that the focus should not only be on the strategic aspects of the merger and acquisition, but also on the operational.  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.1 Mergers and acquisitions (continued) Requirements of the Competition Act The Competition Act 89 of 1998 (as amended) provides for the establishment of a Competition Commission. The Competition Commission must be notified of mergers. Parties to a “small” merger (Section 13) need not notify the commission. The Competition Commission regularly publishes threshold values which determine whether it must be notified of a merger. Fees are payable to the Competition Board to consider the approval of mergers. These are referred to as merger notification filing fees. No notification fee is payable for a small merger.  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.2 Joint ventures Joint ventures are formed when two or more existing companies agree to work together by forming a new entity. Also referred to as strategic alliances. Joint ventures can be established for a specific singular transaction, such as for a tender, or for an ongoing strategic purpose with multiple transactions.  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.2 Joint ventures (continued) Joint ventures are most suitable when – an external business has specific capabilities and resources that cannot easily be replicated internally – a mutually beneficial relationship is possible – each participant must be able to contribute unique capabilities and resources to the joint venture – joint planning and management of the new business is possible – a clear objective and benefits of the business exist – expectations regarding the results of the joint venture are reasonable and realistic.  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.3 Franchising Franchising, similarly to licensing, provides the entrepreneur with a low-risk method for external growth. The benefits of franchising for the entrepreneur are as follows: – Low-risk growth strategy, as the franchisee carries the financial and operational risk of building the franchise outlet – Rapid growth for the franchisor with little need for raising additional capital – Additional once-off and ongoing revenue for the franchisor in the form of the franchise fee, marketing fee and royalties – Retain ability to control branding and product development – Conversion of existing intellectual property into ongoing revenue streams – Conversion of independent operators into franchisees, thereby eliminating competition  14.4 EXTERNAL GROWTH METHODS (continued) The downsides of franchising for the entrepreneur are as 14.4.3 Franchising (continued) follows: – Difficulties in quality control and SOP adherence as franchisees run their operations independently – Conflict with franchisees might be difficult to resolve as the franchise agreement only allows for termination under specific circumstances – Ongoing revenue in the form of the marketing fee and royalties are dependent on the success and turnover of the franchisees – Limited growth in certain territories owing to limitations contained in the franchise agreement, such as limiting the number of outlets in a geographic area – Franchised outlets may be less profitable than company- owned operations due to lack of involvement of the entrepreneur  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.4 Alliances Alliances can involve two or more partners who pool resources, expertise and knowledge in order to pursue a common strategy. Alliances have the benefit that they are less formal and can therefore be disbanded quicker should they not achieve the intended objective. Alliances can take the following forms: – Equity alliances. This type of alliance results in the formation of a new entity that has joint ownership by the different partners. The term joint venture is used when two companies engage in an equity alliance. Should more than two partners be involved then the term consortium alliance is used. – Non-equity alliances. This type of alliance is less formal and does not rely on joint ownership of a new entity. The relation of the different partners involved in a non-equity alliance is governed by contracts with specific objectives, deliverables and mandates.  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.5 Exclusive agreements Exclusive agreements, also referred to as exclusive contracts, are a common feature in the business landscape. Exclusive agreements are formed when one business grants another business the right to exclusively manufacture, market or sell a specific product or service. The benefit for the entrepreneur is that a greater market can be reached without having to invest in a manufacturing plant or a marketing team.  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.6 Licensing Owners of intellectual property (IP) hold the right to use, sell and transfer temporary or permanent use of the IP to a third party. IP refers to creations of the mind that are not tangible. Licensing refers to the IP rights owner granting a third party the use of the right in exchange for remuneration. Remuneration can be in the form of an upfront lump sum payment or ongoing royalties. The person or business holding the rights to the IP is referred to as the licensor, while the business acquiring the right to use the IP is referred to as the licensee. The agreement that spells out the rights and responsibilities of both licensor and licensee is known as the license agreement.  14.4 EXTERNAL GROWTH METHODS (continued) 14.4.7 Dealerships A dealership is a common form of business licensing in the motor industry. A dealership is granted by a manufacturer the right to sell and distribute a manufacturer’s products in a specific geographic area. In the motor industry, it is important to specify this geographic region in order to avoid cannibalisation of sales between dealerships which are located in close proximity. The dealer gets the exclusive rights to a specific territory and the right to operate under the manufacturer’s trade mark. The dealer is required to maintain the standards and corporate image demanded by the manufacturer. This not only refers to the selling of the product, but also the after-sales experience, such as servicing and customer relations.