Term Paper, 2015
9 Pages, Grade: 1,7
Different approaches to corporate parenting; portfolio manager and synergy manager and their suitability for corporations with different levels or types of diversification
Comparative advantages and disadvantages of organic development, mergers & acquisitions and joint ventures
Mergers & Acquisitions
This report presents the two different approaches to corporate parenting; portfolio manager and synergy manager and analyses how the different approaches might be suitable for corporations with different levels or types of diversification. The different methods of strategic development; organic development, mergers & acquisitions, joint ventures and their comparative advantages and disadvantages will be elaborated by using real life examples of companies.
There are various corporate parenting approaches which may add value to business units. These include parental developer, portfolio manager and synergy manager. For this, the relationship between head office and strategic business units (SBUs) is examined in context of adding value to SBUs (Daum, 2012). This section presents the two different approaches to corporate parenting: portfolio manager and synergy manager.
A portfolio manager acts the role of an ‘agent’ in financial markets with the responsibility and task to achieve the highest possible value from businesses (Johnson et al, 2014).
When the portfolio manager is used as a corporate parenting approach, the parent company will conduct a portfolio of investments in pretty much the same way which would be taken by investors to conduct the portfolio management of shares in various firms. Corporate parents acting as a portfolio manager usually adopt a conglomerate diversification strategy and thus do not look at possible synergies and the relatedness of SBUs in the portfolio. As a result, portfolio managers are rather suitable for the level of unrelated diversification, meaning that a company produces products which are not related to each other (Johnson et al, 2015).
The major task of a portfolio manager is to create additional value which can be done by different approaches. Additional value can only be achieved when the parent company is able to conduct portfolio management of businesses superior than its shareholders were able to, if they would make direct investments in the equity market (Abdulla & Mehmood, 2013). One major way is to classify and acquire assets and businesses which are under-valued and to develop them by improving performance and management. This can be done by acquiring another company, divesting low-performance SBUs within it and interfering to enhance performance of SBU with potential. Another option to add value is to sell over-valued businesses or under-performing businesses with less potential which are not expected to be improvable in future (Campbell et al, 1995). Furthermore, portfolio managers are specialised in figuring out restructuring opportunities in organisations and are knowledgeable in interfering if the performance of SBUs is declining. All these approaches lead to additional value of SBUs if conducted successfully.
However, in today’s time, it is argued that demand of portfolio managers has declined as financial analysts are also able to analyse opportunities and to propose solutions for businesses especially for businesses affected by underperformance (Johnston et al, 2007).
When adopting the synergy manager approach, the headquarters’ responsibility is to find future opportunities for synergies and to add value to SBUs by managing synergies across SBUs (Daum, 2012). The major task is to create synergies across the SBUs and develop applicable bases and benefits which may offset costs. Synergies are considered to be connections between SBUs which create additional value for each of them (Goold et al, 1998a). Successful synergies are mostly created in regard to related diversification. Related diversification relates to expanding product lines which are similar to existing products. In the case of related diversification, successful synergies between the SBUs are achieved by sharing identical resources and skills which makes it more efficient to exploit economies of scale (Johnson et al, 2007). This effect may enhance the SBUs to decrease costs and increase revenues, leading to an improved ROI (Goold et al, 1998a). Furthermore, synergies are also generated when SBUs are able to have a joint activity. Both activities may lead to decreasing operating costs (Campbell & Luchs, 1998). All unique skills and competences established by each SBU can be transferred to the other SBU which also lead to synergies, enhancing comparative advantage of each SBU. Decreased operating costs and the creation of synergies can only be achieved if all SBUs share the same resources which can be utilised for each SBU (Johnson et al, 2015). When using the diversification strategy, it is expected that additional value and wealth is created which the firm would not achieve without employing the diversification strategy.
However, adopting the synergy manager approach, when using the diversification strategy, may bring difficulties for the parent company if SBUs are widely-diversified. In this case, although synergies of SBUs might be achievable, it is difficult for the parent company to realise them. Excessive costs might be a problem. The integration of businesses and activities is accompanied by costly investments and opportunity costs and thus has to be outweighed by benefits generated by successful synergies (Goold et al, 1998b). Moreover, due to differences in cultures, a cultural clash between each SBU may arise which may make a successful cooperation more difficult for managers of the SBUs. Another problem of creating successful synergies is that managers often lack knowledge of methods of implementing and adapting diversification strategies for existing SBUs and how to coordinate them with new SBUs. When exploring synergies, there may also be a problem in a horizontal diversification even after acquiring a company as managers are still struggling with integrating the new businesses into their company’s existing portfolio of businesses. The different organizational cultures make it difficult to link the SBUs together (Johnson et al, 2014).
Firms, which are pursuing organic development, rely and build on their own internal capabilities to grow further.
When companies pursue this strategy, they often decide to use a diversification strategy or new product development strategy (Johnson et al, 2014). Diversification involves offering a new product for new markets (Ansoff, 1957). By exporting new products into new markets, a firm may increase its revenues which can be retained in investing R&D to expand production capacity and to improve the development of new products and thus technical knowledge and learning and know-how (Johnson et al, 2014). New markets can also be considered as new target markets (Ansoff, 1957). When Mackie’s Ltd launched their new products such as chocolate or smoothies (Mackies, 2015) it targeted a new market with a new product range, enhancing Mackie to increase its turnover, market knowledge and market shares in the given markets. When Amazon developed its Kindle product, it was relying on its existing internal capabilities to develop a new strategy which strengthened its organisational and technical knowledge (Johnson et al, 2014). As new business operations are created in the existing cultural environment, the risk of a clash of culture is minimised.
However, growth may be slow or limited which may be a negative signal to shareholders leading to less share capital as shareholders prefer rapid growth (Locket, 2009). Relying only on existing capabilities may hinder growth of a company as it may inhibit internationalisation and creation of innovations which are important contributors for competitiveness (Johnson et al, 2014). Furthermore, competitors may employ external growth strategies and merge with other competitors or important companies which may increase the competitor’s competitiveness and market share (Favaro et al, 2012).
Mergers and acquisitions (M&A) are frequently conducted in order to achieve the firm’s growth strategies and objectives (Gaughan, 2014). A merger evolves from an amalgamation of two independent organisations to create a new company. An acquisition is present when a company purchases the majority of shares in the company to be acquired (Gomes et al, 2011).
M&A enhance to rapidly establish its presence in new foreign markets. Competition within a given industry can be reduced by a merger of two competitors leading to a share of important resources and product efficiency and thus leading to an increased market power (DePamphilis, 2011). After Procter & Gamble acquired Gillette, both benefited from the acquisition as it facilitated to introduce their new products into new markets more efficiently and quickly, leading to a stronger competition position. Furthermore, higher sales could be generated as P&G had developed higher sales in some emerging markets whereas Gillette boosted sales in others, which increased market shares (McKinsey, 2010). This power is also accompanied by economies of scale and scope leading to a stronger competitive advantage. M&A make possible to acquire essential resources, core competencies, capabilities and know-how which are important factors especially for high-tech companies (DePamphilis, 2011). Cisco Systems acquired companies in order to gain essential skills and knowledge, closing its gaps in technology, which enhanced Cisco Systems to build technology faster and at lower price (McKinsey, 2010).
However, M&A carry a high risk of failure. Problems are overoptimistic forecasts of synergies and a too high acquisition premium (Kim et al, 2011), which was the case of the acquisition of Chrysler by Daimler in 1998. Daimler paid 40% over Chrysler’s market value and expected synergies leading to a greater benefit of economies of scale, increase in market shares in the US market and thus a boost in profitability. However, contrary to Daimler’s expectations, Chrysler experienced weak sales and expected values, created by overoptimistic synergies, leading to a decline in profits and market shares (The Economist, 2000). Another difficulty is cultural mismatch. After the DaimlerChrysler merger, differences in both organisational cultures such as decision making and structures e.g. flat-hierarchies vs. top-down-management has led to a failure of a shared corporate culture and loss of top managers which harmed the company’s performance (Hollmann et al, 2010).
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