Competitive
analysis and
strategy: part I
Notes mini-lectures
Session 1, 2, 3 and 4
, KU Leuven
Session 1: Horizontal boundaries of the firm and diversification:
easyGroup
Why do firms diversify? (diversification = in a different industry)
Some reasons are weak, and others are stronger
A. Efficiency reasons: potential benefits (= enhancing
profits/shareholder value)
1. Economies of scope
= reducing average cost by sharing resources and spreading
costs over industries and applying underutilized firm
capabilities (leveraging core competencies) in other product
markets: e.g., dominant general management logic (often only
possible for related businesses)
= relates to diversification: sharing costs across multiple
businesses in multiple markets and industries
x Economies of scale: increase activities in the same industry:
reducing average costs per unit when sales expand in a given
market
2. Economizing on transaction costs in buyer-supplier relationships
It is about vertically related businesses
If two businesses require strong vertical coordination and if
transactions involve relationship specific investments
3. Internal capital markets work better than (imperfect) external
capital markets
It might be quite costly to find financing in the external capital
market (higher risk premiums due to incomplete information
and difficult monitoring) to finance an investment in another
industry that is profitable in the eyes of the firm and the
shareholders may be hesitant
In the internal market, there is more knowledge: have better
information (preferential) than the market to spot the
profitable opportunity in the other industry
Less investigation in the opportunity because of excess cash
flows leads to unprofitable investments
Can apply to unrelated businesses
4. Risk diversification
Stable revenues and profits, which is good, but shareholders
could do their own diversifying in the portfolio according to
their own preferences: firm diversification does not create
much value
analysis and
strategy: part I
Notes mini-lectures
Session 1, 2, 3 and 4
, KU Leuven
Session 1: Horizontal boundaries of the firm and diversification:
easyGroup
Why do firms diversify? (diversification = in a different industry)
Some reasons are weak, and others are stronger
A. Efficiency reasons: potential benefits (= enhancing
profits/shareholder value)
1. Economies of scope
= reducing average cost by sharing resources and spreading
costs over industries and applying underutilized firm
capabilities (leveraging core competencies) in other product
markets: e.g., dominant general management logic (often only
possible for related businesses)
= relates to diversification: sharing costs across multiple
businesses in multiple markets and industries
x Economies of scale: increase activities in the same industry:
reducing average costs per unit when sales expand in a given
market
2. Economizing on transaction costs in buyer-supplier relationships
It is about vertically related businesses
If two businesses require strong vertical coordination and if
transactions involve relationship specific investments
3. Internal capital markets work better than (imperfect) external
capital markets
It might be quite costly to find financing in the external capital
market (higher risk premiums due to incomplete information
and difficult monitoring) to finance an investment in another
industry that is profitable in the eyes of the firm and the
shareholders may be hesitant
In the internal market, there is more knowledge: have better
information (preferential) than the market to spot the
profitable opportunity in the other industry
Less investigation in the opportunity because of excess cash
flows leads to unprofitable investments
Can apply to unrelated businesses
4. Risk diversification
Stable revenues and profits, which is good, but shareholders
could do their own diversifying in the portfolio according to
their own preferences: firm diversification does not create
much value
