EXTERNAL GROWTH STRATEGIES

External growth is commonly achieved by any of the following strategy development methods.
Acquisition – This is a combination of two or more firms in which one buys up the assets and liabilities of
the other in exchange for stock or cash.
Mergers – A situation in which two or more companies dissolve and use their assets and liabilities to
form another company with new stocks.
Joint Ventures – Occasionally two or more capable firms lack a necessary component for success in a
particular competitive environment. The two or more firms can come together to form a joint company
for the benefit of co-owners or parent companies.
Integration – Purchasing arrangement that enables a company to acquire a company or unit behind or
ahead of its value chain.

Reasons for Pursuing External Growth

To help reduce competition by purchasing a competitor.
To acquire needed resources quickly
To fill a company’s product line.
To improve stability of a firm’s earnings.
To develop synergy for efficiency and profitability.
To replace declining products and to renew life cycle of declining products.

STRATEGIES FOR EXTERNAL GROWTH

Horizontal integration
Vertical integration
Concentric diversification
Conglomerate diversification

These strategies allow a firm to gain control over distributors, supplier’s and or competitors,
1. Horizontal Integration
Horizontal integration refers to a situation where a firms long-term strategy is based on growth through
the acquisition of one or more similar firms operating at the same stage of production and marketing
chain.
Such acquisition or mergers eliminate competitors and provide the acquiring firm with access to new
markets e.g Oil Libya acquiring the stake in Mobil (K) Ltd., Smithklime and Beecham Kenya Ltd, Nike’s
acquisition of companies in the dress and shoes industries.
Reasons for horizontal integration
To increase economies of scale
To eliminate close substitutes
To jump start a financially defiant but promising star or question mark.
To utilize excess resources i.e. funds and skills
To take advantage of the growth characteristics of the industry – high or slow.

Situations that warrant the adoption of horizontal integration

When a firm’s present distributors are expensive, unreliable or incapable of meeting a firms growing
needs
When a firm has excess capacity of capital and human resources
When the present distributions or retailers have a high profit margin i.e a company can profit more by
distributing its products. E.g oil companies like Shell, Mobil, etc.
2. Vertical Integration
Vertical integration refers to a situation where a firms grand strategy is to acquire firms that supply it
with inputs or are customers for its outputs.
If the firm acquired operated at an earlier stage of the value chain of the acquiring firm i.e supplier, it is
to a case of backward vertical integration e.g EABL and Barley farmers, Mumias and Sugarcane farmers.
If the firm merges with firms ahead of it in the value chain i.e firms that offer marketing and services to
ultimate consumer then it is a case of forward vertical integration e.g Safaricom buying distribution
outlets, Firestone acquiring a distribution outlet.
Situations that warrant vertical integration
When a firm present suppliers are especially expensive, unreliable or incapable of meeting firm’s needs.
When an organisation competes in an industry that is growing rapidly.
When a firm seeks to stabilize the selling price or the costs of raw materials.

Strategic benefits of vertical integration

Assured supply of raw materials in low or high seasons.
It is a way of reducing supplier and buyer powers.
Increases overall return on investment
Results in economies such as reduced handling and transport costs, better co-ordination and control,
fewer transaction costs, etc.

Strategic costs of vertical integration

Results in increased fixed cost. A consequence of this increased operating leverage is that the business
is exposed to higher risks.
Firm may not be able to establish a competitive advantage as that of an exclusive supplier or distributor
who have expertise knowledge.
The new parts of the organization may require a change in management, culture, skill orientation, etc.
which may be costly to implement.

DIVERSIFICATION
Diversification is the creation of products similar to the one existing or creating products completely
different from existing ones but which may appeal to existing and new customers.
Reasons for Diversification

Diversification is necessary where a firm is competing in a highly competitive or no growth industry.

Necessary where addition of new unrelated products results in additional revenue.
Where an advantage or unforeseen opportunity emerges in the market.
Where current products and market is unable to meet firm’s profit objectives.
Where the present distribution channels can support or be used to market the new products to current
customers.

Advantages of Diversification
Reduces dependency on single product and market.
Increases product line profitability.
Puts excess capacity into use.
A profit driven strategy.
Develops synergies and economies of scale.
May provide a route out of an industry on decline.

Disadvantages of Diversification
New business and markets may require heavy capital investment.
More suitable for very large companies.
Brings a wide range of challenges.
Returns realized in the long term and a high risk strategy.
May develop a tendency to switch effort from current business to the new one.

Types of Diversification Strategies

Concentric diversification
Conglomerate diversification.

Concentric diversification
Concentric diversification is the involvement in production or provision of services that are related to
the current products and services to achieve synergy e.g. KCA to KCAU, e.g. Coca cola deciding to
produce and sell Dasani
Concentric diversification might involve the acquisition of businesses that are related to the acquiring
firm in terms of technology, markets or products e.g The Sarova-Stanley Hotels, KLM and KQ.

With this grand strategy, the selected new businesses possess a high degree of compatibility with the
firm’s current business.
A concentric diversification is said to be a success story if the combined company:
Registers higher profits
Uses its strengths and opportunities to optimize performance
Faces reduced weaknesses and exposure to risk.

Conglomerate Diversification
Conglomerate diversification is the involvement in production of products or provision of services that
are not related with the current products and services e.g. EABL deciding to produce Alvaro.
Conglomerate diversification is often practiced particularly by very large firms that decide to acquire a
smaller business because more profitable business venture. Thus the driving force behind conglomerate
diversification is increased profitability e.g in Kenya The Scan Group practises acquisition of small
profitable firms as a conglomerate diversification strategy.

Means of achieving strategies

Cooperation among competitors
Strategies that stress cooperation among competitors is being used more .for collaborations among
competitors to succeed, both firms must contribute something distinct such as technology, distribution,
basic research, or manufacturing capacity.

Joint venture/partnering
It occurs when two or more companies form a temporary partnership or consortium for the purpose of
capitalizing an opportunity that is too complex, uneconomical or risky for a single firm to pursue.
Often two or more sponsoring firms form a separate organization and have shared equity ownership of
the new entity. Other types of cooperative arrangements include research and development
partnerships, cross distribution arrangements and join bidding consortia.
Joint venture and cooperation arrangements are being used increasingly because they allow companies
to improve communications and networking, to globalize operation and to minimize risk.
such businesses are used when achieving competitive advantage when an industry requires broader
range of competences and know how than any one firm can
Although joint venture and partnerships are commonly used as means of achieving strategies some of
them are not successful. A few common problems that cause their failure are as follows.
Managers who must collaborate daily in operation the venture are not involved in forming or shaping
the venture
The venture benefiting partnering firms but not the customers
Both partners may not support the venture
The venture competes with one of the partners.

Joint ventures are especially effective when

a privately owned organization ifs forming a join venture with a public owned organization. there are
some advantages to being privately owned such as close ownership and there are some advantages to
being public held such as access to stock issuances as a source of capital. sometime the unique
advantages of being privately and publicly held can be synergistically combined in a joint venture.

When a domestic firm form a joint venture with a foreign company. a joint venture can provide a
domestic company with the opportunity for obtaining local management in a foreign company thereby
reducing the risk such as expropriation and harassment by host country.
When the distinct competencies of two or more firms complement each other especially well.
When some project is potentially very profitable but require overwhelming resources and risks
When two or more smaller firms have trouble competing with a large firm
When there exists a need to quickly introduce a news technology.

Mergers and Acquisition

This are two commonly used ways of pursuing strategies, a merger occurs when two organizations of
equal size unite to form one enterprise .an acquisition occurs when a large organization purchases
(acquires a smaller firm )or vice versa .when a merger or acquisition is not desired by both parties it is
called a takeover or hostile take over. in contrast if it is desired it is referred to as friendly merger. most
mergers are friendly.
Mergers and acquisitions can take either of the following form:
Concentric
Conglomerate
Vertical
Horizontal

Reasons for Mergers and Acquisition

To improve the competitive position of the firm: absorb competitors and purchase strengths and
competencies that is missing currently
To broaden the product lines for growth
When it is the best way to increase market share
To minimize fluctuations in sales and earnings ration
To acquire necessary resources: cash flow, technology skills, physical assets, patents, raw materials and
market access
To increase efficiency from the synergy effects
To secure survival in times of difficulties
To increase the value of the firm’s stocks
to reduce tax obligations
To gain access to suppliers distributors, customers, products, and creditors.
To gain economies of scale.

Considerations for successful merging and acquisitions

Must be properly planned
Must have human as well as financial considerations
Must be legal: reducing competitions may be illegal in some countries
Must provide synergy
Provide priority to internal development

Mergers and acquisitions may fail because of the following reasons,

Integration difficulties.
Inadequate evaluation of the target.
Large debts
Inability to achieve synergy
Too much diversification
Managers overly focused on acquisition
Too large acquisitions
Difficult to integrate different organizational cultures
Reduced employee morale due to layoffs and relocations

Technical Difference between Mergers and Acquisitions

Activities in both mergers and acquisitions look the same because in both cases the assets and liabilities
are merged.

Otherwise when one company come up in the forefront to have its name retained at a fee or by
acquiring over 50% of the other it becomes an ACQUISITION. It is like the company has been bought out.

When both companies merge at 50 to 50 or to a fairly balanced stock holding like 45 to 55, there can be
an agreement to retain both names of the merging companies and this still qualifies as a MERGER and
not acquisition.

When all the companies merging agree to loose all their names and form a company with a totally
different name, it becomes a CONSOLIDATION

INTERNATIONAL STRATEGIES
These are strategies that send a firm into doing business overseas or off-shore. A firm may go overseas
due to two factors:

Push Factor - When a firm globalises because domestic business is inadequate

Pull Factors - When a firm globalises because there is a tremendous opportunity overseas
Push Factors

A firm may globalize because domestic business is inadequate.

To fight a major competitor at home and reduce its ability to fight by reducing its margins.
Declining home market
Adverse economic conditions in a country
Better tax management policies by certain foreign countries
The need to diversify business risk

Pull Factors

Ready market opportunities availability beyond the home boundaries

Reduced barriers of trade outside ones country
Better laws and regulations internationally which encourage trade
Prestige of a company acquiring an international status
Incentives offered by the government to encourage business competitiveness i.e. reduced taxation,
subsidies etc.

Factors that discourage Internationalization

Risk of technological pirating
At times extension of PLC may not be cost effective.
Slow adoption in a foreign market may diminish economies of scale.
Tariffs and other trade barriers.
Cultural complexities.
Instability of the foreign political environment.

The Strategic Options for Internationalization

Exporting
Licensing
Franchising
Joint venture
Off-shore production
Wholly owned subsidiaries
Alliances

1. Exporting
Exporting is the selling of a company’s products in a foreign market. It is the primary means of
penetrating a foreign market.
Before exporting, a company needs to modify the product performance or attributes to meet special
foreign demands.
Exporting requires minimal capital investment
The company maintains its quality control standards over finished goods for export market.
2. Licensing (Contract Manufacturing)
Licensing is an arrangement whereby a company is allowed to manufacture a product or service which
has been designed by someone else and protected by a patent in a foreign destination. It is not only
confined to international areas.
Licensing involves the transfer of industrial property right trade marks, or technical know-how from the
licence holder to a licensee for an agreed pay over a contract period e.g Toshiba, Sony etc. have licenses
in Kenya who assemble the various parts of these companies products to produce a final product.
The key merit of licensing is that it reduces the cost of producing off-shore and minimizes the risk of
entry into a foreign market.

The major problems include:

The foreign partner may gain the technical knowledge and experience and evolve into a major
competitor, after the contract expires e.g USA electronics and Japanese companies.
The licensor forfeits control on production, marketing and general distribution of its products.

3. Franchising
Is a special form of licensing, which allows the franchisee to sell a highly published product or services
using the parent’s brand name on trademark, carefully developed procedures and marketing strategies.

In exchange, the franchisee pays a fee to the parent company, typically based on the volume of sales of
the franchiser in its defined market area.
The franchisee bears most of the costs and risks of establishing foreign locations. The franchiser only
spends resources to recruit, train and support franchisees.
The big problem a franchiser faces is maintaining quality control; many foreign franchisees do not
always exhibit strong commitment to standardization perhaps because they are supported by a local
culture that does not value quality
The franchise is operated by the local investor who must adhere to the strict policies of the parent.
Examples of franchising arrangements in Kenya, Kentucky Fried Chicken (Kenchick), McDonalds, Coca-
Cola, Bata, Trueworths, Hilton Hotel, and Identity.

4. Joint Venture
Arrangement between a company and another to undertake in another country a common venture to
enable them share technology and expenditure e.g many companies have moved to China to operate
joint ventures due to the low costs of production in China.
Because joint ventures begin with a mutually agreeable pooling of capital, production marketing
equipment, patents, trademarks, and management expertise, they offer a more permanent cooperative
relationships than export or contract manufacturing.

The key merits of this approach include:

Financial advantage – As two or more firms team up, the JV tends to enjoy an increased capital base.
The firm also pays lower taxes relative to a purely foreign investment.
Has little legal barriers as compared to other international entry strategies.
Ease of market access - The local partner already has vast knowledge of the market making it easy for
the JV to access it.
Better distribution system – A foreign firm quick uses the distribution network of a local firm to
distribute its products or services.
The key demerit of this approach include:

Different objectives – the foreign firm might have the objective of maximizing profits in the short run
while the objectives of the local firm could be to be profitable in the long run resulting in a conflict of
interest.
Fear of nationalization – Foreign firms that enter a joint venture with local firms may fear that eventually
they may be nationalized.

5. Off-shore Production (Foreign Branching)

A foreign branch is an extension of the company in its foreign market
A foreign branch is a separately located SBU directly responsible for customer service, actual selling, and
physical distribution of the product or service e.g ABSA, Standard Chartered, BAT.
Most host countries require that the branch be “domesticated” i.e have some local managers

6. Wholly Owned Subsidiaries

This is the form of operation portrayed by many multi national companies.
Wholly owned subsidiaries are companies formed in foreign destinations but fully owned by a parent
company whose headquarters is out of the country of operation.
There are two methods of achieving wholly owned subsidiaries:
Setting up a new business premises abroad also called Greenfield venture.
Take over of an existing business
Examples: The Sarova Group took over the Stanly Hotel

7. Strategic Alliances

A Strategic alliance is a project or organizational undertaking in which two companies come together to
launch and accomplish strategic pursuits without the parent companies losing their identity and
independence

Forms of Strategic Alliance

Joint Venture
Referral Licenses
Franchising
Subcontracting

NB: A Joint Venture is a case in which two companies come together to accomplish a specific project
after which the alliance may cease if not renewed
Strategic Issues of Strategic Alliances
Assets management: which one to be managed jointly and which ones will be independently handled
Separability of assets
The risk of one company appropriating assets for themselves i.e. know-how for their own internal
development.

COMPLEXITY OF GLOBAL ENVIRONMENT

Global firms face multiple political, economic, legal, social and cultural environments as well as various
changes in these factors.
Interaction between the national and foreign environments are complex, because of national
sovereignty issues and widely differing economic and social conditions.
Global firms face extreme competition, because of differences in industry structure
Global firms are restricted to their selection of competitive strategies by various regional blocs and
economic integrations.
Geographic separation, national differences, and variation in business practices all tend to make
communication and control efforts from the headquarters difficult.

International Risks Relative to Strategy

Wholly Owned
Level of Subsidiary
Investment Off-Shore
at Risk Production

Joint
Venture
Franchising

Licensing

Exporting

Ownership and control of Foreign Operation

DECLINING INDUSTRIES
A decline is a situation where demand for a company’s product/service is at a lower point than
maximum output.
There are two possible reasons for decline:
External
Technological change
Change in social values or fashions
Competitive forces
Changes in industry structure.
Internal
Poor management
Inadequate marketing effort
Inadequate financial control
Poor acquisition
Overtrading

Symptoms of Company in Decline

A decline in sales volume in comparison with industry trends
An increase in the level of gearing due to increased indebtedness.
Liquidity problems as measured by current and acid test ratio.
Accounting practices including delays in publishing them
A significant staff turnover at management level.
Declining profitability reflected in a decline in profits before tax or a reduction of ROI.

Strategic Options for Declining Industries

1. Retrenchment strategies
It occurs when an organization regroups through cost and asset reduction to reverse declining sales and
profits. Sometimes it is also called turn around or reorganizational strategy. it is designed to fortify an
organizations basic competitive advantage.
Retrenchment can entail selling off land and buildings to raise needed cash, pruning product lines,
closing marginal businesses, closing obsolete factories, automating processes, reducing the number of
employees and instituting expense control system.
Retrenchment is an effective strategy when

When an organization have clearly distinctive competences but have failed consistently to meet its objectives and
goals overtime
When on organization is one of the weaker competitor in the industry

When an organization is plagued by inefficiency, low profit ability ,poor employee morale and pressure from
stockholders to improve performance.

When an organization has failed to capitalize on external opportunities, minimize threats, take advantage of
internal strengths and overcome weakness overtimes i.e. when strategic managers have failed.
When an organization has grown so large so quickly that major internal organization is needed.

3. Divestment strategy
Involves selling off part of the company to provide the much needed capital. it can be part of an overall
retrenchment strategy to rid an organization of businesses that are not profitable or do not fit well with
the firms other activities
It includes a management buy-out e.g. employed by Unilever to sell Kimbo and Cowboy to Bidco.

Divestment is an effective strategy when

When an organization has pursued retrenchment strategy and failed to accomplish needed
improvements
When a division need more resources to be competitive than the company can provide
When a division is responsible for an organization overall performance
When a division misfit with the rest of an organization, this can result from radically different
markets ,customers, managers, employees ,values, or needs.
when a large amount of cash is needed quickly and cannot be obtained reasonably from resources
When the government threatens an organization.
Liquidation strategies
Selling all of a company assets in part, for their tangible worth .this recognition of defeat and
consequently can be emotionally difficult strategy, it is better to cease operating then to continue
loosing large sum of money.

Liquidation is an effective strategy when

When an organization has pursued both retrenchment strategy and divestiture strategy and neither has
been successful.
When organization have only one option bankruptcy