Indian Conglomerates Diversification & Performance.
| Author | Bhattacharyya, Som Sekhar |
Introduction
Strategic management literature seeks to explore methods of firms to attain sustainable competitive advantage (Porter, 1980; Porter, 1985). Strategic management literature basket is filled with methods for firms to attain sustainable competitive advantage by means like developing core competencies (Prahalad & Hamel, 2006) internationalization (Verbeke, 2013), Mergers &Acquisition (Kusewitt, 1985) and many others. In the basket of strategies that a firm can pursue diversification occupies a large territory. Emerging economies has been characterized by high growth (Bhattacharyya, 2011). Firms in emerging economies have often grown substantially over a period of few decades because of high domestic demand. After witnessing growth in single line of business with cash and slack resources emerging economy firms undertook diversification to related and unrelated businesses to register further growth as a next strategy (George & Kabir, 2012; Coad, 2009; Das & Kapil, 2015; Tan& Peng, 2003). In the context of emerging economies the path of diversification led to higher performance and in some cases weaker performance results (Das & Kapil, 2015; Tan& Peng, 2003). The question of diversification in emerging economies is still unsettled (Khanna & Palepu, 2000; Yiu, Lau & Bruton, 2007). In this article the author analyses data of 7 Indian conglomerates representing 324 companies and 80 industries so as to secure a better understanding of their performance while employing diversification strategy in the emerging economy context.
Literature Review
The world of business strategy gained momentum in 1960s but the question of firms to diversify or not has been as old as the history of business (Rumelt, 1982). For strategy managers when, how and what to diversify from their current business line has always been a dilemma (Palepu, 1985). Firms are positioned to contemplate on the question of diversification when they have attained a substantial scale advantage in its defined market with sufficient utilization of management bandwidth (Christensen & Montgomery, 1981; Rumelt, 1982; Palepu, 1985). The work of Khanna (2005) had deliberated on whether it was prudent to diversify in developed economies or in developing economies with presence of more institutional voids.
There has been substantial work on diversification literature documenting the reasons and need for diversification, the circumstances and factors required for successful diversification, the constraining factors in unsuccessful diversification (Montgomery, 1994; Palich, Cardinal & Miller, 2000; Varadarajan & Ramanujam, 1989). Palich, Cardinal and Miller (2000) had mentioned that the diversification has been a central concept of enquiry in strategic management literature. According to the author diversification encompasses both strategic planning and implementation towards entering in to new product categories with expansion of value chain activities (Bausch & Krist, 2007). When a firm gets into a product line with distinct value chain activities it can further expand into newer market segments and geographic locations (Yiu, Lau & Bruton, 2007; Bausch & Krist, 2007).
Diversification strategies can be classified into different types as given by Rawley and Simcoe (2008). Diversification strategy can be horizontal or vertical (Rawley and Somcoe, 2008). Vertical diversification means that a firm extends its value chain (Porter, 1985) either upstream or downstream or both (Montgomery & Singh, 1984; Reed & Luffman, 1986). Upstream vertical integration means a firm getting into the business of its suppliers like a steel manufacturing firm getting into the business of iron ore mining. Vertical integration by diversification can also be towards the customer or seller side (Montgomery & Singh, 1984; Reed & Luffman, 1986). This is diversification downstream. Example of this kind of diversification is of a coal mining firm into becoming a thermal power plant or an iron ore plant becoming a steel plant. Vertical diversification entails a firm in getting into production life cycle or associated activities either for an earlier or later stage (Porter, 1985; 1980; Rumelt, 1982). Vertical diversification helps firms in upstream integration to get better access to raw-materials in desired quality and lower cost in right time (Rumelt, 1982; Palepu, 1985; Geringer, Beamish & DaCosta, 1989). Diversification by vertical integration in downstream helps a firm to control retail market better by understanding retail market better, reducing the bargaining power of retailers and reaching closer to the consumer (Rumelt, 1982; Palepu, 1985; Geringer, Beamish, & DaCosta, 1989).
In horizontal diversification, a firm having a set of resource and capabilities, with a focus on a particular line of business with a defined value chain gets into a new line of business with requirement of newer resource and capabilities and a different set of value chain activities (Aoki, 1986; Ensign, 1998). Thus, in horizontal diversification the extant value chain is added on with a very different value chain altogether (Li, 2014). Example of horizontal diversification could be that of a fruit farm producer becoming a logistics truck owner. The focus in horizontal diversification is to acquire new sets of customers whereas the focus of vertical diversification is on primarily the existing base of customers (Li, 2014; Aoki, 1986; Ensign, 1998).
Diversification strategies can be further classified as defensive or offensive (Njuguna, 2013). The author pointed out that in offensive diversification a firm has more cash or slacks than its need of incremental expansion then the firm acquires business lines in new products or markets more with an attacking instinct. Defensive diversification strategy, on the other hand, is motivated to avert risk (Park, 2002). A firm undertakes defensive diversification when it is attacked by other firms substantially (Park, 2002). In defensive diversification a firm diversifies to increase its portfolio of businesses so that it can avoid the risk of being hit by other competing firms in a particular line of business (Park, 2002; Njuguna, 2013).
The literature on diversification strategy also dwells on related and unrelated diversification (Park, 2002). According to Varadrajan and Ramanujam (1989), if a firm enters a new line of business that requires changes in the organizational management process systems and administrative structures substantially then it is termed as unrelated diversifications. According to Hoskisson, Hill and Hitt (1992), if the diversification is very different from the extant product lines of the organization then it is classified as unrelated diversification. Otherwise it is related diversification. Chang (2003) had classified diversification in terms of geographical expansion; if diversification leads to expansion into international market then it becomes international diversification. Otherwise it is domestic diversification.
From the beginning of business firms worldwide have applied diversification as a strategy for growth (Zahra, Ireland & Hitt, 2000). The prominent logical reasons for diversification has been to increase firm profitability, increased market share, inducing higher growth, reduction of business risks, extension of business value chain, more efficient utilization of resources and increase financing capacity (Zahra, Ireland & Hitt, 2000). Adner and Zemsky (2015) categorised diversification decisions into three key components depending upon the relative degree of industry association nature. These are the fixed cost related to diversification strategy, firm growth opportunity because of diversification and the extent of home market competitiveness (Adner & Zemsky, 2015). Adner and Zemsky (2015) advocated that diversification initiatives affect both the firm competitiveness as well as the structure of the market in which the firm enters. Their research also indicated that enhanced relatedness in diversification increased firm competitiveness. The work of Stopford...
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