Diversification occurs when an organization moves into areas that are clearly differentiated from its current businesses.
Diversification growth strategies may be appropriate for firms that cannot achieve their growth objectives in their current industry, with their current products and markets. Other reasons for a firm to diversify include the following:
- Markets of current business(es) are approaching the point of saturation or decline of the product life cycle.
- Current business(es) are generating excess cash that can be invested elsewhere more profitably.
- Synergy is possible from new business (for example, because of common component part, costs can be spread among more units).
- Antitrust regulations prohibit expansion in present industry.
- A tax loss can be acquired.
- The international sector can be entered quickly.
- Technical expertise can be gained quickly.
- New, experience executives can be attracted or current executives can be held (for example, if they are productive but bored).
But, whatever the reason for diversification, the firm must define the role of each business within the enterprise - successful diversification is not mere aggregation (which may come as a surprise to certain conglomerates).
According to Peter Drucker, "attempts to diversify without either a foundation in common market or in common technology are doomed to frustration."
He further concludes that diversification to make a business "countercyclical" - balancing the cycles of one industry with those of another - rarely works, nor do attempts to marry businesses with high demands for capital with those having a high cash throw off; the balance tends to change with time, invalidating the reason for the diversification.
There is one absolute requirements for successful diversification: unity values. The business unit's climate and values must be compatible and there must be "respect" for the businesses.
Most diversification strategies can be classified as concentric diversification and conglomerate diversification.
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