Diversification

TEACHING OBJECTIVES

1. Introduce students to concepts related to diversification, including the reasons why firms pursue diversification.

2. Describe related and unrelated diversification and the benefits and problems associated with each.

3. Summarize the limits of diversification with a focus on bureaucratic costs, and show how diversification can lead to value dissipation, rather than value creation.

4. Describe benefits, challenges, and implementation guidelines for the corporate-level strategy of internal new ventures.

5. Describe benefits, challenges, and implementation guidelines for the corporate-level strategy of acquisitions.

6. Describe benefits, challenges, and implementation guidelines for the corporate-level strategy of joint ventures.

7. Discuss the reasons why firms restructure, and illustrate several exit strategies.

OPENING CASE: TYCO INTERNATIONAL

From 1996 to 2001, the conglomerate Tyco International expanded rapidly, acquiring over 100 diverse businesses. Tyco’s business model is to seek to consolidate a previously fragmented industry in each of the industries in which it competes. Also, Tyco refuses to enter into risky hostile takeovers, instead looking for companies that make basic products and have a strong market presence, but are less profitable than their peers. The firm thoroughly investigates each potential target and replaces top managers with its own team. After acquisition, cost cutting becomes the focus, with incentives for executives whose units reach earnings objectives.

Tyco’s stock underperforms, because investors are put off by the complexity of its financial reporting and its heavy debt burden. Rumors that Tyco was conspiring with managers of the acquired firms to inflate Tyco’s performance persist. CEO Kozlowski resigned after being charged with tax evasion. John Fort, the new CEO, spun off Tyco’s finance division, and used the cash to pay down debts. Whether he can find a source of continuing profitability remains...