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In the last video,
we saw some examples of what diversification is,
but how can firms diversify?
What options do you have available if you want to diversify?
The firms in our previous examples go about diversification quite differently.
If you think back to our example of the Finnish post,
they entered the lawn-mowing business on their own.
They did that without the help of anyone else.
We call that organic growth.
The second example we looked at was Moxy,
a partnership between IKEA on the one hand and Marriott on the other hand.
That partnership, we call an alliance.
The last example was Fosun entering the oil business.
As you saw, they also teamed up with someone else,
which was the Australian company called ROC Oil.
Now it wasn't just an alliance,
Fosun actually bought ROC Oil.
We call that an acquisition or oftentimes referred to as an M&A.
M&A stands for mergers and acquisitions,
but we don't really care so much about the difference between a merger and acquisition.
So I'll be talking about an M&A or an acquisition interchangeably.
If you're considering diversification,
then we can describe the main choices that you have using something called a growth tree.
Let's walk through the tree step by step.
So at the top of the tree you are entering new business,
which is the diversification decision.
At the first branch,
the choice is between,
inorganic growth and organic growth.
That simply means, do you do it on your own,
organic growth, or do you team up with someone else, inorganic growth.
Within inorganic growth, you have the choice between an acquisition,
so-called M&A, or alliances.
What you see is that there's actually a further distinction within alliances,
and it's something called non-equity versus equity alliances.
Let's look in detail what that is.
Here's a continuum of relationship between firms.
On the one hand, you have what is called an arm's length relationship,
which entails very little interactions between two firms.
On the other side of the spectrum,
you have an M&A which entails a lot of interaction between two firms.
As we move from the left, arm's length,
towards the right, M&A, two things happen.
The first thing is that the intensity of collaboration between firms increases.
So let me just add that here.
The intensity of collaboration
goes up as we move from the left to the right.
The other thing that happens is that
the level of equity of one partner in another increases.
The level of equity goes
up as we go from arm's length relationship to an M&A relationship.
Now, equity simply means ownership.
So at the left hand side, there's no ownership.
On the right hand side,
one company actually owns another company.
Now, what does ownership do?
Basically, it does three things.
First, it aligns incentives between partners.
Second, it facilitates coordination.
And lastly, it enables information flow.
In the middle, between arm's length and M&A,
you have a category called alliances.
These are relationships between firms that cannot be managed by contract alone;
a close working relationship is needed.
It's different from an M&A in the sense that the partners remain independent,
whereas in M&A, one partner owns the other partner.
Alliances are also different from arm's length relationship,
in the sense that there's more collaboration ongoing.
Let's look in a bit more detail at
these different categories to really understand the differences between them.
So let's begin with the non-equity alliance.
Non-equity means no partner has an ownership stake in the other.
What I'm showing you here is actually four examples all entered into by Fosun.
So it turns out that Fosun has a non-equity alliance with
Daimler to help finance leasing contracts for the customers.
So basically, they formed an alliance.
So Fosun formed an alliance with Daimler,
which is a producer of cars.
There's intense collaboration, but there's no equity.
That means Fosun does not have a stake in Daimler.
Fosun also has an alliance with Cirque du Soleil.
Now, the difference with this one is,
is that it's an equity alliance,
meaning that Fosun has a stake,
an ownership stake in Cirque du Soleil.
The third example is Thomas Cook,
which is a company active in the tourism industry.
Fosun and Thomas Cook formed a joint venture.
This is actually an instance of an equity alliance,
but it has a specific structure.
Now, the first thing to note is that a joint venture really means it's a new venture.
So Thomas Cook and Fosun started a new company,
and it's joint in the sense that both companies are owners of that new company.
So Fosun is one owner,
Thomas Cook is the other owner in that new company.
Now, oftentimes, with joint ventures,
the split is 50/50.
I own 50% of the new venture,
you own the other 50%,
but that's not a given.
We can vary our ownership stake.
The last category is called M&A, and here,
the difference is really is that one company owns the other company.
So one company has full ownership of the other company.
Fosun bought ROC Oil,
that means Fosun is the owner of ROC Oil.
So we've seen the options of how to diversify.
At the very top of the growth tree,
we have the choice between inorganic and organic.
Within inorganic, we have the choice between M&A and alliances,
and then as the last step, within alliances,
you have equity versus non-equity alliances.
In the next video, we'll look at when to diversify.
Bart VannesteAssociate Professor
