VI. Allocating Corporate Resources
To exploit the advantages of diversification, corporate managers must make intelligent
decisions about how to allocate financial and human resources across the firm’s various
businesses and product-markets.
Three sets of analytical tools have proven useful in such decisions:
oPortfolio models
oValue-based planning
oModels that measure customer equity to estimate the value of alternative
marketing actions
A. Portfolio Models
These models enable managers to classify and review their current and prospective
businesses by viewing them as portfolios of investment opportunities and then
evaluating each business’s competitive strength and the attractiveness of the
markets it serves.
The Boston Consulting Group’s (BCG) growth-share matrix
oIt analyzes impact of investing resources in different businesses on the
corporation’s future earnings and cash flows.
oEach business is positioned within a matrix, as shown in Exhibit 2.6.
oThe vertical axis indicates the industry’s growth rate, and the horizontal axis
shows the business’s relative market share.
oThe market growth rate on the vertical axis is a proxy measure for the
maturity and attractiveness of an industry.
oA business’s relative market share is a proxy for its competitive strength
within its industry.
oIn the exhibit, the size of the circle representing each business is proportional
to that unit’s sales volume.
Resource Allocation and Strategy Implications
oEach of the four cells in the growth-share matrix represents a different type of
business with different strategy and resource requirements. The implications
of each are discussed below:
Question marks: Businesses in high-growth industries with low relative
market shares are called question marks or problem children. Such
businesses require large amounts of cash, not only for expansion to
keep up with the rapidly growing market, but also for marketing
activities to build market share and catch industry leader. If
management can successfully increase the share of a question mark
business, it becomes a star. But if managers fail, it eventually turns into
a dog as the industry matures and the market growth rate slows.
Stars: A star is the market leader in a high-growth industry. As their
industries mature, they become cash cows. They often are net users
rather than suppliers of cash in the short run.
Cash cows: Businesses with a high relative share of low-growth
markets are called cash cows because they are the primary generators of
profits and cash in a corporation. Such businesses do not require much
additional capital investment.
Dogs: Low-share businesses in low-growth markets are called dogs
because although they may throw off some cash, they typically generate
low profits, or losses. Divestiture is one option for such businesses,
although it can be difficult to find an interested buyer. Another common
strategy is to harvest dog businesses.
Limitations of the Growth-Share Matrix
oMarket growth rate is an inadequate descriptor of overall industry
attractiveness. Market growth is not always directly related to profitability or
cash flow.
oRelative market share is inadequate as a description of overall competitive
strength. Market share is more properly viewed as an outcome of past efforts
to formulate and implement effective strategies.
oThe outcomes of a growth-share analysis are highly sensitive to variations in
how growth and share are measured. Defining the relevant industry and
served market (i.e., the target-market segments being pursued) also can
present problems.
oWhile the matrix specifies appropriate investment strategies for each
business, it provides little guidance on how best to implement those strategies.
oThe model implicitly assumes that all business units are independent of one
another except for the flow of cash. If this assumption is inaccurate, the model
can suggest some inappropriate resource allocation decisions.
Alternative Portfolio Models
oIn view of the preceding limitations, a number of firms have attempted to
improve the basic portfolio model. Such improvements have focused on
developing more detailed, multifactor measures of industry attractiveness and
a business’s competitive strength and on making the analysis more
future-oriented.
oMultifactor models are more detailed than the simple growth-share model and
provide more strategic guidance concerning the appropriate allocation of
resources across businesses. However, the multifactor measures in these
models can be subjective and ambiguous, especially when managers must
evaluate different industries on the same set of factors.
B. Value-Based Planning
Value-based planning is a resource allocation tool that assesses the shareholder
value a given strategy is likely to create.
Value-based planning provides a basis for comparing the economic returns to be
gained from investing in different businesses pursuing different strategies or from
alternative strategies that might be adopted by a given business unit.
A number of value-based planning methods are currently in use, but all share three
basic features:
oThey assess the economic value a strategy is likely to produce by examining
the cash flows it will generate, rather than relying on distorted accounting
measures, such as return on investment.
oThey estimate the shareholder value that a strategy will produce by
discounting it forecasted cash flows by the business’s risk-adjusted cost of
capital.
oThey evaluate strategies based on likelihood that the investments required by
a strategy will deliver returns greater than the cost of capital. The amount of
return a strategy or operating program generates in excess of the cost of
capital is commonly referred to as its economic value added, or EVA.
Discounted Cash Flow Model
oIn this model, shareholder value created by a strategy is determined by the
cash flow it generates, the business’s cost of capital (which is used to discount
future cash flows back to their present value), and the market value of the
debt assigned to the business.
oThe future cash flows generated by the strategy are affected by six “value
drivers”
The rate of sales growth the strategy will produce
The operating profit margin
The income tax rate
Investment in working capital
Fixed capital investment required by the strategy
The duration of value growth
Some Limitations of Value-Based planning
oValue-based planning is not a substitute for strategic planning; it is only one
tool for evaluating strategy alternatives identified and developed through
managers’ judgments. It does so by relying on forecasts of many kinds to put
a financial value on the hopes, fears, and expectations managers associate
with each alternative.
oWhile good forecasts are notoriously difficult to make, they are critical to the
validity of value-based planning. Once someone attaches numbers to
judgments about what is likely to happen, people tend to endow those
numbers with the concreteness of hard facts.
Therefore, the numbers derived from value-based planning can
sometimes take on a life of their own, and managers can lose sight of
the assumptions underlying them.
oInaccurate forecasts can create problems in implementing value-based
planning.
There are natural human tendencies to overvalue or undervalue
financial projections associated with each strategy alternatives and
undervalue others.
Another kind of problem involved in implementing value-based
planning occurs when management fails to consider all the appropriate
strategy alternatives.
C. Using Customer Equity to Estimate the Value of Alternative Marketing Actions
This approach calculates the economic return for a prospective marketing initiative
based on its likely impact on the firm’s customer equity, which is the sum of
lifetime values of its current and future customers.
Each customer’s lifetime value is estimated from data about the frequency of their
purchases in a category, the average quantity purchased, and historical
brand-switching patterns, combined with the firm’s contribution margin.
The impact of a firm’s or business unit’s past marketing actions on customer equity
can be statistically estimated from historical data. This enables managers to identify
the financial impact of alternative marketing “value drivers” of customer equity,
such as brand advertising, quality or service improvements, etc.
VII. Sources of Synergy
A. Knowledge-Based Synergies
The performance of one business can be enhanced by the transfer of competencies,
knowledge, or customer-related intangibles—such as brand-name recognition and
reputation—from other units within the firm.
In part, such knowledge-based synergies are a function of the corporation’s scope
and mission.
The firm’s organizational structure and allocation of resource also may enhance
knowledge-based synergy.
B. Corporate Identity and the Corporate Brand as a Source of Synergy
Corporate identity—together with a strong corporate brand that embodies that
identity—can help a firm stand out from its competitors and give it a sustainable
advantage in the market. Corporate identity flows from the communications,
impressions, and personality projected by an organization.
One rationale for corporate identity programs is that they can generate synergies
that enhance the effectiveness and efficiency of the firm’s marketing efforts for its
individual product offerings.
C. Corporate Branding Strategy—When Does a Strong Corporate Brand Make
Sense?
The corporate brand will not add much value to the firm’s offerings unless the
company has a strong and favorable image and reputation among potential
customers in most of its target markets.
A strong corporate brand also makes most sense when company-level competencies
or resources are primarily responsible for generating the benefits and values
customers receive from its individual offerings.
An exploratory study based on interviews with managers in 11 Fortune 500
companies suggest that a firm is more likely to emphasize a strong corporate brand
when its various product offerings are closely interrelated, either in terms of having
similar positionings in the market or cross-product elasticities that might be
leveraged to encourage customers to buy multiple products from the firm.
D. Synergy from Shared Resources
A second potential source of corporate synergy is inherent in sharing operational
resources, facilities, and functions across business units.
When such sharing helps increase economies of scale or experience-curve effects, it
can improve the efficiency of each business involved.
However, the sharing of operational facilities and functions may not produce
positive synergies for all business units. Such sharing can limit a business’s
flexibility and reduce its ability to adapt quickly to changing market conditions and
opportunities.