Growth and expansion are one of the primary success factors for companies. These factors allow companies to increase their revenues and attract new customers. Usually, companies use their products to grow their operations. As they grow, they introduce new products to enhance their product line. Through these products, they access a larger market and increase their profits.
However, companies can only increase their products for a limited time. Once they achieve a higher market share, they may not experience the same growth level as before. For some companies, the sales will become stable or start decreasing. In those circumstances, companies will seek to enter new markets. These markets will offer the same products as the company’s existing product line. This way, the company bears lower risks.
However, some companies may also enter new markets with new products. This strategy can be riskier. Nonetheless, it also provides higher rewards and returns. Some companies may accept those risks due to the higher earnings potential. The perspective of a new market and product can be highly tempting. Usually, companies use a strategy to ensure this process is successful, known as diversification.
What Is Diversification?
Diversification is a growth strategy used to enter new markets with new products. This strategy involves creating and offering innovative products in a different market. With this strategy, companies have various options to achieve growth. These options fall under the different types of the diversification growth strategy. With this strategy, they can achieve higher revenues while exploring new areas.
Diversification involves identifying new markets that differ from the company’s existing ones. Once a company establishes a new market to penetrate, it must develop a new product. Since this market differs from the current one, companies cannot offer the same items. Therefore, developing and providing a new product is highly crucial. This product helps the company enter the new market and attract customers.
Growth by diversification can have various advantages. For companies, it can result in synergies and help achieve synergies. On top of that, it may also help companies explore more areas that differ its existing ones. This strategy involves deploying a company’s resources into new products and new markets. As mentioned, however, it comes with significantly higher risks. On top of that, it can also be more capital intensive.
Diversification allows companies to branch out into a new business opportunity. Furthermore, this strategy helps them explore new markets, creating more revenue streams. The decision to diversify relates to the higher-level management in a company. In some cases, companies may use mergers and acquisitions to achieve it. In contrast, some companies may also prefer to use an organic approach.
Overall, diversification is a strategy used by companies to expand and grow their business. This strategy involves moving into new markets with new products. It is one of the growth strategies that can help companies increase their profits and revenues. However, it can be riskier compared to other growth strategies. Nonetheless, it can be the only expansion option for some companies.
What are the types of Diversification?
As mentioned, companies can achieve diversification through various methods. Usually, this strategy provides four options for companies to grow. These options fall under the types of diversification growth strategy. Each of these strategies can have its advantages and disadvantages. Overall, the types of the diversification strategy include the following.
Related diversification is when companies diversify into a similar market or industry. With this strategy, companies can increase their business while reducing their risks. The prospect of entering a similar area is attractive. Due to their existing knowledge, companies can operate more efficiently. This strategy can also help achieve economies of scope and create synergies.
Unrelated diversification occurs when companies enter markets that differ from their current operations. Usually, the difference between these industries or markets can be highly critical. One of its primary advantages includes allowing companies to diversify in a true sense. However, it can also imply that companies can’t use their existing resources and capabilities to benefit from synergies.
Horizontal integration can be a type of related diversification. It involves integrating with other companies in a supply chain. However, this integration occurs horizontally, meaning companies target their competitors. With this strategy, companies acquire or merge with those competitors. By doing so, they can create significant synergies. It can also decrease the competition in the market and increase market share.
Vertical integration is similar to horizontal integration. In this strategy, companies focus on diversifying within the supply chain. However, this process occurs vertically rather than horizontally. With vertical diversification, companies target their suppliers and distributors. Therefore, they integrate with those parties to control those channels more. It can provide similar results and advantages to horizontal integration.
What are the reasons for Diversification?
Companies can have several reasons to choose the diversification strategy. With this strategy, companies enter new markets and new products. Therefore, it is sensible to move away from the current areas using this strategy. For some companies, diversification is an option to grow since the existing operations may not be sufficient. The reasons for diversification may also relate to the advantages of this strategy.
Overall, the 7 primary reasons for diversification include the following.
1. Enter new markets
One of the most crucial reasons to diversify includes entering new markets. By doing so, companies can explore areas with untapped potential. This reason also allows companies to attract and reach new customers. On top of that, more markets also imply companies will have more distribution and supply channels. Although it may come with more costs, it can also increase profit potentials.
2. Develop more products
Diversification also enables companies to develop more products. Through these products, companies can attract more customers. Companies can also increase their profits and revenues. The product variety that companies also allow them to fall back on other products when one fails. The prospect of new products is also a crucial reason for diversification.
3. Competitive advantage
Companies can also gain a competitive advantage with the diversification strategy. With this strategy, companies can attract more competitors and substitute products. Nonetheless, it gives them an edge over their existing competitors. By exploring new areas, companies can overtake competitors to increase their profits. On top of that, the synergies and other benefits from diversification can also help with that.
4. Economies of scale
One of the most crucial reasons for diversification includes economies of scale. When companies diversify, they can share their processes and other resources. By doing so, they can increase their activity level. Due to this level, companies can achieve better efficiencies. Similarly, it can also provide access to better supplies and distribution channels. It can result in a decrease in costs and economies of scale.
5. Brand development
Companies can develop their brands with a diversification strategy. When companies enter new markets through new products, they increase their brand value. Without this strategy, companies stay limited to a single industry. However, once they expand their operations, they can reach more customers. Consequently, they can develop their brand throughout different markets.
6. Lower risks
Some diversification strategies can introduce new risks for companies. However, it, as a whole, reduces the overall risks that companies face. In this regard, this strategy is similar to when investors diversify their portfolios. This strategy allows companies to reduce their reliance on a single product or market. Therefore, the risks of one area failing do not impact profits as much.
7. Increased resources and capabilities
When companies grow their business, they can acquire more resources and capabilities. Through these features, they can increase their competitive advantage. On top of that, these resources also help companies achieve efficiencies in various areas of their operations. It is one of the most crucial reasons companies consider the diversification strategy.
Diversification is a growth strategy that allows companies to access new markets through new products. This strategy can be highly crucial in helping companies diversify their operations. Usually, companies can choose between one of the many types of diversification. Similarly, there are various reasons for diversification that companies must consider. These reasons may include the ones mentioned above, among others.