What is Related Diversification? Explained

Companies use various strategies to enter new markets and expand operations. Usually, these strategies fall within the market entry strategies. These strategies can help companies grow their activities. Similarly, they also provide access to new revenue streams. Sometimes, companies may choose to enter similar areas in line with their current operations. Companies may also seek to enter new markets that differ from those operations.

When entering new markets with different activities, companies employ a diversification strategy. Usually, companies use diversification growth strategies to achieve growth outside the current areas. Companies use these strategies when they can’t achieve their expansion objectives in their industries. Therefore, they seek new areas where growth opportunities may be higher. This strategy can lead to significant benefits, although it may have some drawbacks.

Diversification strategies are common within companies moving outside of their current areas. These strategies may come in different forms. Usually, companies must choose between several industries to which they can expand. These industries may fall within similar business operations as the company. Sometimes, they may also be completely unrelated. In the context of diversification, they are called related and unrelated diversification.

What is Related Diversification?

Diversification occurs when companies enter new product markets different from their operations. In most cases, this will be outside the company’s industry. However, companies prefer this process to occur with other businesses with commonalities. This way, they can leverage their strategic fit. For that goal, companies use a related diversification strategy. This strategy is more likely to achieve gains in shareholder values as well.

Related diversification is when companies move into a new industry. However, this industry has crucial similarities to the company’s existing business. In essence, related diversification occurs when companies follow their strategic fit. With this strategy, companies seek a market with similar needs or operations. Once they do so, they look for other companies that can uphold their shareholder values.

Essentially, related diversification occurs between companies that have critical commonalities. With this strategy, companies can enter new markets while also achieving economies of scale. Similarly, they can achieve synergies based on those communities. The crucial differentiating factor for the related diversification strategy is the similarities. If the companies involved are not similar in any aspect, then it doesn’t fall under that strategy.

Related:  Strategic Alliance: Definition and How it Works

Related diversification helps companies move into a market that closely connects to their existing operations. Through this strategy, companies can increase the potential to increase their benefits. If companies operate independently, they may not achieve the same results.  Usually, companies seek to develop and exploit core competencies through this strategy. However, the success of this strategy depends on several factors.

Overall, related diversification occurs when companies enter new product markets. However, these markets must have similarities or commonalities with their core operations. If executed properly, this strategy can result in a significant boost to profits. It allows companies to achieve economies of scale and synergies. However, it can also be costly and have some disadvantages. Usually, companies prefer related diversification over unrelated diversification.

Types of Related Diversification

As mentioned, related diversification involves expanding to new and similar business areas. With this strategy, this area has commonalties with the company’s existing operations. It provides a basis for the company to be more competitive in two different regards. However, this diversification can occur in different forms. These forms fall under the different types of related diversification.

Some of the types of related diversification include the following.

Related by customer class

Companies can use the related diversification strategy to target a customer class. It helps companies expand to markets and products that serve similar customers. Consequently, these customers must have similarities or be the same as the company’s existing clients. With related diversification by customer class, companies focus on serving customers better. It may involve targeting customers that buy similar products and moving to those areas.

The related diversification by customer class strategy may include targeting new markets and products. Companies must consider the needs of those customers and act accordingly. Usually, companies can develop their brands and serve similar products within them. This strategy can lead to higher customer loyalty while also increasing profits. It also helps companies focus on compatible or complementary products to serve customers.

Related:  Vertical Vs Horizontal Integration: Top Key Differences

Related by products

Companies can also use the related diversification strategy to target similar products. With this strategy, companies focus on diversifying through products resembling their current ones. Usually, these products share similar attributes that can complement the existing ones. With these products, companies can increase their existing product line. It can lead to more products without changing the core target market.

Related by resources

Some companies may not target customers or products. While those are viable strategies, they do not guarantee the sharing of resources. Instead, companies may target areas where their existing assets can be helpful. With this strategy, companies seek markets where their resources can reach synergies. This way, they can share their resources while also achieving higher profits.

With related diversification by resources, companies can share costs with others. These resources can be beneficial in different areas. Furthermore, it can help achieve savings in costs while providing the opportunity to grow. This strategy favours companies that have substantial resources. On top of that, it helps exploit core competencies to achieve better results. Overall, the related diversification by resources can be significantly beneficial.

Advantages of Related Diversification

Related diversification can achieve significant benefits for companies. These advantages may depend on how companies execute this strategy. Usually, companies must ensure the related diversification has similarities to its existing operations. Once it assures that, it can use this strategy to expand its operations. Overall, some of the advantages of the related diversification strategy include the following.

Increase economies of scale

As mentioned, related diversification increases economies of scale and synergies. This strategy closely relates to a company’s operations. By diversifying in matching areas, companies can achieve better processes. In some cases, they may also contribute to similar areas. Companies can also use this strategy to align their operations with the new business. This way, companies can achieve higher economies of scale.

Related:  Backward Integration: Definition and How it Works

Share resources

As mentioned, there are several types of related diversification. In most cases, these involve processes where companies can share their resources. Due to the similar resources, they can also reduce their costs. On top of that, companies can use their existing resources and capabilities to strive in new areas. It provides a significant boost to companies compared to those who don’t use this strategy.

Create new products

When companies share their resources and increase economies of scale, they can also develop new products. Combining those resources within the existing areas allows companies to create a new brand. It can market new products that incorporate existing capabilities. This way, they can also increase their revenues and profits.

Disadvantages of Related Diversification

Although related diversification can be advantageous, it can also include some disadvantages. Usually, when companies expand into similar areas, they increase their current risks. On top of that, if companies don’t execute this strategy, it can bring some adverse impacts. Overall, some of the disadvantages of related diversification include the following.

Increase cyclical and seasonal variations

Some companies may experience cyclical and seasonal variations. These variations exist for the same market and products. When companies use related diversification, they can increase these variations significantly. Instead, if companies use unrelated diversification, they can reduce these variations to a certain degree.

Increased risks

When companies diversify in the same markets and products, they increase their existing risks. These risks already exist for their current products and operations. By investing in similar areas, companies magnify those risks. Diversification can reduce some of the business risks that companies face. However, related diversification does not decrease the specific risks.

Conclusion

Related diversification is when companies expand into similar markets or products. Usually, it includes identifying and exploiting core competencies. On top of that, related diversification also occurs when companies target similarities and commonalities. There are different types of related diversification that companies can achieve. This strategy can have many advantages and disadvantages, as listed above.

Scroll to Top