Business Growth and Integration

Some startups are survival successes. They grow to be more mature with higher sales. Their operations have become more significant with increases in production scale.

Business growth is about increasing the company’s size or operation scale. That’s important to support a stronger market position and higher profits. When companies grow faster than their competitors, they can dominate the market.

Growth allows companies to make more money. On the one hand, they can earn more revenue by selling more products. On the other hand, they can lower costs through higher economies of scale.

Reasons why businesses want to grow

Several reasons explain why a business wants growth.

Increase profits. Companies sell more products at lower costs.
Reduce costs. Increasing output leads to higher economies of scale, allowing the cost per unit to decrease.
Reduce risk. Relying on old products has the potential to fail because the business environment changes (consumer tastes and competitors’ competitiveness changes), forcing companies to introduce new products.
Dominate the market. The company wants to be a market leader because it allows it to have the power to set market prices and higher bargaining power with stakeholders.
Diversify business. Companies reduce their risk exposure in one market by expanding into other unrelated markets, enabling them to benefit from diversification.
Security and survival. Large companies have more resilience than small businesses when facing more established competitors. They have more resources to compete with.

Types of business growth

There are two types of business growth:

Internal growth
External growth

The difference between the two lies in whether the company relies on its own resources or combines external resources to increase its operating scale and sales revenue.

Internal growth

Internal growth, also known as organic growth, relies on internal resources and competencies. For example, a company opens a new factory, spends more on advertising and promotion, or establishes a subsidiary.

Internal growth has less risk than external growth. However, for most businesses, this strategy tends to be slow.

Internal growth offers several advantages, such as:

Less risky than taking over another company
Allows businesses to grow at a more reasonable rate
Requires relatively smaller resources than the acquisition
Can be financed through internal funds such as retained earnings
Leverage core competencies and internal strengths to grow
Have more control because outsiders are not involved
Increase employee engagement to support growth
Encouraging staff to think broader to bring new ideas

However, internal growth also comes with some drawbacks, including:

Relatively slow growth
Disliked by shareholders as they may prefer faster growth
More difficult to achieve if the business is already a market leader
Limited growth if the market is mature
Depends on the market size
Intensifies competition than if acquiring or merging with a competitor

External growth

External growth – also known as inorganic growth – combines external and internal resources and competencies to increase business size. It can be through acquisitions, mergers, and joint ventures.

Although riskier, external growth is a faster way to scale operations than internal growth. In addition, external growth offers other advantages, such as:

Reducing competition by taking over or merging with competitors
Preferred by shareholders because it provides fast growth
Integrate external resources and competencies to complement each other
Not adding new supply to the market (as in acquisitions and mergers); therefore, market profitability is unchanged

However, external growth also comes with drawbacks, including:

Riskier because management lacks the experience to deal with other businesses.
Expensive – as in acquisitions – than building a new plant or increasing promotions
Conflict because it involves two organizations with different corporate cultures
Gain market share immediately by combining customers (acquisitions and mergers)
Spreading risk, such as through joint ventures and strategic alliances
Regulatory issues if an acquisition or merger leads to an increase in market power

Internal growth methods

The company grows business internally by:

Launching a new product
Increasing production
Finding new markets
Opening new distribution channels
Increasing advertising and promotion

Launching a new product. For example, a company introduces a new product to complement its existing product and targets the same market segment. It may bundle with a current product and offer lower prices to attract more sales.

In addition, new products may target different market segments. In this case, the company serves different consumers. For example, Unilever introduced beauty and personal care products to diversify revenue from its previous focus on food and beverage products.

Increasing production. For example, a company may hire new employees to push operations closer to full capacity. Thus, in addition to increasing output, costs also decrease because fixed costs, such as machines, are spread over more output.

When operations have reached maximum capacity, the company may purchase new machinery and equipment to increase production. Or it invests by opening a new production facility.

Finding new markets. The company has two alternatives. First, they offer existing products to new markets. For example, they sell existing products to foreign markets or domestic markets but in different geographic locations.

Second, the company develops new products and sells them to new markets. This alternative is riskier than the first.

Opening new distribution channels. For example, a company adds retail outlets to sell products. Or they expand their network by encouraging more cooperation with wholesalers and retailers.

Another way is to enter the online channel. For example, the company may launch a new website to serve customers or rely on existing e-commerce.

Increasing advertising and promotion. Companies increase advertising spending to attract new customers. Or they aim to stimulate repeat purchases from existing customers. Increased advertising spending may also be directed at stealing customers from competitors by highlighting products.

External growth methods

The external growth method may involve the following:

Merger
Acquisition
Joint venture
Strategic alliance
Franchising
Licensing

Merger

A merger occurs when two companies are combined into one. As a result, there is only one surviving entity, which may be a new entity or one of two merged companies.

Mergers are different from acquisitions. Under the acquisition, the two companies still survive and operate independently. One company acts as the parent company, while the other acts as a subsidiary.

Reasons for the merger

Higher profits due to combining two companies
Synergizing core competencies and resources
Strengthening market position by combining two market shares
Reduced competition because only one entity survives
Higher economies of scale by combining two operations into one

Mergers offer several advantages, including:

More product lines
Higher economies of scale
Increase in market share
Reducing competition
More profit
Avoid duplication as in acquisitions

However, mergers also have drawbacks, such as:

Conflict due to differences in culture and management style
Duplicated jobs and business functions
Downsizing employees to eliminate duplication
Declining employee morale
Internal opposition because the position is threatened

Acquisition

An acquisition occurs when a company buys a controlling stake in another company. After this corporate action, the target company becomes a subsidiary and continues to operate independently, unlike a merger.

There are two types of acquisitions, namely:

Friendly acquisition
Unfriendly acquisition

Under the friendly acquisition, the target company’s management approves the proposal and, possibly, helps implement it. Thus, the acquisition was carried out without difficulty.

In contrast, under the unfriendly acquisition, the target company’s management opposed it. They develop anti-takeover strategies to thwart this corporate action, including through:

Pac-Man defense
Macaroni defense
Poison pills

An unfriendly acquisition is also known as a hostile acquisition or hostile takeover. In addition, the term takeover is often identified with this term.

Advantages of acquisition:

Faster to grow a business, perhaps with complementary businesses
Without having to unite different resources and competencies because each can operate independently
Increase in market share if the target operates in the same market
Revenue growth by consolidating revenue from target companies
Increase market power by acquiring competitors
Overcoming barriers to entry, for example, by not having to build brand loyalty and a distribution network from scratch
Avoid retaliation from existing companies for not adding new supply to the market

Disadvantages of acquisition:

Expensive, and often the acquirer pays a higher price than the fair price (premium)
Duplicated resources or business functions
Culture clash between acquirer and target
Failed to synergize due to bad identification or inexperience of acquirer management
Brand damage as the target company’s reputation deteriorates

Joint venture

A joint venture refers to an agreement between two or more companies to work together on a particular project or business for the common good. It is a formal strategic alliance in which the companies involved set up a new, separate entity.

Joint ventures have several advantages, including:

Access to greater resources and expertise
Enabling companies to have access to new technologies
Share risks and profits with partners

But, joint ventures also have drawbacks, including:

Clash due to differences in management style and culture
Poor communication between partners
Low commitment and support in the early stages
Unequal contribution to capital and resources
Risk due to partner’s business failure

Strategic alliance

A strategic alliance is a cooperation between two or more parties without establishing a new separate entity. Each party shares resources and expertise to achieve common goals.

Different from joint ventures, cooperation in strategic alliances are less permanent. In addition, partners usually have low involvement.

Strategic alliances have advantages, including:

Complementary resources and knowledge
Low initial investment
Low risk, less significant than joint ventures

Meanwhile, strategic alliances also contain weaknesses such as:

Shorter life cycle because it is less permanent
Communication barriers and cultural conflicts
Risk due to partners’ mistakes, resulting in damage to reputation and goodwill
Can be challenging to manage, especially when there are changes

Franchising

Franchising offers rapid growth without having to get involved in running day-to-day activities. It is when a company (called the franchisor) grants rights to another party (called the franchisee) to use its name, reputation, and skills in a specific location or area. In return, the company obtains royalties or fees.

Franchisors often provide franchisees technical expertise, startup capital, and inventory assistance. Meanwhile, franchisees agree to abide by strict rules on how to do business.

Growing through franchising offers several advantages, such as:

Fast way to earn more revenue
Efficient growth when expanding in unfamiliar territory
More resources to grow the business
Spreading the business risk among different franchisees
No need to be involved with operations and business management in other regions

However, franchising also comes with risks, including:

Inconsistent quality by franchisees
Reputation damage due to mismanagement by the franchisees
Low control over franchised business operations
Conflicts and increased potential for legal disputes
Low direct contact with customers

Licensing

Licensing involves a company (licensor) granting another party (licensee) the right to use a technology, manufacturing process, or patented design in a particular market or geographic area. The licensee then uses it to make money. As compensation, the company receives fees and royalties.

Licensing provides benefits for companies, including:

Earn income without additional costs
Costs nothing to manufacture, promote or sell products
Utilize the licensee’s knowledge and competence to generate revenue
An easy way to enter foreign markets

However, growing through licensing also carries risks, such as:

Theft or duplication by the licensee
Unintentional competition when licensees and companies target the same market
Damage to reputation due to unethical business practices by licensees

Business integration

Business integration is a strategy or action by a company to unite or combine various businesses to be under control. For example, a company takes over a controlling stake in its supplier and makes it a subsidiary.

Integration can be through acquisitions or mergers. And the goal is to maximize synergy.

Integration can involve:

Horizontal integration
Vertical integration
Conglomerate integration

Horizontal integration

Horizontal integration involves combining one business with another at the same stage in its current supply chain. For example, the company can merge with its competitors, making its operation bigger. Or, the company acquires a competitor and makes it a subsidiary and under control.

Horizontal integration has several advantages, including:

Reducing failures due to having the same market and product knowledge
Enjoying higher economies of scale by integrating the operations of two companies
Eliminating competition by reducing the number of competitors
Improving market position by having more customer base
Greater bargaining power over suppliers due to larger purchase sizes
Easy to manage compared to conglomerate integration as they have similar business models

However, horizontal integration also has disadvantages, such as:

Conflict when two different cultures are combined
Managerial problems when the business becomes very large
Concentrated market power (and leading to monopoly) and, therefore, closely monitored by regulators

Vertical integration

Vertical integration involves two businesses in the same supply chain at different stages. Companies can acquire other companies and establish subsidiaries or joint ventures.

Two types of vertical integration are

Backward vertical integration
Forward vertical integration

Backward vertical integration involves the company going into the upstream business. For example, a car company acquires a tire manufacturer.

Backward vertical integration aims to gain control over inputs such as raw materials and components. Thus, the company can secure input supply, price, and quality.

Companies gain through backward vertical integration, including:

Securing supply because it prioritizes the company over competitors
More restrictive supply and alternatives for competitors if the upstream business has a dominant position
Guarantee the input quality because it is under the company’s control
Cutting out the intermediaries leads to increased profits
Capture added value and profits in the upstream business
Create entry barriers for potential competitors by forcing them to have integrated businesses to be profitable

However, backward vertical integration also has disadvantages, such as:

A higher price than if the upstream business operated independently
Lack of experience in managing the business in the upstream sector
Potentially unfocused as resources and expertise need to be shared
Low flexibility because the size becomes large, but the business is different
Synergy failure when upstream business is integrated
Huge capital requirements to grow current and upstream businesses

Forward vertical integration combines other businesses downstream in the current supply chain. For example, a car company takes over a car distributor.

Forward vertical integration aims to increase control over distribution and retail. In addition, the company is also closer to the customer.

Forward vertical integration offers several advantages, such as:

Ensure goods reach customers at the right location and time
Capture the value created and profits in downstream businesses
Cutting out the middleman which leads to reduced costs
Greater control over promotions and selling prices
Closer to the customer, the source for the following product innovation
Create entry barriers for potential competitors
Gain insight from downstream businesses on what items are selling best

But, forward vertical integration also contains some disadvantages, such as:

Not focused because they have to manage two different businesses
Synergy failure, leading to increased costs
Difficulties in managing as the bureaucracy increased and the size became too big
Onerous capital expenditure requirements to acquire targets and integrate resources and operations
Losing focus on core business and main goals

Conglomerate integration

Under conglomerate integration, companies combine unrelated businesses under one control. In other words, the company enters another business outside its current supply chain.

Conglomerate integration aims to diversify and reduce concentration risk. Thus, the company can compensate for losses in one business from profits in other businesses.

There is also lateral integration. It involves integrating several companies where they sell related goods or services but do not compete directly with each other.

For example, a cinema company acquires a restaurant. After the acquisition, the company operated restaurants in its cinema network.

Another example is a hairdresser’s business acquiring a beauty therapist’s business. The two operate in different supply chains and are not in competition with each other but are linked.

Growing through conglomerate integration offers several advantages, such as:

Diversify income streams
Spreading the risk by operating in an unrelated business
Not subject to monopoly laws

However, conglomerate integration also has drawbacks, such as:

Not focused on the core business
No knowledge of different business
Differences in business models, resulting in complexity in management
Does not benefit from supply chain synergies
Low economies of scale because business is unrelated

Business Growth and Integration

Reasons why businesses want to grow