RELATED VS.

UNRELATED DIVERSIFICATION


1. Some common presumptions about the risks of related and unrelated diversification

Related Unrelated

Companies have common core skills. Transferring core skills does not really
(Common ThreadStick to the knitting) matter if you buy a strong company with
skilled managers in the top and middle
Core skills can be transferred to levels who will stay.
acquired companies.
Professional managers can learn any
Risk is reduced if you stick to what business.
you think you know: i.e., you can use
better judgments. Unrelated diversification gives a better chance
of diversifying the risks associated with the
business cycle: portfolio diversification vs.
portfolio specialization.



2. Potential benefits/drawbacks of diversification

Related Unrelated

Increased productivity of corporate More efficient cash management and
resources through operating synergies; allocations of investment capital, and growth
improved competitive positioning accruing in profits through cross-subsidization can
from increased size of business; and a lead to a larger income than would be
reduction in long-run average costs that available from simple portfolio diversification.
can lead to more of a reduction in the
variability of a company's income stream Reduction of systematic (market-related) risk
than would be available from simple is unlikely since systemic risk affects all
portfolio diversification alone. equally.



3. Enabling conditions of successful diversification

Related Unrelated

Excess capacity in distribution systems, Competent management in
production facilities, or research acquiring company can adjust
operations. quickly to doing business in unrelated
industries.

Transferable resources and functional Recognition by acquiring management
skills have greatest potential for creating of the different requirements for
value. for success in unrelated industries.

Excess general management resources. Willingness by acquiring management to
include newly acquired top-management
executives in company policy-making
decision.