As a company's core business matures, its leaders will need to exercise different strategies to explore more diverse business opportunities if they want to maintain higher growth rates on a larger revenue base. This often presents mature companies with a conundrum. The more diversified the domain of business exploration is from the company's core business, the greater the incremental growth potential. However, it also means less probability of leveraging assets and capabilities from the core business and increased probability of failure (we explore some of the mechanics for this increased risk in a previous blog post "Is your Innovation Project a Zombie?"). To be clear, the focus of this article is on diversified business growth, not an expansion of a well-established core business.
The motivations for diversified growth can be many; Market maturity or saturation in the core business, an attempt to increase resilience to unstable market conditions, increasing competitive pressure on the core business, etc. Whatever the reason, diversified growth has different challenges than core business growth, and there are several different strategies that companies will often use to pursue new business opportunities:
- Organic or internal development - ideally under a specially tailored governance environment, such as an internal new business incubator, innovation lab, or similar structure.
- Growth through acquisition - whole businesses or specific assets to complement or accelerate organic development.
- Strategic equity investments or joint ventures - for market insights, as a steppingstone to a possible acquisition, or value participation via equity appreciation or dividends.
The Trade-offs
Each strategy has different benefits and shortcomings and, depending on the capacity of your organization, all three can be used in concert. The table below summarizes some of the relative pros and cons of these different growth strategies relative to some key considerations. The importance of each consideration will vary depending on a company's specific circumstances.
Generally speaking, internal development strategies are more likely to be able to leverage assets and core competencies from the core business and afford a lot more control over their direction, spending at the expense of autonomy and the ability to syndicate or share the investment risk. External strategies, on the other hand, allow companies pursuing potential acquisition or strategic investment to engage later in the market and business development, after much of the risk has been wrung out, but they will typically pay a heavy premium for that confidence and will likely have a harder time integrating the business in a way that leverages core business assets without risking value destruction from company fit alignment challenges.
There is no right or wrong approach, and these options can be even more effective when used together selectively. If your company is exploring options for diversified business growth, consider some of the following approaches.
Hybrid Approaches - Start Organic, Scale via Acquisition
Your strategy for pursuing a new business does not have to be an either/or choice between these options. Consider breaking your strategy into stages such as hypothesis or opportunity definition, lightweight hypothesis testing and learning, pilot or market-based hypothesis testing, initial deployment, and scaling, and using different investment strategies for different stages. For example, if you have a disciplined organic innovation process, starting with an organic, internal incubation can be a time and resource efficient way to understand the opportunity and needs of the market, the competitive environment, technical feasibility, and company fit. The learnings from that effort can then inform better choices for the market entry or scaling stages of the business. After participating in the market and directly engaging customers and competing, you may identify acquisition targets that you didn't previously consider. You should also be able to better assess competitive strengths and weaknesses and which assets or competencies are most important for the success of the business.
This approach may also open up different objectives and options for acceleration through acquisition. For example, rather than focusing on acquiring a whole business, you may want to focus specific needs to address more narrowly targeted gaps or needs for scaling your organic efforts such as:
- Customers or channel relationships
- Products & technology
- Specific assets (IP, brand, factories, real estate, etc.)
- Human resources & expertise
- Operational capabilities
- Etc.
If you are acquiring for one of these specific needs, there may be a much more diverse range of target options to choose from since all aspects of the business don't necessarily need to align to your specific business, such as acquiring the required technical or operational skills from a business in and different product or market segment that doesn't have the same growth potential as your target business. That can be a good way to acquire the assets needed for accelerated growth, but perhaps with less of a premium than might be required for a directly comparable business.
Start with Investment, Scale via Asset Acquisition
Similarly, if you don't have a well-defined or disciplined internal business innovation or incubation capability or lack sufficient domain expertise or competencies to start an organic effort, making a minority equity investment in one or more companies within that domain can be a good way to gain visibility and understanding of the market and the business before making a large, high-risk investment. You may learn that your company may be better positioned to participate at different points in the value chain or value network. You may discover that the fundamentals of the business are not as compelling as initially expected. By making an external investment, you can benefit from some sharing of the investment risk with other investors and protect your investment from some downside risk by selling your stake to another investor, or by holding on to it as an asset until a future liquidation event. In the worst case, you get some learnings, but only shoulder a small percentage of the investment risk.
Summary
When exploring diversified new business growth, it's good practice to recognize that you probably don't have the same depth of understanding and insights in the new spaces, and therefore take a step-wise approach to your investment strategy and consider multiple internal and external approaches. Make sure you are being clear about what assumptions you're making about the business and invest in the validation of those assumptions before making significant investments that could be difficult to recover from if your assumptions are wrong.
Regardless of which strategy a company chooses, they all face the challenge of long-term Company Fit alignment with the core business. Company Fit misalignment is the biggest cause failure in internal incubation and likely one of the biggest causes for failure, or at least destruction of value, in the integration of acquired businesses into the core operations of the acquiring company. So, make sure to pay close attention to that consideration when developing your strategy. Need some help? Contact us. We'd be happy to help.
