Growth is crucial for any business to survive in the long term as it helps expand and increase revenue. A business grows when it expands its customer base, increases revenue or produces more products. Igor Ansoff, known as the father of strategic management, believes that a business can adopt four essential growth strategies. Each box of the matrix corresponds to a specific growth strategy which are:
- Market Penetration – this involves increasing sales of existing products into an existing market
- Market Development – this involves selling existing products into new markets
- Product Development – introducing new products to an existing market
- Diversification – is a business growth strategy which entails entering a new market with new products
However, the focus here is on how diversification can be used to grow a business. Founders, investors, and executives typically consider diversification part of their strategy, especially when a firm grows to a certain point. Diversification is one of the four essential growth methods outlined by Igor Ansoff in 1957, allowing businesses to consider new markets and products to grow revenue. Organisations frequently use diversification to reduce risk by moderating risk exposre to the company during economic downturns. The primary aim is to grow into a company that does not suffer a decline from the recurring economic downturns.
A business can choose to diversify in three different ways. First, concentric diversification implies when an organisation develops new products and services similar to those they already sell. For example, a Pizza restaurant that adds pasta to its Menu. Secondly, horizontal diversification allows businesses to meet more than one need of their customers by offering them a more comprehensive range of products. For example, Disney diversified from animations to theme parks, cruises and Media. Lastly, conglomerate diversification refers to developing new products unrelated to your original lines. For example, a t-shirt company has now decided to start stocking apple products.
Why Do Companies Diversify
Diversification as a growth strategy may be considered for a variety of reasons. Diversification is primarily utilised to reduce risk in an industry slump. When a business or sector faces a recession, a conservative motive to diversify is to avoid substantial ramifications. Some single-business or single-product companies would not be able to sustain a prolonged downturn in their industry.
Another reason to diversify is to gain a competitive advantage, especially with underserved locations and customers. If your company doesn’t diversify and expand to fill the additional demand, competitors will likely do so. The likelihood of increasing your customer base or becoming the top provider can be on the high side if you get in first.
Diversification can also help organisations build stability. If an organisation’s total reliance is on a single industry or product, there is a risk of fluctuations in revenue and resources as demand increases or decreases. For example, advertising agencies often diversify clients to avoid significant drops in revenue a sector falters.
Also, In the case of a cash cow in a slow-growing market, diversification allows the company to use surplus cash flows. Cash cows are business units with a high market share in a slow-growing industry, such as real estate development.
1. Do You Have the Capacity to Diversify?
Consider the capacity and resources needed to devote to the new business. To support the development, launch, marketing, and delivery of the new product or service, which teams’ activities need to be increased? Bold diversification efforts invariably necessitate hiring new people to carry them out. If you want to shift into a different part of the supply chain (for example, from B2B manufacturing to a consumer-facing online store), you’ll need a team with relevant experience to stay on budget and meet your objectives
2. How Will Your Brand Perception be Helped or Harmed?
There’s a reason KFC doesn’t sell hamburgers: they’re the chicken industry’s market leader. Expanding your business could dilute the exact thing that makes your brand unique. If your new enterprise is having trouble gaining traction, think about how you can maintain brand loyalty among existing clients. Trading under a different business name dedicated to the new product, service, or market may protect your present business from risk. Still, it may result in a loss of brand awareness. In 1996, McDonald’s, the world’s giant hamburger fast food restaurant, wanted to expand its wings to a more adult audience. McDonald’s tried to refine its product offering by introducing a ‘fine dining’ style burger-Arch Deluxe, after spending 300 million on market research. It has been advertised in the world’s most expensive advertising campaign. This particular product was not in line with how the consumers perceived McDonald’s – fast, straightforward and sumptuous. The diversification was not successful as it starkly contrasted their brand identity.
3. What Can You do Better than Competitors in Your Current Market?
Identify methods to add value and set yourself apart from the competition. Free delivery, more ecological or ethical materials, a better warranty, or more educational marketing could be some options (e.g., explainer videos). After Tolaram diversified into the sales of noodles (Indomie Noodles) in the 1980s, they also found that they could manufacture instant noodles very competitively in Nigeria even if they had to import the raw materials. From a supply chain point of view, diversifying into production was essential for the sustainability of the business. It also helped build a good brand image as consumers take great pride in knowing that instant noodles are manufactured in Nigeria.
4. Will the Financial Benefits Outweigh the Risks?
Predicting revenue growth while diversifying into new regions or through new goods can be challenging. Thus, a detailed competitive study is required.
Making these projections in the face of global business uncertainty isn’t simple, to be sure. Businesses in a range of industries, for example, are exploring how they might improve their supply chain resilience. Consider a UK auto parts firm that orders small amounts of parts from China such that they only need to have 15 to 30 days of inventory on hand. Severe disruption in delivery delays, such as the one caused by the Covid-19 outbreak, might make fulfilling orders on time challenging. In this scenario, diversification (e.g., sourcing more suppliers in Europe and altering the end-product to offset the cost) is an option. If you’re considering diversifying to protect your cash flow, speak to your local HSBC relationship manager for further information and guidance.
5. Market or Demand
Once you are confident in starting your business, your next step is researching the market or demand for your product or service. Start by answering the question of who your customer is. You may need to assess demand if you sell your products or services locally. To conduct business internationally, you may need to understand international trade rules and regulations. Market research should reveal all the details about a product or service market. Basically, what you are looking for:
- The current size of the market (the approximate number of potential buyers)
- Growth potential (whether the size or contract can grow)
- Expected market share
- Target audience buying habits (and how to leverage them)
- Various market segments
- Margins you should expect from the market
As important and valuable as diversification is, it comes with its own risks. As you grow, you may be unable to focus on the best products and products. It would help if you also diversified your business investment and costs. This may prevent you from investing enough money in the cash cow sector or products. To successfully diversify, you need experts to work or partner with you to succeed in newer, unproven areas.
Over the past 29 years, pcl. has partnered with organisations to help them diversify successfully. Some of our service offerings include:
- Conducting detailed market researchfor new products or service
- Assessment of customer needs and demand for products or services
- Development of a clear product development strategy and market testing and,
- Market and product feasibility study
Written by:
Damilola Ishola
Senior Analyst
