Diversification Strategy: 4 Methods of Diversification

A diversification strategy is a corporate strategy to increase growth by changing or expanding products a company manufactures or offers for sale. Companies might pursue a diversification strategy to get an edge on competitors, a process known as offensive diversification, or a business might embark on a defensive diversification after facing significant pressure to change.

Diversification is one of four corporate growth strategies first codified by Igor Ansoff, a mathematician and business manager active in the 1950s. Ansoff is known for developing the Ansoff Matrix, which charted out the four major growth strategies: market penetration, market development, product development, and diversification.

A company might implement a diversification strategy for several reasons, including to:

1. 1. Beat competition: A company might feel that the best way to gain a competitive advantage is to diversify. By expanding the portfolio of products or services, companies can offer something their competitors cannot.
2. 2. Seek profit: If successful, a diversification effort can significantly increase business growth and, by extension, its bottom line. With the imperative to keep growing, sometimes the biggest, most successful companies find that the next logical step is through a diversification strategy.
3. 3. Avoid downturn: Diversification can be a proactive way to avoid the fallout of an economic downturn. By offering different products and services, a company can lessen the damage of a recession, and even take advantage of other vulnerable companies.
4. 4. Polish brand image: A diversification strategy can be a way to boost the image of a brand. Either by leveraging positive associations with the newly acquired brand, or a perceived change in direction, diversification presents an altered face to the public.
5. 5. Navigate industry changes: Due to predictable or unpredictable shifts in circumstances, diversification can help companies take advantage of new technologies, avert collapse, or find increased opportunities for synergy, cost-cutting, and profit maximization.
6. 6. Optimize resources: Diversification can be a way to optimize the resources of a company, whether putting excess cash flow to work, better use of existing infrastructure, or improvement of corporate-level decision-making.

There are four principal categories of diversification strategies, each with potential advantages, risks, and degrees of applicability. The four types of diversification include:

1. 1. Horizontal diversification: In horizontal diversification, a company adds new products to its operation. These products or services are entirely new but will bear some relation to the original product, offering an expanded set of options to the customer. For example, a gaming company getting into the virtual reality business is a horizontal diversification.
2. 2. Vertical diversification: In vertical diversification, also known as vertical integration, a company expands to include different portions of the manufacturing process under one corporate structure, usually by moving up or down the supply chain. A car manufacturer expanding into the aluminum industry to provide raw materials for its current product line is an example of vertical diversification.
3. 3. Concentric diversification: Concentric diversification occurs when a company develops a new, improved product related to its existing product. For example, a company manufacturing wired headphones might expand to offer wireless headphones—the new product uses the latest technology and offers something new to the customer.
4. 4. Conglomerate diversification: When a company diversifies by acquiring a different company in an entirely unrelated field or new industry, it’s known as conglomerate diversification. Disney is the world's largest media conglomerate. Under the direction of the former CEO Bob Iger, the Walt Disney Company grew by acquiring other large media companies, including Marvel, 20th Century Fox, Pixar, and Lucasfilm.

There are several potential advantages to implementing a diversification strategy. Some of the most important benefits are as follows:

1. 1. Flexibility: Companies can become more flexible by pursuing a diversification strategy. With more products to offer—and increased competencies—the risk of shortfalls in any single area is offset by potential rewards in other markets.
2. 2. Growth: Diversification can increase market share and profit margins. Whether a small company takes the next step into a bigger market or a major brand wants to appease shareholders, diversification can be the right move.
3. 3. Survival: Business can be challenging, and sometimes, the future of an enterprise is on the line. You can pivot your business and avoid collapse through a successful diversification strategy.

There is a fair degree of risk in embarking on a diversification strategy. Diversification is the most complex type of growth strategy, and some of the pitfalls might include:

1. 1. Lack of expertise: Diversifying requires an expanded skill set, especially when a company diversifies its business in a new industry. A company expanding into a new market must know how to reach new customers. Companies need to find capable people with experience through strategic partnerships to have a successful diversification strategy.
2. 2. Innovation challenges: Any attempt to create new products or develop new services has a high chance of failure. It’s wise to play the long game and work on innovation over time, which can be challenging for companies wanting to diversify quickly.
3. 3. Complexity: The bigger a corporation, the more internal complexity it will have, particularly for conglomerates absorbing new businesses. Expansion can lead to management issues, inefficiency, and inadequate resource allocation. A bigger organization requires more delegation, oversight, and quality control.

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