Should companies concentrate on one business or should they be holding a portfolio of businesses? Concentration enables a company to focus on the business it knows best. Yet, concentration beyond a point is a risky strategy. Indeed, most firms are diversified to some extent. Rare is the firm which is focused only on one business ("Managing diversification,”).
Almost 40 years back, every business needs a core – an area where it leads. Every business must therefore specialize. But every business must also try to obtain the most from its specialization. It must diversify. Drucker argued that while the central core of a business should decide which businesses it enters, diversification would be needed in an era of fast changing markets and technologies ("Managing diversification,").
Today, the business environment has become much more volatile and dynamic. So, the key issue, more often than not, is not whether to diversify, but when and how to diversify. A related issue is for management to decide when the company is straying too far from the core and get back the focus ("Managing diversification,").
Contrary to general perception, few businesses can be called completely focused. It is useful to understand what diversification is and lay down a nomenclature before we proceed further. How can we measure diversification? Rumelt has classified firms into four business groups:
-Single business firm: Such a firm generates 95% or more of its revenues from one business.
-Dominant business firm: Such a firm generates 70 – 95% of its revenues from its principal activity.
-Related business firm: Such a firm generates less than 70% of revenues from its principal activity but other lines of business are related.
-Conglomerate firm: Such a firm generates less than 70% of its revenues from the principal activity and has other unrelated businesses.
Of course, the key to implementing Rumelt’s framework lies in appropriate definition of terms like “business,”...