I was at a business networking meeting the other day where a number of small business proprietors were looking to grow their businesses. Nearly every business proprietor I talked to saw only one way to grow, diversification.
Diversification is where a business enters a new market with new products. In many cases the businesses I spoke to were looking to enter a market where they had no previous experience. In many cases, the diversification was effectively the creation of a separate new business using the revenues of the existing business.
It amazed me that so many small business people were looking to diversify, generally regarded as the most complex, expensive and risky of growth strategies where, at least in the short-term, other strategies may provide the desired growth.
When I asked what kind of growth the business proprietor’s were after, most immediately referred to growth in their finances i.e. increased profits. Of course, there are many other ways of measuring growth such as turnover, footfall and market share.
Igor Ansoff, the Russian/American mathematician and marketer created a matrix which identified the four strategies for growing a business. These are:
- Selling existing products to your existing market. Ansoff defined growth strategies in this sector as Market Penetration. Tactics used in market penetration include buying out competitors, taking your competitors market share by making their customer’s switch to your business. A classic example of market penetration was Tesco’s takeover of One Stop. One Stop ran small convenience stores in the West Midlands. they were a direct competitor of Tesco’s Express stores. Tesco’s purchase allowed them to expand their Express stores quickly and to increase market share by removing One Stop from the market.
- Selling your existing products to new markets. Ansoff defines this strategy as Market Expansion. It seems obvious that if you expand your geographic area of operation, there is an opportunity to grow your business. However, you may also sell into new markets without a geographic expansion. For example, if you sell products in a business to business environment, is it possible for those products to be sold to consumers. Take the example of the pocket calculator. These were originally sold as a tool for scientists, engineers and accountants. The market was expanded by selling calculators to the education sector and eventually to everyone through stationers. Now you can buy a calculator in a supermarket.
- Selling new products to your existing market. Ansoff defines this activity as New Product Development or Brand Extension. Mars, the confectionery manufacturer has, in recent years, been a proponent of brand extension. Now, in addition to the traditional Mars Bar, you can buy Mars Bar Ice Cream and even a Mars Bar milk drink. New product development might include developing a new product to fit in an identified gap in the market. e.g. the development of the electric car market or the development of a sports utility vehicle (SUV) by a car manufacturer to attract a slightly different customer. In a recent documentary, the new Chairman of Aston Martin, a car company which has rarely been in profit, proudly showed off the design for the company’s new “urban cross-over”. This new car was an attempt by the company to expand its traditional sports/ grand touring market and attract more families. A classic example of new product development.
- Selling new products in new markets. This is a diversification strategy. Probably the most high-profile user of diversification is Sir Richard Branson. Branson started in business running a student magazine (despite leaving school at 16 with no qualifications). He then opened a record shop. Finding it difficult to get record companies to supply his shop, Branson started his own music label, Virgin, and turned a dilapidated manor house into a recording studio. Having built up virgin music, he started a commercial radio station, and set up a music festival. After the initial diversification from student magazine to music mogul, Branson really got the diversifying bug. His Virgin empire has expanded into banking, airlines, trains, weddings, hotels, food, computer games and even into public service procurement.
Ansoff recognised that each of these strategies could be used to develop and grow a business but he also argue that their was a risk hierarchy which businesses should heed.
The least risky growth strategy was market penetration. Firms already competing in a market knew their customers and had a product range which meted the needs of those customers.
A higher risk is taken when you expand your market. Your product offering may be stable but there is the risk that your intended customer base does not look on your products or services favourably. A fine example was Tesco’s expansion into North America. Tesco’s, operating under the name, Fresh and Easy, simply transplanted its UK business model into the United States. The American public, simply did not like Tesco’s product offering and the company lost millions. Marks and Spencer also had a similar experience when they tried to expand in America.
New product development is expensive. There is a significant financial risk in developing a new product, especially when your customers do not like the new product. Ford in the late 1950’s spent a fortune developing a new model of car, the Edsel. It was a sales disaster, consumers simply hated the way the car, named after one of Henry Ford’s sons, looked and it nearly destroyed the company.
Diversification multiplies risks of new product development and market expansion. It is possibly the riskiest growth strategy but strangely, many small firms look to it first.
Small companies should look to Igor Ansoff for guidance in growing their firm. First penetrate your existing market and only when penetration is impossible look to expanding either geographically or to new consumer segments. Only when the costs of expansion are too great or other factors prevent expansion should a business look to develop new products or expand their brand and finally, once all other strategies have been exhausted should a small firm look to diversify.
Philmus Consulting Ltd can help your business develop growth strategies and directional policies in today’s complex business environment.