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strategic diversification

Don’t put all your eggs in one basket, goes the adage but when  diversifying one’s business, too many baskets may be a bad idea
Nabeel Jawad Sultan

Diversification is a widespread phenomenon in the GCC countries as a natural consequence of the fiscal conditions these countries experienced in the past few decades. Oman is no exception. The '70s and '80s were a closed system era for the Gulf economy and opportunities for business growth in any segment were limi-ted. In Oman, trading within the country was the norm and most would not even think about stepping outside the sultanate for business. As the appetite for expansion grew, businessmen found a way to enlarge the market by adopting a diversified business module and spreading out into different businesses. This module was valid then but it is now time to re-examine the strategy and look at it in a focused manner, concentrating on strategic diversification.   

Global convergence
In an increasingly shrinking world, businesses are thinking beyond borders more than ever before and there is a lot of convergence taking place, spearheaded by those in the fields of telecommunication, IT and media industry. These, along with many other convergences that are happening around us, are playing a major role in making this world a true global village. The economic convergence and integration of the European Union, World Trade Organisation agreements, US Free Trade Agreements, GCC economic integration, currency unification and other global integrations that are in progress are all indications of the new realities that are unfolding before our eyes.

This will be further strengthened with social, cultural and religious integration, which I think will be the next convergence. Integration of human societies will lead to an even stronger non-local reality of this world. I think the picture is clear – we are entering an era where we will eventually be foreigners in our own houses. But this is just one side of the coin; the other side is that we are welcomed to other houses as well, so it's not that bad after all.

The Devil D
The term diversification is broadly used in the business nomenclature. It is also widely misunderstood by many executives at the strategic planning level. Investors who seek diversification by investing in many stocks, for example, find out, with the crash of the market, that they should have diversified into bonds, only to realise later that diversification into real estate was also necessary. But when the entire econ-omy fails, the diversification advice that was given by the financial planner seems worth nothing and the investor becomes sceptical about his advisors. The game of diversification is endless, and by the time one is perfectly diversified, one's financial requirements are minimal.

Another misconception about diversification is that it protects you from losing your wealth. One could have just made multiple wrong diversified decisions. In fact, very often this turns out to be the case.

Diversifying into an entirely new line of business requires a higher level of risk, and a longer payback period. RO1 invested in an existing business will be more efficiently utilised than a similar amount invested in a new business because of all the set-up, lear-ning curve and extra marketing efforts spent to gain market share. 

Scarcity mentality trap  Decision makers, especially during economic booms, often go into an overdrive and act as if life will end if they don't invest in every single venture that comes across. I see many family businesses diversifying into areas in which they never had an interest before, justifying it as strategic planning. Unless you are in the Forbes top 25 billionaires of the world list, I doubt that your resources are unlimited. And even for the top 25, the resources are limited (of course, I will have to exclude Gates and Buffet from this).

The problem is that we are confronted with massive specialised companies in different fields coming from all over the world. Decision makers who are not focused and specialised in their field will eventually lose their marketshare in a significant way.  
 
A bigger problem lies in the mindset of the business owners and the pride and prestige they take in owning many businesses. Selling a profitable business is not welcomed in this part of the world. To move out of one's comfort zone is always difficult, and true leadership and strategic thinking capabilities are tested when business leaders disassociate themselves from emotions and prestige issues. Success is always near you, but mega success is always one step beyond.

What's wrong with diversifying?
Diversification is a package of art, science, and common sense. It is an art because it requires skills to execute it. It is science because it requires statistics, probability as well as risk assessments, formulas, and hardcore suppor-ting analysis behind it. It is common sense because it requires a simple man's reflection and understanding of the decisions.

We diversify to protect ourselves and our organisations from major catastrophes, inconsistencies or fluctuations in the income, but this can be done without expanding into different businesses. Expanding into many unrelated businesses is a very inefficient form of diversification. On the other hand, focusing on one segment and expanding within the boundaries of that    business is a far more efficient and effective strategy.

Wake-up call
In a constantly changing and ever dynamic world that we are experiencing now, nothing could be truer than the saying: 'Jack of all trades, master of none'. The days of expanding into all kinds of unrelated businesses are over. The dynamics are changing. Businesses in general, and family businesses in particular, need to focus on areas where they have competitive advantage and divest their interest in the rest. I think it is far riskier to have 20 companies operating in one country, than to have one company operating in 20 countries. The risk of being eaten up by other sharks is huge if you are not a shark yourself. This is a wake-up call for all of us. But it is that kind of wake up call that you only receive it if you are awake.

Horizontal vs. Vertical diversification

There are two types of diversifications – horizontal and vertical. A business that has interests in banking, automobile, retailing, manufacturing, telecommunication, tourism and pharmaceuticals will be considered horizontally diversified, as these are businesses that have no synergies among each other and are in very different sectors. Vertical diversification, on the other hand, will be an automobile manufacturing company that has ventured into car rental business, car distribution, perhaps leasing, finance and insurance and other automobile related businesses. The difference between the first and the second type of diversification is that the latter is aimed at strengthening the core business and creating an empire of backward and forward integrated conglomerate while the former is not. The problem with the horizontal diversification strategy is that it creates a strong group that has shaky components. Vertical diversification strategy, on the other hand, creates a solid organisation with strong constituents.

Leaders should look at optimising their businesses through vertical diversification. We need to build strategically around our business in the form of backward and forward integration to get the maximum out of it. It is not surprising that of the world's top 25 billionaires, only three have accumulated their wealth from diversified businesses. The rest (88 per cent) have it from specialised industries: Bill Gates from software business, Warren Buffet from investments, Walton family from retailing, and Carlos Helu from communications, just to name a few. 

Locally, there are some great examples of businessmen who understood this concept very well, and capitalised on it. Those businessmen focused their company resources on one or a few markets and benefited immensely. One of the biggest family businesses in Oman that focused mainly on a single market is the Saud Bahwan Group. The passion for automobile and automobile related businesses led the group to maintain its position as the market leader with a huge marketshare. Another successful businessman who has a passion for one industry is Mohammed al Barwani. His passion for oil and gas industry has enabled him to develop his company not only in Oman but also all over the world with companies operating in the same field in Qatar, China, the UK and East Europe.

P N C Menon, an Oman-based real estate billionaire, accumulated majority of his wealth from the property market in India where he floated a real estate company. Still not convinced? Then look at the world's top 400 companies, only one per cent has diversified business nature, the rest is industry focused.