Why Diversification Matters for Family BusinessesTuesday, 7th August 2012
When businesses look into diversification they often see it as a way to mitigate the risks of the core business, by expanding into others. Others in a family group however can feel it is better to stay in the one business without needlessly expanding into others where the family does not have a competitive advantage, the answer is situational. In this article I look into why diversification is important for Family Businesses, how it can be achieved and the rewards and pitfalls that accompany it. David Harland - one of Australias leading authorities in family business sector.
Why Diversification Matters for Family Businesses
Anyone who has invested money has heard about the importance of diversification in a portfolio to hedge against losing too much money when markets retreat. Diversification can be equally important to businesses that may face serious threats when disruptive technologies enter the marketplace, big competitors move in, or during turbulent economic times. Although family businesses are famed for their nimbleness and ability to react quickly to changing times, diversifying lines of business and expanding products and services can offer additional security when times are tough.
Some of the most enduring family businesses started in one industry before growing into diversified companies with many lines of business. The Escor Group, one of Australia’s largest family firms, started as a small butcher shop before expanding into wholesale meat distribution. A period of rapid expansion after WWII has turned them into Australia’s second largest steel producer and an international conglomerate. Western Australia’s Omnibus Services got its start with a single school bus contract, which grew into a fleet of 150 private coaches. Needing new busses, the family group expanded into bus manufacturing and repair, which form the core of their business today. With foresight, luck, and hard work, both these companies successfully leveraged diversification to grow into large, vibrant companies that continue to provide employment and support for their family members today.
How Can Family Businesses Diversify?
Our work with clients has shown that in order to maintain a successful business over the long term (especially over multiple generations), family businesses must embrace innovation and constantly challenge their business models in order to diversify into new products and services. Families who are interested in exploring diversification possibilities should consider the following:
- Expanding into new geographical markets: Leveraging experience in core business offerings, family businesses may be in a position to gain a competitive advantage in another market;
- Developing additional lines of business: Many businesses have sidelines or complementary offerings that could be expanded. Look up and down the supply chain for opportunities to increase your firm’s control over the market. You may also want explore horizontal expansion possibilities by buying up weakened competitors who can bring in additional markets and lines of business;
- Developing new products or new services: Without the need to focus on short-term profits, family businesses can invest more time into creating and testing new product than their corporate competitors;
- Investing in new skills and technology: The market is constantly changing, and family businesses should be investing in new technologies and training employees to keep up with shifting market needs. Companies that do business abroad may want to consider offshoring certain functions in order to lower costs or ensure round-the-clock availability.
Benefits and Drawbacks of Diversification
Obviously, with any major business decision, business leaders have to balance the risk and the reward. Expansion and diversification can offer clear rewards: increased revenue, new business possibilities, and a hedge against localized business challenges. When expansion occurs overseas, businesses can be shielded against local economic downturns. Although the past few years of economic uncertainty have left been a struggle for most businesses, periods of decline can offer opportunities to acquire competitors or capital assets at bargain prices.
A note of caution: our experience tells us that it is inadvisable to consider diversifying until your core business is stable and successful. If your firm is still working to find clients and fill orders, shifting focus could undermine your principal business. There are a few important risks to always consider when considering diversification strategy: New markets and new ventures always carry with them the risk of failing or of watering down primary offerings. It is critical conduct proper due diligence and ensure that you are not exposing your business to too much risk. One way to limit a business’ exposure when expanding or adding new offerings is to collaborate with a partner firm. Leveraging the expertise of another business can drastically improve the chances of business success and limit your firm’s financial risk, particularly when expanding into an area that’s outside your firm’s expertise. It is very important to choose one’s partners carefully to minimize culture differences and financial expectations and to ensure a proper mix of skills and experience.
Whatever your business, it is important to begin thinking now about future expansion and diversification. In a future column, we’ll be interviewing a family business with a track record of successful diversification to find out the successes and pitfalls they met along the way.
After Advice on Business Diversification? contact FINH on 07 3229 7333