Academic journal article Global Business and Management Research: An International Journal

Product Diversification Deciphered

Academic journal article Global Business and Management Research: An International Journal

Product Diversification Deciphered

Article excerpt

Abstract

Purpose: Since researchers from different streams have used varied methodologies, that are complex to measure a firm's level of corporate diversification, the primary purpose of this paper is to provide practicing managers a range of alternate measures of diversification that can be computed with ease, from data that are available in their day-to-day management information systems.

Design/ methodology/ approach: Using a sample of large companies listed in the Bombay stock exchange, unrelated diversification index based on entropy measure is calculated. Five, alternative measures of diversification are developed from the same data set. Using hierarchical regression, this study explores as to which of the product diversification measures developed, explains the unrelated diversification measure calculated based on the Entropy measure.

Findings: The study provides the practicing managers three alternate measures of diversification, the proportion of the largest two-digit industry sales to total firm sales (DIVH2D), the number of products a firm produces (DIVNP) and the proportion of the 'number of two-digit industry codes to the number of four-digit industry code' (DIV2B4). These help managers gauge their firm's extent of unrelated diversification.

Research limitations/ implications: The alternate measures of diversification help the managers' benchmark their level of unrelated diversity, without having to go through the pain of calculating diversity through traditional methodologies that are complex and cumbersome.

Keywords: Corporate diversification, product based diversification, entropy measure, hierarchical regression

Introduction

Studies on corporate diversification have long been the mainstay of strategic management research. Most studies examine performance of different diversification types and the institutional contexts in which such relationships hold good (Weston, 1970; Khanna & Palepu, 1997; Fauver et al., 2003; Michael & Richard, 2003; Wan 2005). Results show that unrelated diversification in institutionally developed economies will erode firm performance (Wan, 2005) and it could enhance firm performance in emerging economies (Chakrabarti et al., 2007; Mishra and Akbar, 2007), including in India (Khanna and Palepu, 1997; Ghemawat and Khanna, 1998). With institutional context in India fast developing (Mohan, 2007), a key research question of enormous interest is, will diversified companies continue to be profitable? Measurement of corporate diversity, hence gains prominence in this context.

Measuring corporate diversity has always remained the central theme in the diversification firm performance research (Christensen & Montgomery, 1981; Rumelt, 1974; 1982; Palepu, 1985; Amit & Livnat, 1988; Kakani, 2002). Researchers have measured diversity, differently, in the past, and the concept of measuring corporate diversity has evolved over the period (Varadarajan & Ramanujam, 1987). Prior studies measure corporate diversification from the perspective of products and markets a firm operate in (Ansoff, 1957; 1965). Studies also examine diversification from the perspective of technology a firm deploys, the customer function it seeks to satisfy and the customer segment it serves (Abell & Hammond, 1979). Prior studies predominantly use Standard Industry Classification (SIC) scheme to measure the firm's corporate diversity (Rumelt, 1974; Palepu, 1985; Varadarajan & Ramanujam, 1987). Herfindahl index (Berry, 1971) and Entropy measure of diversification (Jacquemin and Berry, 1979) became the most popular SIC based diversification measures that were extensively used by researchers. In spite of being cumbersome, diversification studies have adopted this methodology due to the ease in comprehension, objectivity in approach and easy availability of product related information in the public domain. A number of other methods have also been used in literature to measure corporate diversity (Varadarajan & Ramanujam, 1987). …

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