Companies have the choice to expand their businesses in the same areas where they operate, venture into related businesses, or move into totally unrelated businesses as a part of their growth strategy. Within various ‘trade-offs' which top management teams make, what businesses a company chooses to be in, plays a key role in shaping the success of the company.

Interesting insights emerge when analysing the portfolio of BSE Sensex members. Sensex companies offer interesting insights. The thirty large companies which comprise the index cut across industry sectors. They also enjoy the highest ‘free-float' market capitalisation. Obviously, these thirty companies have done something different from their peers in order to be part of the Sensex.

How do the Sensex companies stack up on business focus? Overall, twenty five companies out of the thirty are focused on a single area of business activity. One is vertically integrated and only four are unrelatedly diversified.

Focus, a key to scaling

Growing larger in the same business, with utmost focus, has many advantages. When companies do what they know the best, they minimise the probability of failure. Of the Sensex 30, six companies — Hindustan Unilever Ltd (HUL), Tata Motors, Mahindra & Mahindra (M&M), Bajaj Auto, Tata Steel and Hindalco — are Sensex members since inception. All are focused on a single area. Other Sensex members, power companies like NTPC, Tata Power and Bharat Heavy Electricals Ltd (BHEL); energy companies Oil and Natural Corp (ONGC) and Coal India Ltd (CIL); and commodity companies Sterlite and Jindal Steel are all focused players.

All the banking players, including ICICI Bank, State Bank of India (SBI), etc; auto majors Hero Motor Corp, Maruti Suzuki India Ltd; pharma companies Cipla and Sun Pharma; and software companies TCS and Infosys, are also focused. They are clearly identifiable as either financial services companies, or pharmaceutical companies or automobile manufacturers, and nothing else.

Focus has largely helped these companies scale up. Be it Tata Steel, Hindalco or M&M, they have executed some of the biggest global acquisitions. Had they not been focused on a single business area, they may not have been able to allocate such large resources for acquisitions.

Airtel continues to be a part of Sensex in spite of the maturing Indian telecom market. It too, managed to scale through aggressive acquisition of Zain Telecom, gaining access to 16 African markets in one go. Reliance Communications was unable to do so, and was excluded from Sensex during 2011.

Leveraging core strengths

‘Focus' help companies scale, but as the industry matures, ‘single' business companies will not be geared to do anything else. Dunlop's strong focus on automotive tyres helped it scale to be the largest tyre company in the world, but its failure to fully capitalise on emerging opportunities in other rubber-based industries like mattresses, footwear and sports goods, resulted in the company eventually collapsing.

While focus is good, a good strategy will also be able to identify the right time to either exit or diversify. Bharat Forge, the global leader in forging and machining for the auto industry, became part of Sensex in 1992 but exited in 1996. It was robustly growing in its core business until 2010, when it realised that its core business had become extremely cyclical and matured, derailing further growth prospects. It leveraged its core strengths of forging and machining to diversify into other industries like aerospace, energy, oil, gas and railways.

But the key is timing. Had Bharat Forge proactively challenged the ‘status quo' much earlier and established itself into related businesses. the company could possibly have become a player of much larger scale.

Related diversification, however, is another story. It creates unique value propositions for customers. Leveraging technology, marketing, logistics and brand equity into related businesses results in improved profitability and at the same time guarantees a foothold in related businesses, ensuring growth even if the core business suffers.

In spite of its core business of motorcycles and three-wheelers performing exceptionally well, Bajaj Auto has over the years allocated significant resources to develop a ‘low cost' car.

ITC, the only unrelatedly diversified company part of Sensex since its inception, operates in cigarettes, hotels, ready-to-eat snacks to paper boards and lifestyle products. Being a prominent player in cigarettes for decades, but realising the potential regulatory onslaught, it has proactively leveraged its core strengths into related and unrelated areas, building altogether new competencies and positioning itself strongly in many ‘sunrise' industries.

It did not wait for its core business to decline. After all, cigarettes still constitute more than two-thirds of ITC's business and offers attractive operating margins. ITC is now well-set to grow in other high growth industries it has entered. Such opportunistic diversification has definitely helped ITC scale.

Unrelated business

With abundant opportunities in an emerging market like India, companies venture into unrelated businesses despite there being no synergies and little scope for cost savings. Century Textiles and Industries, a Sensex member till 1996, is active in cement, paper and textiles. Aditya Birla Nuvo, excluded from Sensex in 1996, is active in yarn, garments, textiles and carbon black. Voltas, which was part of Sensex till 1996, was a market leader in air conditioners since the 1950s but today is left with a low market share in its core business vis-à-vis its competitors like LG and Samsung.

It had ventured into a series of unrelated businesses like beverages, pesticides and chemicals and lost focus, giving away the edge in its core business to the new breed of competitors. Although it restructured its operations subsequently divested non-core operations, it was too late.

Many unrelatedly diversified companies were unable to scale and keep pace with their focused counterparts. Of late, Reliance Industries is moving into unrelated areas like retail and telecom. ITC, Wipro and DLF are the few companies in Sensex which have a sizable portfolio of unrelated businesses.

Although ITC's core business is bigger than its focused competitors Godfrey Philips and VST, its fast-moving consumer goods (FMCG) business is miniscule in comparison to HUL, its paper business smaller than Ballarpur Industries, its hotels business much smaller than that of Indian Hotels.

Yes, unrelated diversification may have helped companies scale up to a point, but, going forward, how will they respond to the onslaught of focused competition?

Companies are already addressing this issue. L&T's several lines of businesses, though once closely related to its core business, have now become more or less independent and warrant focused leadership for future growth. In response, L&T is designating different businesses as ‘independent companies' under separate leaderships, ready to be spun-off as separate legal entities.

Companies like ITC are also working on such a strategy.

Successful companies are predominantly focused and constantly look for opportunities to leverage their core strengths into related areas. In today's context, unrelatedly diversified companies have a lower probability to scale and succeed, unless they restructure independent businesses under focused leadership.

(The writer is a management consultant)

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