Vertical and Horizontal Integration Theory in the Tourism Industry - Term Paper Example

Discuss the rationale why hotel firms choose to integrate both vertically and horizontally within the wider tourism industry Introduction Tourism andhospitality industry is one of main industries in the world. The most well known Hotel chains are Hilton, Radisson, Sheraton, Crowne Plaza, Holiday Inn and Ramada, Concord, and Ritz-Carlton. The development of tourism and hospitality industry is a current need. The history of development of various hotel corporations, as a rule, testifies, that the level of profit is a result of quality service. The main objective of hospitality operator is to maintain the level of service quality and develop strategies to improve their services. The purpose of a business is to get and keep a customer. As hotel firms are dynamically evolving entities operating within a dynamically evolving environment, some means of evaluation of the way in which the two interact has to be found to enable them to be better matched. 1. Vertical and Horizontal Integration Theory In order to achieve these goals tourism and hospitality industry choose to integrate both vertically and horizontally to meet the needs of their customers and achieve overall objectives. It should be mentioned that integration is development beyond the present product and market, but still within the broad confines of the 'industry' within which the company operates: for example, Sheraton and Crowne Plaza are diversified corporations, but virtually all their interests are in the consumer service industry. Integration both vertical and horizontal therefore builds on the assets or activities which the firm has developed in service or market terms (Nebel, 1991). 1.1. Vertical integration. Vertical integration is a broader term used to describe either backward or forward integration. Backward integration is popular in tourism and hospitality industry. It refers to development into activities which are concerned with the inputs into the company's current business (i.e. are further back in the value system). Backward integration is important for tourism and hospitality industry because it refers to development into activities which are concerned with a company's outputs (i.e. are further forward in the value system), such as transport, distribution, repairs and servicing (Powers, Barrows, 2002). 1.2. Horizontal integration. Horizontal integration refers to development into activities which are competitive with, or directly complementary to, a company's present activities. A lending library's extension into tourist information or video cassette material would be an example (Stutts, 2001). The acquisition of, or merger with, a competitor would be one way of achieving this, for example. The strategic logic behind horizontal development is typically to gain leverage or market power over suppliers or buyers. Higher volume generally confers greater scale economies in purchasing whereas larger product market share confers greater pricing power over customers. 2. The role of vertical integration in hospitality and tourism industry Backward vertical development is movement towards a supplier of resources used by the business. This might be an attempt to secure supply of a key resource or to gain a cost advantage over competitors by 'locking in' a supplier. Conversely, forward vertical development is growth towards the next stage in the supply chain by gaining an interest in a buyer of the company's outputs. In both cases, the strategic logic is to secure a foothold in the same supply chain to guarantee supply or distribution. This degree of vertical integration was unusual in an industry which had become characterised by specialist companies concentrating on just one of these roles. The company believed the strength of its philosophy was that one division could help out another when times got hard, as in the recession of the early 1990s. For example, although demand for low rate hotels had declined, but standard services had experienced strong. As a result, the low rate hotels had been turn into standard rate hotels and kept also busy. But the real advantage of vertical integration was exercised when the divisions agreed to improve the of low rate hotels into a standard form. In Concord company the divisional managing directors saw many more advantages of vertical integration than simply this 'backstop'. They claimed that their knowledge of the whole process was much greater than many of their competitors, which was often valuable in discussing requirements with the end-user customers. Because the arrangements between the divisions tended not to be strictly 'contractual' but more dependent on good relationships, it allowed 'rabbits to be pulled out of the hat' from time to time. They felt it was easier and quicker to make quality improvements, and all parts of the service process (or value creation process) were under the direct control of the company. Last but not least, it had helped the hotel chain improve its on-time performance from 55 to 96 per cent. It is evident that market development (buying more hotels) may improve performance in the value system, since it provides a further opportunity to exploit a good corporate image, and hence 'launch costs' are minimised compared with a new entrant. Vertical and horizontal integration helps to maximize guest satisfaction. In this case their purpose is to attempt to maximize the performance of service by ensuring that it performs regularly and efficiently. Service, however complex or simple, however cheap or expensive, is liable to breakdown. The effective operation of any system is dependent on the maintenance of all parts of the system, e.g. buildings, services. Indeed, company welfare or personnel practice is designed partly as a maintenance activity, e.g. training and retraining to maintain the availability of appropriate skills, facilities to maintain human capacity, counselling to maintain interest and motivation (Nebel, 1991). The vertically integrated model, whereby a single group became the full owner (or had equity in) of airline operations, tour operations and travel retailing was, however, the subject of further development. Until the late 1990s, most groups avoided investment in accommodation, believing that the high capital costs and inherent interest rate and property risks involved were at variance with the types of businesses they had traditionally run. Competition from operators around Europe, the growth of new markets in Eastern and Central Europe, and a slow-down in the rate of new building led to a shortage of good-quality accommodation at key resorts (particularly in the Balearic and Canary Islands). The shortage increasingly led to a re-assessment of the position with regard to property and hotel ownership on the part of the big travel groups. Airtours became hoteliers with the purchase of Scandinavian Leisure Group and then further embraced accommodation ownership with the purchase of several hotels and apartment complexes. In 2000, for example, the company purchased for 63.4 million the Bellevue apartments, Europe's largest complex situated in Majorca. This not only gave the company access to high-quality accommodation in an important location, but it also denied others such access at a time when increasingly stringent planning procedures prevented large-scale new developments (Stutts, 2001). 3. The role of horizontal integration in hospitality and tourism industry. Horizontal integration helps to overcome problems which cannot be solved with the help of vertical integration principles only. In tourism and hospitality industry horizontal development is a move resulting in higher market share within the same markets. It is difficult to open the business press without encountering details of a proposed or progressing merger or acquisition. In a merger the shareholders of the hotel firms come together, normally willingly, to share the resources of the enlarged (merged) hotel firms, with shareholders from both sides of the merger becoming shareholders in the new organization. The process of acquisition is also popular among hospitality industry. An acquisition is a joining of unequal partners, with one organization buying and subsuming the other party. In such a transaction the shareholders of the target organization (the smaller one) cease to be owners of the enlarged organization unless payment to the shareholders is paid partly in shares in the acquiring company. The shares in the smaller company are bought by the larger. A compelling reason to develop by acquisition in tourism and hospitality industry is the speed with which it allows the company to enter new service/market areas. In some cases the service and market are changing so rapidly that this becomes the only way of successfully entering the market, since the process of internal development is too slow. Another reason for acquisition is the lack of knowledge or resources to develop a strategy internally. For example, a hotel firm may be acquired for its R & D expertise, or its knowledge of a particular type of production system. International developments are often pursued through acquisition (or joint development) for reasons of market knowledge. The competitive situation may influence hotel firms to choose acquisition. In markets which are static and where market shares of companies are reasonably steady, it can be a difficult proposition for a new company to enter the market since its presence would upset the equilibrium. If, however, the new hotel firm chooses to enter by acquisition, the risk of competitive reaction is reduced. The same arguments also apply when an established supplier in an industry acquires a competitor either for the latter's order book to gain market share, or in some cases to shut down its capacity and help restore a situation where supply/demand is more balanced and trading conditions are more favourable. There are also financial motives for acquisitions in tourism and hospitality industry. If the share value of a company is high, then a firm with a low share value may be a tempting target. Indeed, this is one of the major stimuli for the more aggressively acquisitive companies. Sometimes there are reasons of cost efficiency which make acquisition more favourable. This cost efficiency could arise from the fact that an established company may already be a long way down the experience curve, and may have achieved efficiencies which would be difficult to match quickly by internal development. For instance, in Concord hotels cost efficiency is usually the stated reason for merging units and rationalising provision. The overriding problem with acquisition lies in the ability to integrate the new company into the activities of the old. Reasons for mergers may be similar to those for acquisitions. However, mergers are more typically the result of organisations coming together voluntarily; and this is likely to be because they are actively seeking synergistic benefits, perhaps as a result of the common impact of a changing environment in terms of either opportunities or threats. 4. Necessity to implement both vertical and horizontal integration within tourism and hospitality industry If tourism and hospitality industry employs only vertical integration it will miss opportunities to reach overall objectives of the industry dynamics. It can be explained by the fact that in the infrastructure of hospitality operator service quality is the major question. Without qualitative service the tourism and hospitality enterprise is not capable to achieve the overall objectives. The history of development of various corporations, as a rule, testifies, that the level of profit is a result of quality. The main objective of tourism and hospitality industry is to maintain the level of service quality and develop strategies to improve their services (Stutts, 2001). It should be remembered, however, that many tourism and hospitality organisations are already very diverse and may sensibly need to ask the reverse question: namely, how far should they specialize their activities (Davidson, 2003). Equally, highly diversified tourism and hospitality organisations might see any of these as reasons to increase their degree of specialisation. For example, it might be decided that hotel services have become available from a reliable low cost, and this provides a good reason to cease the supplier of those materials needed within the company (Stutts, 2001). 4.1. Specific needs of hotel industry It should be mentioned that all customers have some expectation of the quality of the services which have to be provided. Present day situation in hospitality and tourism operator is marked by two factor - specification, which is to do with the 'design quality' of service, and conformity, which is to do with the 'process' quality which is achieved are of particular importance to customers. Ultimately they are the two factors which determine the quality levels provided by hotel industry to its customers. These two factors however are themselves determined by other factors. It needs to be recognised that increased ownership of more value activities within the value chain does not guarantee improved performance for the company or better value for money for the consumer or client. Indeed, there has been some degree of disillusionment with related diversification as a strategy and more emphasis on improving performance within the value system through (Peyrefitte, Golden, 2002). For instance, Ritz-Carlton was once a vertically integrated group. It therefore had a long tradition of related diversity, particularly in its retail operations, which included catering and hotels. In the 1970s and particularly the 1980s, it concentrated on building up its hotel chains, culminating in the 1987 acquisition of Holiday Inns, and its claim in its 1991 annual report to be 'the world's leading hotel operator with more than 1,600 hotels and 325,000 guest rooms in over 50 countries'. Concordss interests include hotels in Mexico, freight forwarding and travel agencies in Canada, casinos in the Bahamas, oil and gas production in the USA, motor distribution in African states such as Kenya, Zaire and Zimbabwe; tea estates in Malawi and Tanzania; brewing in Kenya and Zambia; sugar estates in Malawi and South Africa; motorcycle distribution in Nigeria; paint manufacturing in Zambia; property development in Germany; and newspapers, refrigeration equipment and bed linen in the UK. So, it is evident that tourism and hospitality organisations breaking new ground are not in a position to develop by acquisition or joint development because they are the only ones in the field. But this problem is not confined to such extreme situations. Organisations which would prefer to develop by vertical and horizontal integration may not be able to find a suitable target for that acquisition: this is a particular difficulty for foreign companies attempting to enter Japan, for example. Internal development also avoids the often traumatic behavioural and cultural problems arising from trying to integrate the two firms involved in an acquisition (Dow, 1999). In general, because of vertical and horizontal integration hotel firms is marked by increasing capital markets activity over the past 5 years. It is estimated that average annual returns for full-service hotels are anticipated to exceed 13 percent over the next 10 years, with hotel industry investment alternatives performing at single digit growth rates (approximately 7 percent to 9 percent) (Introduction to Management in the Hospitality Industry, 2002). 4.2. Importance of HR in the vertical and horizontal integration In vertical and horizontal integration of Hotel industry a very important role is played by staff and HR. Achieving vertical fit managers in hotel industry should remember that business and HR issues influence each other and in turn influence corporate and business unit strategies. It is also necessary to note that in establishing these links, account must be taken of the fact that strategies for change have also to be integrated with changes in the external and internal environments which is unstable in hotel segment. Horizontal fit is achieved when the various HR strategies cohere and are mutually supporting. This can be attained by the process of 'bundling' or 'configuration'. If a deliberate attempt to 'bundle' is made, this process will be driven by the needs and characteristics of the business. In this very case strategic integration could be described as vertical integration - the process of ensuring that hotel strategies are integrated with or 'fit' business strategies. The concept of coherence could be defined as horizontal integration - the development of a mutually reinforcing and interrelated set of hotel policies and practices, that is, 'bundling' or the use of 'complementarities'. Strategic or vertical integration is chiefly about ensuring that the hotel firms has the skilled, committed and well-motivated workforce it needs to achieve its business objectives. It can be attained by linking strategies to basic competitive strategies. Horizontal integration is accomplished by developing a coherent - a well-knit -range of interconnected and mutually reinforcing policies and practices (Kirca, 2005). 4.3. Importance of "clear" strategy in vertical and horizontal integration An attempt can be made to understand the direction in which the organization is going, even if this is not expressed in a formal strategic plan. For instance in the middle of 1990s Concord hotels had strategies in the form of intentions, although these may be ill-formed and subject to change. The ideal of achieving a link in rigorous terms may be difficult to attain. During the past several years, under tight capital availability for new development, condominium-hotels have enjoyed a renaissance, with various condominium-hotel projects currently under construction in South Florida and other central business districts such as Manhattan and Chicago. Often, the appeal to developers is clearer than the appeal to buyers and management companies, with major incentives being an alternative financing structure and a desire to minimize operating risk. Compared to more traditional financing arrangements for hotels that require equity investments between 30 percent and 40 percent (or more) of project cost (Stutts, 2001). To achieve this objectives horizontal fit was used. Achieving integration is also about ensuring, when planning any innovation, that its implications on other aspects of policies and practice are fully considered and that further thought is given on how it could support those policies or practices. The aim should be to adopt a more systematic approach by 'bundling' policies and processes. A study of confirmed the findings of research conducted in the US which showed that bundling view of the constituents of performance, how these contribute to desired outcomes at the organizational, departmental, team and individual levels, and what needs to be done to improve these outcomes. Choosing both vertical and horizontal integration in its fullest sense is based on the belief that everything that people do at work at any level contributes to achieving the overall purpose of the hotel firms. It is therefore concerned with what people do (their work), how they do it (their behaviour) and what they achieve (their results). It embraces all formal and informal measures adopted by an organization to increase corporate, team and individual effectiveness and continuously to develop knowledge, skill and competence. It is certainly not an isolated system run by the personnel department, which functions once a year (the annual appraisal) and is then forgotten. The combined impact of a number of related aspects of performance management may be expected to achieve more to improve organizational effectiveness than the various parts if they functioned separately (Powers, Barrows, 2002). 5. Findings and conclusion Both forms of integration support the hotel industry to be better equipped to handle business desires, paying attention to clients' needs, competitors and prospective partners. It is especially important for hotel business which includes more than one hotel. The need is to find ways to manage the purchasing and brand requirements for each hotel and franchise (Kirca, 2005). The concept of performance management as a vertically and horizontally integrating force means that performance management 'should be integrated into the way the performance of the business is managed and it should link with other key processes such as business strategy, employee development, and total quality management' (Stutts, 2001). Integration is achieved vertically with the business strategy and business plans and goals. Team and individual objectives that support the achievement of corporate goals are agreed. These take the form of interlocking objectives from the corporate level to the functional or business unit level and down to teams and the individual level. Steps need to be taken to ensure that these goals are in alignment. It is possible to conclude that there are many different ways in which hotel industry could attempt to achieve its objectives: vertical integration attempts to achieve control through ownership of more parts of the value system. Many hotels are now disillusioned with this as a solution, since the practical difficulties and costs of co-ordinating a wide range of activities often outweigh the theoretical benefits. Horizontal integration means aligning performance management strategies with oth strategies concerned with valuing, paying, involving and developing people. It can act as a powerful force in integrating these activities. For these very reasons hotel firms choose to integrate both vertically and horizontally to cover all the service spheres and have a possibility to maintain a strong market position. References 1. Clarke, D., Dolan, R.J., "A simulation analysis of alternative pricing strategies for dynamic environments", Journal of Business, Vol.57, No.1, 1984, pp. 179-200. 2. Concord Hotels Retrieved 20 February 2005, from http://massachusetts-hotels.allaroundtheglobe.com/concord-hotels/ 3. Davidson, M. C.G. Does organizational climate add to service quality in hotels International Journal of Contemporary Hospitality Management. 2003 Vol. 15 #4 pp. 206 -213. 4. Dow, D. "Exploding the Myth: Do All Quality Management Practices Contribute to Superior Quality Performance" Production and Operations Management, Vol. 8, No. 1, 1999, Spring pp. 1-25. 5. Ennew, C. T., Reed, G. V., Binks M. R. "Importance-Performance Analysis and the Measurement of Service Quality." European Journal of Marketing, 27, 1993. pp. 59-70 . 6. Kirca A. H. The impact of mode of operation on sales performance in international services. Journal of Services Marketing. 2005, Vol. 19, # 1, pp. 39- 46. 7. Nebel E.C. Managing Hotels Effectively: Lessons from Outstanding General Managers. Wiley, 1991. 8. Peyrefitte, J., Golden, P.A. Vertical integration and economic performance: a managerial capability framework. Management Decision. 2002. Vol. 40, #3, pp. 217-226. 9. Powers T., Barrows C.W. Introduction to the Hospitality Industry. Wiley, 5 edition. 2002. 10. Stutts A. Hotel and Lodging Management : An Introduction Wiley, 2001. Read More