Competitive advantage - Essay Example

Introduction Organizations around the world have been devising and implementing numerous strategies for decades in order to gain competitive advantage in their line of operations. Some of these strategies involve integration of their operations pertaining to the supply chain. In so doing the organization tries to look into the costs it incurs in the whole production process and the amount of control it has over each and every process. When considering vertical integration strategy for example, an organization looks into managing its supply chain from both the supplier’s and the client’s sides (Ellram 1991). This is a trend that is popular mostly with retailers who wish to control both ends of their business. This is where the retailer wishes to manufacture or provide what they sell and manage part if not the whole distribution channel. This increases the business’ level of integration. However, not all organisations choose to further this strategy because of various reasons. This paper will look into the reasons why organisations integrate vertically whereas others do not. Vertical integration Vertical integration is categorized into two; forward and backward integration. In case of forward integration (also referred to as downstream integration) the organisation expands its activities to manage distribution processes e.g. using its own trucks and personnel. For backward or upstream integration, the organisation expands its operations to include manufacturing or production of raw materials e.g. owning a farm to produce crops used as raw materials (Antonelli 2009). The following is a diagrammatical representation of Vertical Integration. No Integration Backward Integration Forward Integration Full Integration Reasons for adoption of vertical integration As stated earlier those firms that adopt vertical integration do so with the aim of achieving some level of control over their inputs and outputs within their supply chain. This results to the firm in question being able to manage production of its raw materials and the finished goods. This increases visibility of all levels of production thereby asserting organisational control. Many companies have adopted it as a result of the various economic and competitive benefits it offers (Murray, Poole and Jones 2006). Reduced transportation and other transaction costs When an organisation takes on more assets e.g. farm land which happens to be close to the processing plant then the cost of transporting raw materials is lower. Therefore, where vertical integration results in closer proximity or interdependent facilities or locations the costs are significantly lowered. This also happens when an organisation acquires other firms in the vertical ladder and divisions in the smaller firms start transferring goods directly to those in the major company. In this instance there are reduced negotiations as well as control of costs. Research shows that vertical integration where an organisation controls both the inputs and outputs leads to overall reduction in costs and increase in gross income due to removal of many costs (Dekkers 2005). Higher certainty of quality control After integration a firm gains full control of supplies together with the rest of the production process. It becomes relatively easy to control the quality of products at every stage. This result to standardisation procedures used coupled with specialisation at the various stages. Ability to create a monopoly In case a firm adopts the full vertical integration model, it is able to control the whole supply chain. Producing raw materials, processing and distributing finished products covers the whole chain thereby offering an opportunity for the organisation to monopolise the specific line of production (Campbell and Craig 2005). Investment in specialised assets Organisations through vertical integration are able to have specialised assets which can offer a competitive advantage. These kinds of assets offer a chance to produce high quality products. Increased market share Downstream integration where a firm engages in distribution offers it a chance to gain more customers. It is able to interact with them and expand its coverage since it has control over the geographical area to venture into and the clientele base. Raw materials accessibility For those organisations that require raw materials, engaging in upstream vertical integration offers them a chance to control production (Kazmi 2008). In instances where the company wishes to increase output, it simply increases the input. This is not the case where suppliers have to be negotiated with leading to wastage of time. The organisation is also able to achieve exclusive access to a scarce resource which offers a barrier to entrants and offers a direct competitive advantage. Expansion of core competences When engaging in activities previously offered by suppliers and customers, a firm improves on its employees’ core competences. This in turn results in increased satisfaction in the workforce which is important towards achieving organisational goals. Customer service benefits A firm as mentioned earlier is able to offer high quality products to its customers at a reasonable price incomparable to that of competitors. Due to the huge span of control from the source of materials to distribution, a firm is able to diversify on the product range (Hindle 2008). Due to the constant interaction with customers in the downstream vertical integration, a firm is able to make changes to its products depending on the customer preferences thereby fulfilling their desires. Reasons for organisations’ failure to integrate vertically Despite the above mentioned key benefits of vertical integration there are still managers who opt not to integrate their activities vertically. This in some instances depends on the line of business of the organisation or weighing of options and seeing that vertical integration will lead to costly complexities or inefficiencies in the short or long term. The following are some specific reasons that make some organisations not engage in vertical integration; Boosting of capital requirements As mentioned earlier, a firm will need to expand its operations to cover for activities not previously done like production of raw materials and distribution (Nigel 2009). This will require considerable capital outlay to kick start and sustain. There is also the need to have more workers and increase in responsibilities to the current ones which also digs deeper in the coffers of the company. The organisational structure is also needed to be changed especially in respect to management since the span of control increases with more integration. Potential higher costs There is risk of the company incurring more costs in the long term due to lack of competition in supplying of raw materials. When a firm engages in vertical integration it cuts off some suppliers and when competition is low then costs are more likely to increase. Increases bureaucracy With increased span of control and need to adjust the organisational structure, there is risk of increasing the bureaucracy (Barreyre 2006). This in turn costs the company time and money as workers seek for approvals and unending consultations while doing their tasks. If not well checked increased bureaucracy leads to inefficiencies that in the long term may cripple the organisation. Bureaucracy may also make it hard for the firm to concentrate fully on market needs as information takes time to flow from subordinates to senior managers for policy formulation. Shift in skills and capacity requirements Integration results in a firm taking new roles and practices which may require radically different skills and competences on the side of employees and the management. This may not always be met and when accomplished then it is at a high cost. Balancing capability Firms which have many departments to control are easily overwhelmed by the numerous tasks. Each stage in the supply or value chain requires some level of specialisation while the organisation is the same and most probably, its management. This specialisation then becomes a burden rendering management of the entire organisation, impractical (Hindle 2008). Conflict in core competences As mentioned earlier, development of core competencies is a benefit to a firm but of importance to note is that existing competencies may be negatively affected by the new ones (Cook and Farquharson 1998). This scenario makes employees uncomfortable while working. This may lower their motivation making them less productive which results to lower profitability. Risk of inflexibility When trying to manage all the demands of the increased production line and expanded value chain, a firm becomes less able to offer a variety of products. This is also as a result of increased internal developments which incorporate different tasks in operations. There is also limited time for creativity and innovation which may affect a firm’s competitive grounds. Conclusion When looking at organisations in general terms it is hard to come by one that is completely integrated. The onus lies with the management to decide on whether to integrate or not and if so, the degree of vertical integration to adopt. Caution is however necessary when deciding to have many activities under one management as the balance between load and capacity still applies. Overloading the resources of a firm with responsibilities will make it more vulnerable to changing demand patterns, regulations and unforeseen occurrences like the recent Global Economic Crisis. When deciding to integrate the management should consider the cost of integration, efficiency in operations and competitive advantage the firm will gain. References Antonelli C 2009, The evolution of the industrial organisation of the production of knowledge, Cambridge Journal of Economics, vol 23 2, pp. 243-260. Barreyre, PY 2006, The concept of ‘impartition’ policies: A different approach to vertical integration strategies, Strategic Management Journal, vol 9 5, pp. 507–520. 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