Corporate Strategy

Introduction

Paul Gouvard, [email protected]

Course details
Course content

The course is a general introduction to corporate strategy

The fundamental questions around which it is designed are as follows:
• What is corporate strategy? What does it aim for?
• How can a firm pick between different growth strategies?
• How can a firm make the most out of its current portfolio of businesses?
• Which corporate strategies reliably increase performance?

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Organization of the class

Classes will alternate between the introduction of theoretical material and business cases
This week we will not do a business case
Starting from next week, we will dedicate the first half of the class to theoretical material and
the second half of the class to case discussion

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Organization of the class

WEEK 1: Introduction; Read Case Tesla for next week

WEEK 2: Synergies, Case Tesla; Read Case Activision for next week
WEEK 3: Ally or Acquire / Make or Buy, Case Activision; Read Case Swisscom for next week
WEEK 4: Vertical integration, Case Swisscom; Read Case Intel for next week
WEEK 5: Internationalization, Case Intel; Read Case Amazon for next week
WEEK 6: Managing M&A, Case Amazon; Read Case Uber and Cornershop for next week
WEEK 7: Managing the business portfolio, Case Uber and Cornershop ; Read Case AT&T for
next week
WEEK 8: Does corporate strategy work, Case AT&T; Read Case Disney for next week
WEEK 9: Advanced topics in corporate strategy, Case Disney; Read Case Uber for next week
WEEK 10: Wrap up, Case Uber
WEEK 11: Exam

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Organization of the class

Case studies will be done in-group

You have been assigned to group. Please check on Moodle and coordinate before next
week
Reading case studies before each class is mandatory
Questions for the case studies will be provided in class and groups will be given time to
discuss each of the question in turn before sharing their thoughts together
No group change
Please report free-riders as soon as possible

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Evaluation

The final exam will consist in a two hours case study where students will have to answer a
question based on information provided to them.

The final grade for the class will be computed as follows:

• 40% final exam
• 30% class participation
• 30% group work on cases

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Useful resources

For your general interest I invite you to read journals written by academics for practicioners:
• The Harvard Business Review
• The California Management Review
• Insights
• Ivey Business Journal

I also invite you to read the (serious) business press:

• The Financial Times
• Wall Street Journal
• The Economist

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Useful resources

Another interesting source of contents are annual reports, quarterly results or IPO
prospectuses published by companies and transcripts of conference calls between managers
and analysts. Warren Buffet claims to read 500 pages of financial material per week…

Examples:
• Tesla conference calls: https://www.youtube.com/watch?v=aMujTlMXRMM
• Netflix quarterly results: https://ir.netflix.net/investor-news-and-events/financial-releases/
press-release-details/2021/Netflix-Releases-Second-Quarter-2021-Financial-Results/
default.aspx

These things are pretty easy to find on Google

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Useful resources

You may as well look at big consulting companies’ reports on industries or market trends:
• Boston Consulting Groups
• McKinsey
• Bain consulting
• Ernst & Young (EY)
• Deloitte
• KPMG
• PwC
• Roland Berger

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Useful resources

In terms of books, you can have a look at :

• Corporate Strategy: Tools for Analysis and Decision-Making, Puranam and Vanneste, 2016

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What is strategy?
What is strategy?

• Strategy is the direction and scope of an organization over the long term, which achieves
advantage in a changing environment through its configuration of resources and
competences with the aim of fulfilling stakeholder expectations (Johnson, Scholes and
Whittington, 2008)
• Strategy—a central, integrated, externally oriented concept of how the business will
achieve its objectives (Hambrick and Fredrikson, 2001)
• The essence of strategy is choosing activities differently than rivals do (Porter, 1996)

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What is strategy?

A strategy consists of:

• Clear, long-term goals
• Plans to reach these goals given 1) one’s understanding of their environment and 2) one’s
available resources
• The allocation of available resources to accomplish these plans

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What is strategy?

Strategy involves clear, long-term goals

• Companies may have stated and unstated goals (e.g. greenwashing)
• Different people within a company may have different goals and/or different thoughts on
what the company’s goals are
• The CEO might want to reduce the company’s carbon emission but the board of directors
might disagree if it comes at the expense of profitability
• Still, most often when companies describe their strategy they indicate clear, long-term goals

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What is strategy?

Strategy involves an understanding of one’s environment

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What is strategy?

Strategy involves an understanding of one’s environment

• Who are the competitors of the Cergy Tokyo?
• Who are its customers?
• Who are its suppliers?
• Is there a threat of new entrants?
• What are potential substitutes? Complements?

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What is strategy?

Strategy involves an understanding of one’s environment

• One important aspect of the environment is the ‘industry’ comprising competitors, suppliers,
customers, new entrants, substitutes and complements (Porter’s 5 or 6 forces)

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What is strategy? – The industry environment
SUPPLIER POWER
• Suppliers’ price
sensitivity
• Relative bargaining
power

THREAT OF ENTRY SUBSTITUTE

• Capital requirements INDUSTRY RIVALRY
COMPETITION
• Economies of scale • Concentration
• Diversity of • Buyers’ propensity
• Absolute cost advantage
competitors to substitute
• Product differentiation
• Access to distribution • Product differentiation • Relative prices &
channels • Excess capacity and performance of
• Legal/ regulatory barriers exit barriers substitutes
• Retaliation • Cost conditions

BUYER POWER
• Buyers’ price
sensitivity
• Relative bargaining
power

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What is strategy? – The environment: Streaming industry
example Investment in a streaming platform, in
SUPPLIER POWER
IPs, in production of content…
Owners of IPs can go to the highest
bidder
Platform is relatively easy to expand
Incumbents own major franchises
• LIMITED
Suppliers’ price Limited number of streaming platform
relative to IP owners
sensitivity
Diff. in terms of catalogue/themes (+) IP owners want to be on platforms
Internet is largely open • Relative bargaining Dependence on external content
Limited legal barriers (dep. on country) provider is limited as most streaming
High risk of retaliation (war)
power
platforms produce own content

THREAT OF ENTRY SUBSTITUTE

• Capital requirements INDUSTRY RIVALRY
COMPETITION
• Economies of scale • Concentration
• Diversity of • Buyers’ propensity
• AbsoluteLIMITED
cost advantage HIGH
competitors HIGH
to substitute
• Product differentiation
• (+)
Access to distribution (-) differentiation
• Product • Relative(-)
prices &
channels • Excess capacity and performance of
• Legal/ regulatory barriers exit barriers substitutes
• Retaliation • Cost conditions

Cheap illegal alternatives to access

Easy and not costly for buyers to most content
switch; Prices are comparable BUYER POWER Free legal streaming platforms
Buyers may have several
subscriptions
• HIGH
Buyers’ price (youtube) offer access to different
kind of entertainment (but potentially
sensitivity
Differentiation contribute to render
buyers dependent
(-) competing)
• Relative bargaining Other substitutes for screening time:
video games, VOD
power

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What is strategy?

Strategy involves an understanding of one’s environment

• One important aspect of the environment is the ‘industry’ comprising competitors, suppliers,
customers, new entrants, substitutes and complements (Porter’s 5 or 6 forces)
• There are often multiple manner to define one’s environment
• Should Netflix limit its competitors to other streaming platforms? Should it include, e.g.,
video game providers?

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What is strategy?

Strategy involves an appraisal of one’s resources

• What are the tangible resources of ESSEC?
• Intangible resources?
• Which resources have a substantial impact on ESSEC’s performance?
• Which resources are not easily found elsewhere?
• Which resources are hard to imitate?
• Which resources are deeply embedded within the organization?

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What is strategy?

Two frameworks to appraise resources

GRANT: Strategic Importance BARNEY:
Comparison
Criteria VRIO Criteria
Establishing competitive
advantage
 Relevance  Valuable Similar: both about creating value
 Scarcity  Rare Identical: scarcity = rareness
Sustaining competitive advantage

 Durability No equivalent criterion in VRIO

 Transferability Similar: imitation requires either buying (i.e. transfer) or
 Imitable replicating a resource
 Replicability

Appropriating competitive  Organization Similar: appropriating value requires embedding the

advantage resource within the organization

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What is strategy?

Strategy involves an appraisal of one’s resources

• Like goals and the environment, the definition of which resources are valuable is not
necessarily consensual
• Youtube’s recommendation algorithm can be a valuable resource if one considers it helps
attract and retain viewers or not if one considers it creates redundant recommendations
• Still it’s essential to consider when elaborating one’s strategy

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What is strategy?

A strategy involves allocating available resources to accomplish clear long-term goals given
one’s environment and initial endowment in resources

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Business strategy vs
Corporate strategy -1
What is a business?

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What is a business?

A business is a who (customer), a what (product or service) and a how (value chain)
Two businesses are different if they differ on one of these dimensions

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What is a business?

A business is a who (customer), a what (product or service) and a how (value chain)
Two businesses are different if they differ on one of these dimensions
Firm A Firm B

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What is business strategy?

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What is business strategy?

Business strategy focuses on a single business and its goal is to maximize the value created
by this business using the business’ available resources and given its environment

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How does a business create value?

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How does a business create value?

A business value is a function of current and future cash flows

Net present value of free cash flows =

Where:
• Ct = free cash flow in time t
• WACC = weighted average cost of capital (average rate that a company is expected to pay
to its security holders to finance its assets) also called discount factor

• A business creates value by ensuring that customers are willing to pay more for its
product than what suppliers are willing to sell inputs for

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How does a business create value?
Willingness-to-pay of
customers represent the
highest price at which they
would be willing to buy a
business’ product
• Customers would prefer
to keep their money
rather than buy a product
above their willingness to
pay

Willingness-to-sell of suppliers
represent the lowest price at
which suppliers would be willing
to sell inputs to the business
• Customers would prefer to
transact with another partner
rather than with the business
if the business asks for a
price below their willingness
to sell

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How does a business create value?

Value captured by
buyers

Value captured by
firm

Value captured by
suppliers

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When does a business has a competitive advantage over other
businesses?

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How does a business build a competitive advantage?

What are possible strategies?

Firm Competitors

Increase Differentiation
Product
Willingness-to-pay switching advantage
differentiation
costs

Increase
Privileged
Willingness-to-sell switching Cost advantage
partnership
costs

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How does a business build a competitive advantage?

WTP
Customers
• Viewers Value captured by
• Advertizers
buyers
Price

Value captured by
Prime Video
Cost
Suppliers
• IP holders
•
Value captured by
Movie/Series casts and teams
• Internet/TV access providers suppliers
WTS

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How does a business build a competitive advantage?

• Expand catalogue
WTP • Exclusive content
• Multiple viewers per subscription
• Access to other benefits on Amazon (synergy)
Customers
• Viewers Value captured by
• Advertizers
buyers
Price

Value captured by
Prime Video
Cost
Suppliers
• IP holders
•
Value captured by
Movie/Series casts and teams
• Internet/TV access providers suppliers
WTS

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How does a business build a competitive advantage?

WTP
Customers
• Viewers Value captured by
• Advertizers
buyers
Price

Value captured by
Prime Video
Cost
Suppliers
• IP holders
•
Value captured by
Movie/Series casts and teams
• Internet/TV access providers suppliers
• Lock cast and teams in Amazon exclusive series
• Opportunity to bundle offering (Filmo, Paramount,
WTS
etc.)
• Opportunity to increase WTP of end users 40
Commonly used value indicators

NPV not always easy to compute

Same thing goes for WTP and WTS
Common to used other indicators to approximate how well a firm appears to be doing
Commonly used value indicators

Ratio Formula Notes

Return on Capital Operating profit OR EBIT / Equity + The return on the capital invested in a business. ROCE is
Employed (ROCE) Debt also known as return on invested capital. The numerator
can be operating profit or earnings (EBIT).

Return on Equity Net income / Shareholders’ equity Measures the firm's success in using shareholders’
(ROE) capital to generate profits that are available to remunerate
investors.
Return on Assets (e.g.) Operating profit / Total assets The numerator should be such that we get the return on
(ROA) all the company’s assets—e.g. operating profit, EBITDA
(earnings before interest, tax, depreciation, and
amortization) or EBIT (earnings before interest and tax).
Gross margin Sales – cost of material inputs / Sales Gross margin measures how much value a firm adds to
the goods and services it buys in.
Operating margin Operating profit / Sales Operating margin and net margin measure a firm's ability
to extract profit from its sales.
Net margin Net income / Sales
Commonly used value indicators

Ratio Formula Notes

Return on Capital Operating profit OR EBIT / Equity + The return on the capital invested in a business. ROCE is
Employed (ROCE) Debt also known as return on invested capital. The numerator
can be operating profit or earnings (EBIT).

Return on Equity Net income / Shareholders’ equity Measures the firm's success in using shareholders’
(ROE) capital to generate profits that are available to remunerate
All these ratios make sense when considered over
investors.
Return on Assets
(ROA)
time and/or
(e.g.) Operating compared
profit / Total assets with
The that
numerator of
should competitors
be such that we get the return on
all the company’s assets—e.g. operating profit, EBITDA
and/or industry (earningsaverages
before interest, tax, depreciation, and
amortization) or EBIT (earnings before interest and tax).
Gross margin Sales – cost of material inputs / Sales Gross margin measures how much value a firm adds to
the goods and services it buys in.
Operating margin Operating profit / Sales Operating margin and net margin measure a firm's ability
to extract profit from its sales.
Net margin Net income / Sales
Mini-Case:
Kering vs LVMH
Mini-Case: Kering vs LVMH

In this mini-case, we seek to compare Kering’s performance to that of LVMH

45
Mini-Case: Kering vs LVMH

In this mini-case, we seek to compare Kering’s performance to that of LVMH

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Mini-Case: Kering vs LVMH

In this mini-case, we seek to compare Kering’s performance to that of LVMH

47
Mini-Case: Kering vs LVMH

In this mini-case, we seek to compare Kering’s performance to that of LVMH

We have the following financial statements at our disposal

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Mini-Case: Kering vs LVMH

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Mini-Case: Kering vs LVMH

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Mini-Case: Kering vs LVMH

In this mini-case, we seek to compare Kering’s performance to that of LVMH

We have the following financial statements at our disposal
How do we proceed?

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Mini-Case: Kering vs LVMH

Ratio Formula Notes

Return on Capital Operating profit OR EBIT / Equity + The return on the capital invested in a business. ROCE is
Employed (ROCE) Debt also known as return on invested capital. The numerator
can be operating profit or earnings (EBIT).

Return on Equity Net income / Shareholders’ equity Measures the firm's success in using shareholders’
(ROE) capital to generate profits that are available to remunerate
investors.
Return on Assets (e.g.) Operating profit / Total assets The numerator should be such that we get the return on
(ROA) all the company’s assets—e.g. operating profit, EBITDA
(earnings before interest, tax, depreciation, and
amortization) or EBIT (earnings before interest and tax).
Gross margin Sales – cost of material inputs / Sales Gross margin measures how much value a firm adds to
the goods and services it buys in.
Operating margin Operating profit / Sales Operating margin and net margin measure a firm's ability
to extract profit from its sales.
Net margin Net income / Sales

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Mini-Case: Kering vs LVMH

In this mini-case, we seek to compare Kering’s performance to that of LVMH

We have the following financial statements at our disposal
How do we proceed?
• We can compute performance indicators for LVMH and Kering and compare them
What is an important assumption that we are making here?
• That aggregate data at the group level for Kering and LVMH are comparable –i.e. that they
are involved in similar businesses

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Mini-Case: Kering vs LVMH

Cost of sales Current Shareholder Net Operating Total Sales

liabilities equity income profit assets

Kering
LVMH
ROCE ROE ROA Gross Operating Net margin
(Capital margin margin
employed=Total assets
– Current liabilities)

Kering
LVMH

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Mini-Case: Kering vs LVMH

Cost of sales Current Shareholder Net Operating Total Sales

liabilities equity income profit assets

Kering 3742 5780 10634 529 1552 23254 10038

LVMH 10801 12175 21763 5648 5431 53362 30638
ROCE ROE ROA Gross Operating Net margin
(Capital margin margin
employed=Total assets
– Current liabilities)

Kering
LVMH

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Mini-Case: Kering vs LVMH

Cost of sales Current Shareholder Net Operating Total Sales

liabilities equity income profit assets

Kering 3742 5780 10634 529 1552 23254 10038

LVMH 10801 12175 21763 5648 5431 53362 30638
ROCE ROE ROA Gross Operating Net margin
(Capital margin margin
employed=Total assets
– Current liabilities)

Kering 0,089 0,050 0,067 0,627 0,155 0,053

LVMH 0,132 0,260 0,102 0,647 0,177 0,184

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Mini-Case: Kering vs LVMH

Cost of sales Current Shareholder Net Operating Total Sales

liabilities equity income profit assets

Kering 3742 5780 10634 529 1552 23254 10038

LVMH 10801 12175 21763 5648 5431 53362 30638
ROCE ROE ROA Gross Operating Net margin
(Capital margin margin
employed=Total assets
– Current liabilities)

Kering 0,089 0,050 0,067 0,627 0,155 0,053

LVMH 0,132 0,260 0,102 0,647 0,177 0,184

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Mini-Case: Kering vs LVMH

In this mini-case, we seek to compare Kering’s performance to that of LVMH

We have the following financial statements at our disposal
How do we interpret the results?
• Kering adds the same value to its products and extract as much operating profit from its
sales than LVMH but Kering seems to have additional costs (debt? taxes?) that lead to a
huge difference in net margins. Kering uses its capital less effectively than LVMH and is
less able to remunerate its shareholders

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Mini-Case: Kering vs LVMH

Final note: are the two groups really comparable at the aggregate level?

59
Mini-Case: Kering vs LVMH

Final note: are the two groups really comparable at the aggregate level?

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Business strategy vs
Corporate strategy -2
What is a corporation?

62
What is a corporation?

A corporation is a multi-business firm, i.e. a firm that owns and operates a portfolio of multiple
individual businesses

63
What is a corporation?

A corporation is a multi-business firm, i.e. a firm that owns and operates a portfolio of multiple
individual businesses
Firm A Firm B

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What is a corporation?

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What is a corporation?

Not only big groups are multi-business firms

• Hotels who also operate a bar and/or a restaurant
• Therapists who also offer coaching sessions
• Doctors of different specializations operating their cabinets jointly
• Business professors who are also consultants
• Restaurants who offer meals both on site and on delivery
• Comics stores who also sell figurines or posters
• …

66
What is corporate strategy?

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What is corporate strategy?

Corporate strategy focuses on multi-business firms, or corporations, and its goal is to

maximize the total value created by the corporation using all available resources across all its
businesses, taking into account each business’ environment as well as the broader
environment in which the corporation operates

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What is corporate strategy?

More succinctly, corporate strategy is the strategy of the multi-business firm

Unlike business strategy, it involves considerations tied to:
• Synergies between businesses owned by the corporation
• Acquisitions, divestitures and alliances
• Business portfolio management
• The structure of the overall corporation (links and hierarchy between business units)

69
How does a corporation create value?

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Parenthesis: refresher from corporate finance

Net present value of free cash flows =

The discount rate applied to future cash flows relate to risk: 10 euros in one hour with 50%
chance, is riskier and thus more discounted than if the chance was higher

Exercise:
• Consider A and B, two independent companies each year producing an income of 100
euros with 50% chance or 0 euros with 50% chance. The discount rate is R1
• If A and B were part of a holding, would the NPV of the holding AB exceed, equal or be
lower than the sum of the NPV of A and B owned independently?
• Hint: consider whether R2, the discount rate applied to the income of AB, is higher, equal or
lower than that applied to the income of A or B owned independently

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Parenthesis: refresher from corporate finance

Net present value of free cash flows =

The discount rate applied to future cash flows relate to risk: 10 euros in one hour with 50%
chance, is riskier and thus more discounted than if the chance was higher

Exercise:
• Consider A and B, two independent companies each year producing an income of 100
euros with 50% chance or 0 euros with 50% chance. The discount rate is R1
• If A and B were part of a holding, would the NPV of the holding AB exceed, equal or be
lower than the sum of the NPV of A and B owned independently?
• The average income per year of AB is exactly that of A+B. However, the likelihood that AB
will generate no income is only 25%. The risk is lower, hence the discount rate, R2, will be
lower
• The NPV of AB will exceed the sum of the NPV of A+B because R1>R2

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How does a corporation create value?

Corporations may create value through selection of businesses to include in their portfolio
• Corporations may create value if they can spot and buy under-valued businesses
(businesses whose market value is below their true NPV), i.e., if there are bargains
• Possible if corporation has access to private information on a business future cash flows

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How does a corporation create value?

Corporations may create value through selection of businesses to include in their portfolio
• Corporation may create value by diversifying away unsystematic risk and thus reducing
the discount factor applied to future cash flows

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How does a corporation create value?

Corporations may create value through selection of businesses to include in their portfolio
• Corporations may create value if they can spot and buy under-valued businesses
(businesses whose market value is below their true NPV), i.e., if there are bargains
• Corporation may create value by diversifying away unsystematic risk and thus reducing
the discount factor applied to future cash flows
• Who else can do that?

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How does a corporation create value?

Corporations may create value through selection of businesses to include in their portfolio
• Corporations may create value if they can spot and buy under-valued businesses
(businesses whose market value is below their true NPV), i.e., if there are bargains
• Corporation may create value by diversifying away unsystematic risk and thus reducing
the discount factor applied to future cash flows
• It is often much easier for investors to buy and sell shares to build a diversified
portfolio than for investors to acquire/divest from businesses
• Corporations owning a diversified portfolio of business do not create value for their
shareholders that they could not have created themselves by owning shares in a
similar portfolio of businesses

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How does a corporation create value?

Corporations may create value by optimizing the value of each of their independent
businesses…
• Is that really the way to go?

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How does a corporation create value?

Corporations, unlike investors, have decision rights over the businesses that they own
Corporations, unlike single business firms, are in a position to create linkages and move
resources across multiple businesses

Thus, corporations can create value through synergies, i.e. by exercizing their decision rights
to increase future cash flows through joint operations of businesses
• Synergies create value if the value created for one or several businesses exceed the value
that may be destroyed for one or several businesses
• Synergies may also reduce systematic risk if they attenuate the sensibility of linked
businesses to market trends (e.g., cash reallocation)

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How does a corporation create value?

Exercise:
Hotel A owns the nearby restaurant B
A’s manager decides to offer a 20% discount to the hotel’s clients in this restaurant and to
book an entire set of tables specifically and only for them –i.e. creates a synergy between A
and B
What could be the effect on value creation? Is any value destroyed in the process?
• Presumably WTP of A’s clients increase
• Switching costs for A’s clients also increase (would pay more at comparable
restaurants/may not have tables booked)
• Some value destroyed on B’s side as some clients are lost due to reduction in N of tables
• Non-hotel clients of B could have a lower WTP if they feel they are not treated as well as
hotel clients
• Overall impact on value created would be positive only if WTP of A’s clients rises sufficiently
–and a sufficiently high N of new clients is attracted– to compensate value loss on B’s side

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How does a corporation create value?

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When does a corporation has a comparative advantage over
other arrangements?
NPV

Value created through synergies

between A and B

Value created through selection

(risk diversification/bargains)

Value of B
owned
independently

Value of A
owned
independently

Corporation C Investor/Corporation A and B owned

using only selection independently

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When does a corporation has a comparative advantage over
other arrangements?
NPV

Value created through synergies

Value created through synergies between A and B by corporation D
between A and B by corporation C

Corporation C Corporation D

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When does a corporation has a comparative advantage over
other arrangements?
A corporation owning business A and B has a corporate advantage if it creates more value by
owning them together than they would if they were owned independently
• i.e. if V(AB) > V(A) + V(B)

A corporation owning business A and B has a parenting advantage if it creates more value by
owning them together than any other parents would
• If corporation C does not have a parenting advantage but another corporation D does, a
good strategy could be for C to buy A and B and then sell them to D, in effect capturing part
of the added value that D could extract from owning them

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See you next week…