Although substantial competitive advantages can be gained from harnessing interrelationships, pitfalls exist in implementing horizontal strategy. The most serious pitfall is to ignore interrelationships altogether. Strategic planning solely done by business units is not enough. At the same time, however, it can be an equally big mistake to assume that every relationship should be pursued.
1. Pitfalls in Ignoring Interrelationships
This chapter and Chapter 9 have raised numerous pitfalls that result from ignoring interrelationships. A few notable ones are mentioned here:
Misreading the Strategic Contributions of Business Units. A firm that fails to understand interrelationships will measure business unit performance on a stand-alone basis. It may, in the process, encourage units to take actions that will undermine interrelationships and erode overall firm position.
Misreading Position Vis-à-vis Key Competitors. A firm that plans only at the business unit level will fail to diagnose its position vis-à- vis key diversified competitors. It will also fail to formulate moves against them that enhance overall firm position.
Portfolio Management. The presence of interrelationships, particularly tangible interrelationships, limits the usefulness of portfolio planning models as they are usually applied. Portfolio planning models are narrowly conceived tools designed to aid a diversified corporation in achieving a financially balanced portfolio. In doing so, they may obscure the most essential strategic issue in constructing a firm’s portfolio of businesses—the creation and enhancement of interrelationships. When interrelationships exist, decisions to build or harvest business units cannot be made independently. The use of portfolio tools is particularly dangerous at the group or sector level, because business units within a group or sector tend to have tangible interrelationships and need to be managed accordingly.
Corporate, sector, and group executives must not mistake portfolio planning for horizontal strategy. Horizontal strategy is more difficult to formulate than portfolio strategy, but is the way a diversified firm creates true economic benefits for its business units.
2. Pitfalls in Pursuing Interrelationships
It can be equally risky to pursue interrelationships indiscriminately:
Negative Leverage from Sharing or Transfering Know-how. Tangible interrelationships usually involve some compromise in the strategies of the business units involved. Because of this, pursuing ill-chosen interrelationships can harm all the involved business units for little net strategic gain. Transferring know-how also involves costs, and transferring know-how that is in fact inappropriate to competition in another business unit in the name of supposed intangible interrela-tionships can also do great harm. There must be clear potential net benefits of sharing or transfer of know-how for the related business units in order for an interrelationship to be strategically desirable.
Pursuing Interrelationships Involving Value Activities That Are Small, Have Few Scale or Learning Economies, or Have Little Effect on Differentiation. In their zeal to build a related diversification strategy, firms can fall into the trap of making too much of an interrelationship that, while indeed present, has little competitive significance. The presence of an interrelationship does not imply that a horizontal strategy should be built around it, even if it is the only one available.
Illusory Interrelatedness. Often superficial similarities in technologies, logistical systems, fabrication processes, and buyer groups are not, in fact, a basis for shared activities. A technology that appears similar in two business units may, upon closer scrutiny, be sold to buyers with very different needs that compromise the ability to employ a shared R&D organization. Despite the apparent similarity to outsiders between offshore drilling for oil and onshore drilling, for example, few activities in fact can be shared by drilling contractors. Intangible interrelationships can also be illusory. There are many generic similarities among business units that are not important for competition. Po- tential interrelationships should be scrutinized carefully before being translated into shared activities or altered strategies, to prevent discovering the lack of compatibility through a failure.
Source: Porter Michael E. (1998), Competitive Advantage: Creating and Sustaining Superior Performance, Free Press; Illustrated edition.