Why Most Firms Fail to Benefit from Growth Outside Their Core Business
A recent survey from McKinsey & Co shows that while many companies are trying to grow outside their core business very few are making substantial gains. What is going wrong, and what are the best practices to extract maximum value from non-core growth?
Lets start with what we know. According to the survey, 9 out of 10 respondents say that they have pursued non-core growth in the past five years, or that they intend to do so in the next five years. Evidently this is a popular management strategy. However, only a third of respondents can say that their non-core businesses generate more than 10% of overall revenue. In order to unpick the reasons for this lacklustre success we need to ask three questions:
- What is the rationale behind most companies’ non-core expansion?
- What impact does market context have on the relative success of growth beyond the core?
- What are the best practices from which we can learn?
What is the rationale behind most companies’ non-core expansion?
From the 273 C-level respondents who answered McKinsey’s questions two clear trends emerged. The rationale behind pursuing non-core growth was firstly to ‘access new profit pools’ and secondly to ‘strengthen the core business’. However, of these respondents, only a third could claim that their strategies had contributed in a meaningful way to growth. Perhaps part of the non-success can be placed down to the fact that non-core expansion is generally viewed as a long term strategy. It’s a strategy of keeping some skin in the game. In an unpredictable world it pays to create ‘optionality’ whereby you can leverage gains from holding small investments that may pay off in a big way.
What impact does the market context have on the relative success of growth beyond the core?
One of the most interesting revelations of the McKinsey study was that there was a marked divergence between the non-core growth performance of emerging market firms vis a vis developed world firms. This brings home the age-old point that understanding your market context is critical when creating your business strategy. For the emerging market companies, expanding their businesses beyond the core was more successful because there were more high quality opportunities. In other words there was a much greater potential to reinvest earnings in profitable opportunities. In order to tap into the potential revenue gains of expanding beyond your core business, you need to ensure that the opportunities you are pursuing are high quality opportunities.
What are the best practices from which we can learn?
When we start to think about best practices, it is clear that there is a major disconnect between the generally accepted best practices and what companies actually do when considering non-core expansion. It is generally agreed that having proper systems in place for ‘scanning expansion opportunities’, ‘evaluating expansion opportunities’ and ‘integrating new activities into core business’ are fundamental components of successful non-core expansion. Indeed, the results of those respondents who complied with the best practices above were roughly twice as likely to yield positive results and create significant value. And yet, of the respondents, less than a third in each case were actually following these steps. Clearly there is a lot of work to be done within businesses to ensure that these processes are in place when considering expanding beyond their core lines.
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