In this lecture, I want to focus your attention upon corporate strategies utilized to obtain greater profits, or greater shares of value added to manufacturing (the profits derived from each stage of manufacturing).

Although briefly covered in the text, it is a small lecture regarding economic structures.

There are four basic strategies which have been used by business in the last two centuries to obtain higher profits. We are currently experiencing a wave of mergers and acquisitions (termed conglomeration) and the closures of many factories in the US (geographers and economists call this rationalization).

Try to follow along in the text, the authors have many superb examples of each type of behavior listed below. Hopefully, you have found that the corporation you are examining may be experiencing similar changes.

1. HORIZONTAL INTEGRATION

2. VERTICAL INTEGRATION

3. CONGLOMERATION/DIVERSIFICATION

4. RATIONALIZATION

HORIZONTAL INTEGRATION - this is the creation of large scale enterprises, often controlling the majority of the production, or market demand, of a specific good or service. Companies which are horizontally integrated attempt to control the entire market of a specific sector of the economy. For example:

* Gallo Wines controls over 75% of wine grape production in the United States

* Ocean Spray (although a farmer cooperative) controls over 85% of all cranberries produced in the United States

* Similarly, Blue Diamond Almonds controls roughly 65% of almonds produced in the US (this reflects a fall in market share for them as new small firms (farm families) have begun to sell their own product.

* The Seven Sisters (BP, Shell, Socal, Texaco, Mobil, Gulf, and Exxon) control over 90% of global petroleum refining.

* GM and Ford control over 25.7 % of global auto production (see p. 405) and with increasing mergers (ex; Daimler-Benz and Chrysler), this concentration should increase.

As a whole, horizontal integration attempts to increase profits by controlling the majority of market sales in the specific industry. If Gallo controls the majority of the market, they can control market price. In this way, they could temporarily reduce the cost to the consumer, and undercut the competition. This will force smaller companies to go out of business, and Gallo could increase their market share by acquiring these companies (a strategy which was successful for Standard Oil and US Steel Corp. in the late 1890s). Then once they control the majority of the market, they can raise the price, and increase their profits because there will be no competition. This works as long as the consumer does not locate a substitute, let's say for Gallo, as their prices increase Americans switch their alcohol choice to beer instead. This type of monopoly stimulates many economic debates regarding fair competition and exploitation.

OPEC is a great example of less developed countries attempting to horizontally organize to obtain higher revenues for oil. Many Americans felt that OPEC and other cartels may limit trade, yet not recognize that the creation of such monopolies may generate greater revenues for development.

Horizontal integration may fail to reduce competition, as noted above with  Blue Diamond. In the 1980's, there was a glut of almonds in the US. Failing to locate new markets abroad, Blue Diamond cut the price to farmers to $1.00/lb while you, the consumer, were paying around $4.00/lb. This profit maximizing strategy forced many farmers to go bankrupt OR begin to sell their own almonds (vertically integrate) to stay in business. The result was that Blue Diamond's market control fell from 75% to around 60% between 1986 and 1990 (all data from my second Master's thesis).

Horizontal integration creates large scale enterprises, what economists call economies of scale. These large companies, such as those listed on page 369, were thought to be economically efficient enterprises, due to the use of cheap labor enabling the factory to mass produce goods at the least cost to consumer.

VERTICAL INTEGRATION - this strategy attempts to obtain greater profits by taking over related activities, increasing the value added to manufacturing which can be acquired. A simple example which I used above is the farmer taking his own product to the market. If an almond farmer could take his natural, raw nuts to market and sell these to you for $3.00/lb, he has obtained a 200% increase in profits, while you have saved money also.

In industry there are two types of vertical integration, one where companies integrate activities back to the raw materials (such as mining, Gallo wines buying vineyards, Exxon buying oil wells), these are called BACKWARD LINKAGES. When a company integrates activities toward the market (such as BP acquiring mini-marts, or Gallo creating its own tasting room and sales office or website), such activities are called FORWARD LINKAGES.

Both directions of integration allow the company to control a greater percentage of the profits that a good may earn, yet demands that the firm move into an area of business that it may not understand. For example, Gallo now owns a large amount of acreage in vineyards. This enables Gallo to reduce the costs it would have to pay to grape growers, yet at the same time requires capital investments in land and skilled professionals who can farm this acreage.

CONGLOMERATION/DIVERSIFICATION - this is the term used by geographers and economists to explain corporations investing in activities which have no relationship to their primary industry. For example, Hershey's Chocolate owns pasta companies in an effort to diversify their product mix. This type of diversification enables companies to react to the market if changes occur in demand for their product. As you will see discussed below, and in the text, products and industries may have a limited life cycle.

Businesses who anticipate the decline of demand for their product, or anticipate the increase of demand for a new product, will be able to adjust to changes in the economy. Can you imagine the profits you would have made had you purchased Netscape or Amazon.com when these companies were just beginning?

Tenneco is a great example of diversification, as table 8.6 (p.370) demonstrates in the text. Tenneco started out as an oil company and then became vertically integrated (ex: Tennessee Gas Transmission). Then Tenneco acquired more diverse holdings, such as Tenneco Automotive, Tenneco Chemicals, and Newport News Shipbuilding. Although many of Tenneco's acquisitions are in like industries, or industries which use their oil and natural gas, these diverse holdings create greater economic security in the event that oil consumption may decrease (greater fuel efficiency, political chaos in the Middle East).

Lately, we have been inundated with corporate mergers and hostile takeovers. Such activity may be the result of the maturation of the economy faced by first world countries. See page 468 and 450 for examples of recent mergers.

RATIONALIZATION - this stage is often discussed separately by economists and geographers, yet most Americans view this as a strategy related to diversification. In this stage, corporations spin-off or close industries which do not make a profit. Spin-offs are common in high tech areas, such as Silicon Valley, where research engineers are often let go so that businesses do not have to pay high salaries for such employees. These companies will later purchase inventions from these engineers, yet these costs are extremely low as compared to paying their salaries for five years (perhaps with no invention being created). Plant closures often occur as businesses attempt to elongate the life of a product with declining profits. Moving production abroad, or somewhere in rural America, where wages are cheap and transport is accessible, often enables these businesses to remain competitive.

As a whole, corporations adjust to changing environments (demand, competition, costs) in order to stay in business. As you will see discussed on page 381-383, industries and products have a limited life cycle. It is important for the businessman to recognize which stage of the life cycle his/her corporation may be approaching in order to use the most appropriate strategy above. Each strategy requires some capital investment, so there is a cost factor involved in each stage.

As you will see in the next lecture, many corporations decided to rationalize their production in the United States and relocate production to less developed countries. This may enable some companies to remain in business or it may allow some companies to acquire huge profits. The reason for such relocation may have repercussions upon market demand if people begin to view such movement as exploitive.