Vertical Integrationintegration refers to expanding a business entity and its operation but maintaining the same production path and taking complete control of distribution, supplies, and retail demographics to control the supply chain. Vertical Integrationintegration has a massive significance in eliminating men and takes up mergers with other companies at various stages of production to bring about better economies of scale in production.
Vertical Integrationintegration is a business restructuring strategy that solely focuses on reducing costs and quality control of products and services through the stages of raw material acquisition, manufacturing, supplies, and distribution. Moreover, there are different types of vertical Integrationintegration: Forward Integration, whereby the manufacturer controls the distribution aspect of the business and is responsible for the downstream activities.
While backward Integrationintegration involves the manufacturer controlling supplies of their and services and being responsible for the organization’s upstream activities, the company expands backward in manufacturing. Lastly, we have balance Integration involves company merging with other businesses to control both upstream and downstream activities.
Pros of Vertical Integration
1. Economies of Scale: Vertical Integration ensures effective and efficient cost reduction measures during all production steps. Consolidation of functions and aligning processes eliminate overhead costs. Moreover, by purchasing raw materials in large quantities, organizations do not require to pay mark-up, reducing operational costs and increasing revenues.
2. Competition Advantage: Companies have a competitive edge over competitors since they have the power to control a larger market share and purchase other entities. Such companies that use the vertical integration strategy can avail products and services directly and quickly because of their specific demographic location. Companies can dictate the quality of their products, promote and market them directly, thus an advantage over competitors.
3. Avoid Supply Disruption: Vertical Integration ensures a firm has sole control of the supply chain. Organizations can beat supplies production efficiency with no compromise in quality. Suppliers with market power often dictate terms, pricing, and availability of raw materials, which may not prove efficient in cost-cutting and production; hence vertical Integrationintegration helps avoid disruption from suppliers since the company can take complete control of its supply chain aspect.
4. Local Market Share: Organizations that implement vertical integration strategies tend to control their supply chain and obtain a significant market share by creating value more than their competitors.
5. Specialization: A firm can invest in internal resources specializing in different skills, leading to the development of specialty goods and services available in their outlets.
6. Lower Transaction Costs: Vertical Integration promotes reduced transaction costs associated with the supply chain processes, such as eliminating the cost of control and negotiations. There is a significant reduction in transportation costs due to closer geographic proximity to consumers promoting reduced delivery time.
7. Quality Assurance: Companies can dictate the quality and type of raw materials used in manufacturing, and organizations can focus more on quality assurance and control that creates a more reliable value proposition. Such high-quality standards create customer satisfaction and confidence in the brand translating to good revenues.
8. New Markets: The partnering, merging, and purchasing of other vendors, technologies, and equipment creates local access to the market, leading to a significant market share base increasing the scope of profitability.
9. Stability: Vertical Integration enhances access to information essential in creating resilience to market fluctuations by the company. Such information has a massive effect in eliminating unpredictability through supply chain control.
10. Consumer Benefit: Vertical Integration emphasizes extensively quality control of production; hence, consumers benefit from having the best quality products. Moreover, production costs are lower, translating to lower prices of goods and services offered to the consumers.
11. Inventory Management: The merger of entities ensures all the supply chain functions within the exact demographic location, which is beneficial since a company finds it more straightforward and effective to manage inventory and promotes transparency.
12. Employee Growth: Vertical Integration leads to new aspects of production, and this, in turn, requires a workforce for the performance of different duties, hence creating new jobs and promoting employee growth by creating opportunities for promotion, skill enhancement, more employee experience, and career growth.
13. Investment Opportunity: Through different functionalities and production steps, a business can develop its products instead of buying them. A company has a robust opportunity to develop specialized products to meet customer needs and satisfaction.
14. Reduced Financial Constraints: A small or weaker company will find itself on the receiving or beneficial side when it mergers with a stronger entity, increasing its credit limit and debt capacity crucial to raising capital and finance expansion.
15. Better Administration and Operational capability: Vertical Integration involves different entities coming together and pulling all their human and operational resources to strengthen each production step and create a more robust, skilled, and focused workforce to effectively and efficiently achieve goals.
Cons of Vertical Integration
1. Extensive Capital: Vertical Integration requires extensive capital investment to employ human capital, set up or buy factories, maintain costs, and acquire new technologies. Huge capital increases the business risk of an entity. Miscellaneous costs are also incurred due to bureaucracy, forcing the company to invest more in upstream capacity to ensure the smooth functioning of the downstream operations.
2. Flexibility: Organizations will often face a lack of flexibility in accommodating shifting buyer preferences due to the reduced diversification of an entity. Strategic changes in the supply chain process and infrastructure cannot be made with ease, thus lengthening design time and introducing new products. Moreover, fixed sources of supply can limit what a company can produce and sell, unlike working with different contractors and vendors who can offer a certain amount of flexibility.
3. Barriers to New Market Entrances: Limited brand information and raw materials for company production can create a barrier to a new market entry.
4. Confusion for Customers: Merging with different retail stores, subsidiaries, and outlets operating in different parts of the supply chain may confuse customers since they do not have a clear picture with whom they are doing business.
5. Loss of Focus: Vertical Integration extends a company’s scope of activities and operation, leading to neglect and previous business functions ignored. Business focus may shift from customer experience to production, distribution, and supply and lead demand to loss of consumers.
6. Creates a lot more work: Ideally, production and retail are separate functions of the supply chain, and performing both tasks can interpret more work and responsibilities, leading to distraction and confusion, affecting business productivity and customer satisfaction.
7. Slow to Embrace Technological Change: Vertical Integration involves radical changes in technology which may be a challenge since such large companies may be slow to embrace.
8. Development of New Skills: When new processes and stages get introduced to the company, the company has a responsibility to acquire new skills and meet business capabilities to enable the smooth functioning of the production. Without competent skills in the new processes, the business is likely to fail.
9. Conflict: Due to differences in the various merged entities’ cultural backgrounds and management styles on the different production steps, miscommunication and misunderstandings may arise in different areas of the supply chain.