From booze to theme parks
Rupert Murdoch recently took time out from commenting on American politics to break up his empire, separating his newspaper business from his entertainment business because—as reported in the Wall Street Journal—the two businesses required separate management teams, as they were quite different.
In the first two pages of the same Marketplace section of the same day’s Wall Street Journal were two additional articles about two similar business decisions. Eike Batista, a Brazilian who says that he wants to become the world’s richest man, saw his stock price plummet as he struggles to run an empire that spans oil, logistics, shipbuilding a medical center and a Chinese restaurant thrown in just for fun!
The third article of interest was about Vivendi’s CEO quitting over a spat about strategy with his board. It seems that the board was no longer enamored with management’s diversification strategy. Vivendi operates businesses in music, television, video games and telephony. Vivendi, you may recall, bought Seagram’s, which diversified from alcohol to oil to music to theme parks. I hadn’t even gotten past page two as I read this litany of arguments against trying to run disparate businesses under one roof!
With Mitt Romney’s background as head of Bain Capital being questioned daily, most everyone now has an opinion on private equity firms, which typically own a portfolio of companies. (You know, those dastardly organizations that throw elderly women into the street and want to ship all jobs overseas.) Private equity firms get rewarded for investment smarts—buying low, selling high and putting pressure on management to make changes that they perhaps wouldn’t have made otherwise.
Having worked as an executive in three private equity owned businesses, I can tell you that it is not always fun, but it is pretty predictable and rational. In only one case did I find one of the partners who thought that he was the smartest guy in the room. I guess that reading all of those balance sheets made him God’s gift to business strategy and leadership. Most partners in private equity firms understand that they need to leave the strategic decisions to company management.
Diversification in a private equity portfolio or your personal investment portfolio is a good thing to a point. Trying to “run” a diversified group of businesses, however, is sometimes a foolish decision. The ones that pull it off for extended periods (e.g. General Electric) are few, and in GE’s case tend to act with the discipline of a private equity firm. They know to separate corporate strategy (i.e., Which businesses should we be in and where should we put our resources?) from business strategy (i.e., What aligned actions will we take to develop a sustainable competitive advantage?).
Diversification can certainly provide some risk reduction, especially if your core business stinks. However, owning 10 stocks in an investment portfolio is not the same as trying to make operating decisions about 10 companies. Why? Here are a few reasons.
1) The focus problem. It is difficult to have the core competencies within one management team required to run businesses with different strategies (e.g. operational excellence vs. product expertise). You can’t run Nordstrom’s with a Wal-Mart mindset.
2) There is always competition for resources. This can be a good thing if the thinking is hard nosed and data-driven, but too often leaders try to be “fair” and end up giving resources to a mediocre business line while the one with the best growth potential is short changed.
3) Coordination issues take up valuable executive time.
4) Often there is an attempt to try to gain synergy or leverage common resources—a natural instinct. Think about trying to leverage your HR department across businesses in booze and theme parks. That’s like trying to use your electric razor to shave your beard and mow your lawn!
5) Your customers can get very confused about your brand.
There is some data that says that diversified firms faired pretty well during the economic downturn. Makes sense. Lots of industries were hammered and if they had a few eggs in another basket it ameliorated their pain a bit. But from an operating perspective, it is hard enough to win one chess match at a time. Do less, do it differently and do it better. Alcohol and roller coasters are bad partners for several reasons!