The external growth of firms


A firm may grow by merging with, or taking over, another firm. There are two directions in which it can do this: horizontal and vertical. These refer to the position of the other firm within the structure of the industry.

Horizontal mergers

This is when a firm merges with another at the same level within the industry. As an example, if one video rental firm takes over another video rental firm. In effect they exist at the same level and they do the same things. They are probably directly in competition with each other, although some may be located differently. A recent example of this occurred in 2004 when the supermarket Morrison took over Safeway; Morrison was strong in the north of England but lacked southern outlets. It is, as you would imagine, difficult for a supermarket to obtain suitable land in or near cities, so that a take-over or merger is the simplest way of expanding into a new area.

Vertical mergers

This is when a firm takes over another which is earlier or later in the production process within the industry. As an example, a wholesaler of shoes might take over a shoe shop
or chain of shoe shops, in order to provide itself with outlets. This is an example of forward merger. If it were to take over a shoe manufacturing company, it would be an example of backward takeover. A current example of a backward merger is the effort in 2004 by the American Wal-Mart company, trading in Britain as Asda, to develop a close partnership over a section of the milk supply industry at the farm level.
Some such mergers are an effort to reduce risks and establish a safe source of supply or outlet chain.

However, many backward mergers by a dominant firm are an effort to reduce competition and perhaps lead to a later take over the whole industry. Once a wholesaler owns an important manufacturing unit it can deny the produce to its own more direct competitors or make them buy on less advantageous terms. There are fears that Asda’s recent efforts in the milk chain supply industry could lead to a less competitive situation.

Conglomerate mergers

This is where a company in one industry takes over one or more companies in a totally unconnected industry. The result will be a conglomerate, or a company which spans several unconnected industries. A contemporary example is Richard Branson’s Virgin, which began as a mail order record retailer, then opened a retail store and branched out into running railway trains (Virgin Rail) and airlines (Virgin Airways). He is also in to book publishing, software publishing, clubs, travel, hotels, and cinemas. Some of these

have loose connections, others none. In all he now owns over 150 companies and claims that they all make money.