When a business buys or even launches a competitor product, no one really challenges the logic.
Similarly, it’s not uncommon for businesses to acquire or invest in a distributor. Where questions arise is when a business acquires or builds capability outside of their core function.
Consider the investor backlash over ANZ Bank’s recent $4 billion bid for accounting technology company, MYOB.
Amidst rising interest rates and a slowdown in the home loan sector, the bank’s interest in MYOB was motivated by a desire to grow its business banking and lending arm and deepen engagement with customers by getting access to platform used by millions of small-to-medium-sized businesses.
However, ANZ quickly abandoned the deal in favour of Suncorp Bank, after fierce criticism for pursuing a non-banking asset.
But moving sideways and investing in your supply chain or the supply chain of your target market can make strategic sense, as was the case with AZ NGA acquiring back-office provider Virtual Business Partners.
Horizontal integration is when entities at a similar level in the supply chain come together to achieve synergies and scale. They can be merged or run independently.
Vertical integration, on the other hand, involves entities at different stages of the supply chain. They typically have significantly different products, services and operations.
For decades prior to the Hayne Royal Commission, the industry focused on vertical integration.
Most M&A activity involved institutions and product manufacturers buying administration platforms and dealer groups to secure distribution.
During this period, the industry missed opportunities to invest in advice including specialist technology, paraplanning and back-office administration providers.
Now – in the middle of a global skills shortage, with vertical integration in tatters and the growing value of the advice margin – businesses are clamouring to invest in advisory businesses. The really progressive players are also investing in the supply chain to increase their capacity to serve more Australians.
In recent years, professional advisory firms have emerged as some of the most active investors.
For those with access to capital and the ability to execute deals, a horizontal strategy can offer exposure to a quality standalone asset and preferential access to vital services.
However, execution is key.
The financial services graveyard is not only full of vertically-integrated failures but plenty of horizontal ones too.
Like everything in life, horizontal integration it not risk-free.
It’s not hard to think of licensees, life insurers and other businesses that have unsuccessfully attempted to replicate parts of their supply chain including investment management and administration, front-end technology, media and publishing.
In other sectors, such as hospitality, food and beverage, many a celebrity chef has gone bankrupt trying to expand into manufacturing, baking and catering.
There are success stories too.
Australia’s mega industry super funds have built up their internal investment management capabilities over time and now manage vast amounts of money in-house at a significant cost savings for members.
Build, buy or partner
Before embarking on a horizontal integration strategy, businesses must determine if they’re better off building, buying or partnering.
Those who decide to build must be fully prepared for the cost and time required. With a build of any size, be that a pool, house or business, the process is almost always longer and more expensive than anticipated.
Don’t let ego and hubris convince you that it’ll be easy, especially if you’re entering an area beyond your core competency.
M&A is often a more effective strategy but expect to pay up for established businesses that are leaders in their specialist field.
In addition to price, buyers need to consider factors like alignment of vision, values and culture, competitive advantage and sustainability of profit.
While investing in your supply chain will help with internal resourcing and support, it is important that businesses can also compete and perform strongly in an open marketplace.
Businesses with a deep and narrow specialisation typically have an extremely loyal clientbase and the ability to charge more than generalists.
These are the same considerations that apply when investing in advice businesses.
In an environment of heightened economic uncertainty and deteriorating operating conditions, every prudent business owner should seek to influence and secure supply.
This is especially important for services deemed critical, such as recruitment, marketing and legal advice, in addition to more traditional services like licensing, education, training, and financial plan production.
A well-executed horizontal strategy can fuel a business’ long-term growth.
Paul Barrett is chief executive officer of AZ NGA.