Expansion into a segment of an industry or into an entirely new industry
Over 1.8 million professionals use CFI to learn accounting, financial analysis, modeling and more. Start with a free account to explore 20+ always-free courses and hundreds of finance templates and cheat sheets. Start Free
Product diversification is a strategy employed by a company to increase profitability and achieve higher sales volume from new products. Diversification can occur at the business level or at the corporate level.
Business-level product diversification – Expanding into a new segment of an industry that the company is already operating in.
Corporate-level product diversification – Expanding into a new industry that is beyond the scope of the company’s current business unit.
Diversification is one of the four main growth strategies illustrated by Igor Ansoff’s Product/Market Matrix:
Diversification Strategies
There are three types of diversification techniques:
1. Concentric diversification
Concentric diversification involves adding similar products or services to the existing business. For example, when a computer company that primarily produces desktop computers starts manufacturing laptops, it is pursuing a concentric diversification strategy.
2. Horizontal diversification
Horizontal diversification involves providing new and unrelated products or services to existing consumers. For example, a notebook manufacturer that enters the pen market is pursuing a horizontal diversification strategy.
3. Conglomerate diversification
Conglomerate diversification involves adding new products or services that are significantly unrelated and with no technological or commercial similarities. For example, if a computer company decides to produce notebooks, the company is pursuing a conglomerate diversification strategy.
Of the three types of diversification techniques, conglomerate diversification is the riskiest strategy. Conglomerate diversification requires the company to enter a new market and sell products or services to a new consumer base. A company incurs higher research and development costs and advertising costs. Additionally, the probability of failure is much greater in a conglomerate diversification strategy.
Why Companies Diversify?
In addition to achieving higher profitability, there are several reasons for a company to diversify. For example:
- Diversification mitigates risks in the event of an industry downturn.
- Diversification allows for more variety and options for products and services. If done correctly, diversification provides a tremendous boost to brand image and company profitability.
- Diversification can be used as a defense. By diversifying products or services, a company can protect itself from competing companies.
- In the case of a cash cow in a slow-growing market, diversification allows the company to make use of surplus cash flows.
Risks in Product Diversification
Entering an unknown market puts a significant risk on a company. Therefore, companies should only pursue a diversification strategy when their current market demonstrates slow or stagnant future opportunities for growth.
To measure the riskiness or the chances of success of diversification, there are three tests used:
- The Attractiveness Test – The industries or markets chosen for diversification must be attractive. Porter’s 5 Forces Analysis can be done to determine the attractiveness of an industry.
- The Cost-of-entry Test – The cost of entry must not capitalize on all future profits.
- The Better-off Test – There must be synergy; the new unit must gain a competitive advantage from the corporation or vice-versa.
Before considering diversification, a company must consider the three tests above.
Examples of Successful Diversification
Here are two notable examples of successful diversification:
General Electric
General Electric commonly comes into discussions when talking about successful diversification stories. GE began as an 1892 merger between two electric companies and now operates in several segments: Aviation, energy connections, healthcare, lighting, oil and gas, power, renewable energy, transportation, and more.
Walt Disney
Walt Disney Company successfully diversified from its core animation business to theme parks, cruise lines, resorts, TV broadcasting, live entertainment, and more.
Additional Resources
Thank you for reading this guide to Product Diversification. As you continue your learning journey, these additional CFI resources will be helpful:
FAQs
What is Product Diversification? Product diversification is a strategy employed by a company to increase profitability and achieve higher sales volume from new products. Diversification can occur at the business level or at the corporate level.
What is product diversification with an example? ›
Here are some examples of business diversification strategies: Product diversification: A company that primarily sells clothing might expand into selling home goods and accessories. Market diversification: A company that sells only in the domestic market might expand into international markets.
What is product diversity mean? ›
What is product diversification? Product diversification involves introducing new product(s) to the market, adding a new feature, or a new sibling in an already existing product line. It can also mean selling an existing product under a new name as you expand to a new region.
What is over diversification of products? ›
Fund managers consistently encourage investors to spread their investments across different asset classes to mitigate risk. While diversification is crucial, there's a pitfall that many investors fall into, i.e., over-diversification. This common mistake can lead to more harm than good, eroding potential returns.
What is the goal of product diversification? ›
Product diversification aims to reduce reliance on a single market by entering new sectors, enhancing business resilience against market fluctuations. Advantages include risk reduction, market expansion, increased company valuation, innovation, competitive edge, resource optimization, and international expansion.
What is Coca Cola's product diversification? ›
Category diversification moves into juices, coffee, energy drinks, and enhanced waters to cater to wider consumer needs. This multi-brand approach, combined with world-class marketing, has been a proven tactic in Coca-Cola's global success.
What are the pros and cons of product diversification? ›
It can help you increase your revenue, reduce your dependence on a single source of income, and create a competitive advantage. However, diversification also comes with some risks, such as higher costs, complexity, and uncertainty.
What are the risks of product diversification? ›
Risks in Product Diversification
Entering an unknown market puts a significant risk on a company. Therefore, companies should only pursue a diversification strategy when their current market demonstrates slow or stagnant future opportunities for growth.
What does Warren Buffett say about diversification? ›
"We think diversification is — as practiced generally — makes very little sense for anyone that knows what they're doing. Diversification is a protection against ignorance..." "There is less risk in owning three easy-to-identify, wonderful businesses than there is in owning 50 well-known, big businesses."
How to implement product diversification? ›
Product diversification involves expanding a company's product offerings beyond its current markets or products. This strategy can take various forms: introducing new product lines, venturing into new geographical markets, or exploring different segments within existing markets.
Diversification can help you stay ahead of your competitors. By expanding your product portfolio or entering into new markets, you can differentiate your business from your competitors and offer unique value propositions to your customers. This can help you build brand loyalty and increase your market share over time.
How to measure product diversification? ›
Hence, a measure of the value of product diversity is simply n, the number of varieties available. In reality, differentiated products are not symmetric within consumers' utility functions. A Mazda 323 and Ford Laser are closer substitutes to one another than they are to any model Lexus.
Who benefits from diversification? ›
Diversification has several benefits for you as an investor, but one of the largest is that it can actually improve your potential returns and stabilize your results. By owning multiple assets that perform differently, you reduce the overall risk of your portfolio, so that no single investment can hurt you too much.
What company examples of diversification? ›
Related Diversification —Diversifying into business lines in the same industry; Volkswagen acquiring Audi is an example. Unrelated Diversification —Diversifying into new industries, such as Amazon entering the grocery store business with its purchase of Whole Foods.
Which of the following is an example of diversification? ›
Answer and Explanation: 1) Which of the following is an example of diversification : The correct answer is e) Market expansion. To diversify, a company will expand to a new market.
What is the difference between product diversification and product differentiation? ›
Diversification entails how a company deals with different products simultaneously or puts its focus on various ventures in the market to enable realize more profits. In contrast, differentiation strategy entails how the company makes its products distinct from its competitors.
What is diversification in investing example? ›
There are many different ways to diversify; the primary method of diversification is to buy different types of asset classes. For example, instead of putting your entire portfolio into public stock, you may consider buying some bonds to offset some market risk of stocks.
