Product Diversification

Product diversification is a company's practice to increase profitability and attain higher sales volume from the latest products. This practice ensures that the company grows and expands its product heterogeneity. It is also called product differentiation.

Diversification of products can mainly occur at two levels, namely, the business and corporate levels. At the business level, the aim is to broaden into a new section of an industry. At the corporate level, the objective is to broaden into a new industry.

Companies must constantly evaluate current market trends and product success to remain relevant and profitable. When businesses see an opportunity to alter their product lines for better marketability, they frequently commit to a process known as product diversification. 

This may enhance a product's present market and help corporations increase the visibility of their brands. 

The Ansoff matrix is a commonly used tool for creating effective strategies to ensure the growth and diversification of the product.

There are four strategies under the Ansoff matrix which are:

• market penetration 
• product development 
• diversification 
• market development 

This article discusses diversification, defined by the matrix as a firm inserting new products into a new market. 

Besides just expanding their product offerings, companies also use this strategy for various reasons, such as reducing risk, expanding to new market segments, etc.

However, diversification is expensive - not only do firms have to create a "new" product, but they also have to market it. So why do companies use this strategy?

Why Do Companies Use This Strategy?

When companies diversify their product, they add new components to an existing product line. Companies diversify their product line to increase profitability and expand and develop in that market. 

While product diversity is typically used to boost a product line's overall marketability and profitability, businesses may utilize this strategy for various reasons.

 A few reasons are avoiding overspecialization, the desire to expand into new or current markets, and societal shifts.

Companies sometimes offer and develop new items solely to avoid limiting themselves to a specific industry or customer base. In such cases, diversification can help a firm expand its consumer base and income streams.

Companies that sell items to specialized markets frequently aim to extend their existing product ranges to attract new customers or retain existing ones. Likewise, companies can grow their needs by diversifying their offerings to attract different market segments.

Societal changes can influence consumer behavior and demand. For example, as society has become more concerned with the environment, "green" items that are carbon neutral or sustainably made have gained popularity.  

As discussed above, businesses will occasionally employ product diversity as a method to react to such fluctuations in customer preferences.

Product Diversification Strategies

There are three types of strategies under product diversification. They are concentric diversification, horizontal diversification, and conglomerate diversification.

1. Concentric Diversification

Concentric diversification is a growth strategy in which a business aims to expand and develop by adding new items to its existing product lines to attract new consumers. It is also known as "convergent diversification."

It allows enterprises to reach significant goals with fewer operating parts and at a lower cost.

A concentric diversification approach entails growing the organization around businesses with competitively valued strategic fits in their value chains.

For example, cola companies purchased new products and services to broaden their horizons from a soft drink company to a beverage company.

2. Horizontal Diversification

Horizontal diversification is a method of introducing new products meant to serve existing customers. It works by recognizing a product demand and addressing that need with a new product not presently available in a company's product lines.

When a corporation adopts horizontal diversification, it may add items to one of its existing product lines that have little to do with the other products in the line.

For example, if a company's main activity is selling plant pots, they may want to sell seeds for various houseplants and miniature garden plants to customers. 

Specific customers may not want certain plants or may already have a plant ready to pot, so they can opt to buy seeds for those herbs and flowers they prefer.

3. Conglomerate Diversification:

Conglomerate Diversification is a method of introducing new products and services that are significantly distant, with no manufacturing or commercial relation to the company's current operations.

It occurs when a company diversifies into an area unrelated to its operation.

This usually happens due to a merger or purchase of another firm, but it can also occur if the company wishes to create other goods that aren't linked to the ones they presently make.

For example, big firms like Apple, Facebook, and Amazon are conglomerates companies due to their large-scale diversification of products. In the long term, this can help them reduce risk by diversifying their portfolio.

Stages of Diversification

There are six possible stages of diversification. They are repackaging products, renaming them, resizing products, repricing products, brand extensions, and product extensions.

1. Repackaging products

Companies diversify their products by repackaging them to impact different groups of customers significantly. 

Companies might try to sell their products more effectively in different geographic areas by rebranding them and matching their marketing approach with local cultural norms. Promotion is critical as it can broaden the product in the market.

2. Renaming products

Companies rename products to attract potential customers that speak different languages, have different identities and values, etc. These products are identical to the original but are given another name. 

Companies may rename their products and connect their marketing techniques with local cultural norms to sell them more effectively in different countries. 

For example, some names might be poorly phonemicized, and some numbers might be unlucky. Therefore, companies have to consider all of these factors.

3. Resizing products

Companies resize their products according to the type of buyer they are selling them to. For example, a company may sell different quantity sizes to wholesalers and individual customers. 

Companies may expand the size of their products to advertise them to value buyers who want to save money by buying in bulk.

4. Repricing products

Companies may change the price of the product they are selling through different sales channels. In addition, these items may differ slightly regarding the materials used to create them or how the firm markets them.

5. Brand extension

Brand extension can help add high or low-end options to a particular product, allowing customers to choose a product according to their needs and budget. 

Companies that produce high-priced or luxury goods, such as automobiles, laptop computers, jewelry, cellphones, and other items, use brand expansion as a marketing technique.

6. Product extension

Product extension helps the company to offer more varieties of a particular product. For example, many phones come in various sizes and colors. 

This method can assist customers who want to buy things but want certain styles or bonus functions.

Benefits

The benefits of production diversification include the following:

1. Risk mitigation

Risk mitigation is the method of reducing the overall risk primarily through diversification. Regarding products, product diversity can help reduce risks to a company's income stream in the event of a slump in one industry.

A well-diversified product portfolio helps the business spread out its customer base and makes the overall business less sensitive to market & credit cycles.

2. Protection and stability

It is a defensive tactic to keep competitors from dominating a brand's market share and keep consumers engaged. 

When companies diversify their products and increase the variety and options for a certain product market, this can help protect against challenges from competitors. 

3. Resourcefulness

If a company achieves relative success and profitability with its original goods, it can employ diversification of products to capitalize on its success and encourage new purchases from current customers. 

4. Brand strength 

Product diversity may assist businesses in developing strong, memorable, and recognizable brands. 

Customers are more likely to recognize and recall businesses that provide greater variety and alternatives in their products and product lines. For example, the most famous chip brands offer various flavors.

This benefits businesses looking to raise profitability, draw in consumers, and promote brand loyalty.

Risks

When a company enters a market that is not well known (in a foreign country, a new product for that company, etc.), there can be risks that can affect the stability and performance of the company in the market. 

For this reason, companies should not rush to enter a new market and should research to understand how the market works and act accordingly.

 

To measure the chances of diversification success, three tests are used. They are:

1. The Attractiveness Test

Under this test, the company must use Porter’s five forces analysis to determine the industry's attractiveness. Porter’s five forces analysis includes rivalry amongst existing firms, barriers to entry, the threat of substitutes, the threat of buyer’s bargaining, and supply power.

• Rivalry amongst existing firms

Rivalry exists when the industry contains many strong competitors. This rivalry can lead to price cutting, frequent introduction of new products, and increased advertising expenditure. 

• Barriers to entry

The factors that increase barriers to entry are:

1. First, competitors’ economies of scale are significant.
2. The costs of switching to suppliers 
3. Product differences 
4. Exit barriers 
5. Capital requirements 

• Threat of substitutes

It is the availability of alternative products that a customer could purchase from a different company outside the market. A classic example is a butter and margarine.

This limits the increase in price and profit margins. The greater the threat, the less attractive the industry is to the potential entrants. 

• The threat of buyers' bargaining power

As the threat of buyers’ bargaining power increases, the industry's appeal to potential entrants decreases as they receive lower prices for their products.

• The threat of suppliers’ bargaining power

The supplier's bargaining power is greater when:

1. Switching costs are considerable.
2. The price of substitutes is high.
3. As a result, the suppliers can threaten forward vertical integration.

2. The Cost of Entry Test

The cost of entry test determines if you have the resources to diversify effectively into a new sector. It compares the cost of entering with the potential profitability of entering.

3. The Better-off Test

The better-off criteria require that the firm receive a one-time or ongoing competitive advantage due to diversification.

Examples 

Some of the examples are:

1. Walt Disney

Walt Disney is a company that heavily diversifies its products. They diversify internationally, operate theme parks, cruises, streaming services, broadcast networks, and resorts, and create TV shows and movies.

The Walt Disney Company has expanded by purchasing or building the key assets needed to support its new product lines. As a result, diversification has greatly expanded the number and profitability of their revenue streams and created life-long customer loyalty.

With a broader range of companies and offerings, Disney is less likely to experience serious losses from one or two failed projects. As a result, the firm is more insulated from risk and can take on new creative projects.  

2. 3M

It is a dividend king that has 60 years of dividend growth. It's worth noting that 3M has a history of invention and continues to perform R&D to enhance existing goods and develop new ones, allowing 3M to expand its product line and preserve its broad diversity.

3M is a diverse firm with five primary business sectors, including over 45 technology platforms ranging from adhesives and abrasives to ceramics and nanotechnology.

We can consider that 3M has a range of products available and has also marked itself with diversification. The company produces around 60,000 products under several brands, which does include many diversified products, such as:

• Cement
• Glue
• Paste
• Paint protection films
• Personal protective equipment, etc.

Researched and authored by Ajay Kumar Sahoo | LinkedIn

Reviewed and Edited by Aditya Salunke I LinkedIn

Free Resources

To continue learning and advancing your career, check out these additional helpful WSO resources:

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