A Guide to Horizontal Integration for Business Growth
By Indeed Editorial Team
Updated June 10, 2022 | Published December 7, 2021
Updated June 10, 2022
Published December 7, 2021
The Indeed Editorial Team comprises a diverse and talented team of writers, researchers and subject matter experts equipped with Indeed's data and insights to deliver useful tips to help guide your career journey.
As companies grow, several strategies can offer expansion in the market. One option is combining two companies in the same industry and supply chain level, known as horizontal integration. Learning about horizontal mergers can help you better understand how the process affects the functionality of a company. In this article, we discuss the definition and methods of horizontal integration, identify the benefits and potential disadvantages of combining two companies, and highlight three real-world examples.
What is horizontal integration?
Horizontal integration is when an organization gains another business in the same industry that produces or offers similar products or services. The acquired business is at the same level in the supply chain as the parent company. An example of this would be a manufacturing company purchasing another manufacturing business.
This is in contrast to vertical integration, where the company acquires an organization at a different stage of the supply chain. For example, a manufacturing company purchasing a logistics and transportation company is vertical integration. Instead, companies use horizontal mergers as a competitive business strategy to expand their offerings and market, reduce competition, and increase revenue.
The process of horizontal integration
There are several ways that horizontal integrations occur in business, including:
A merger is when two independent companies voluntarily join together to create a larger entity. Typically, organizations that agree to a union are roughly the same size, value, and scale. Businesses complete mergers to gain market share with combined product offerings from both companies. It also allows the merged company to reduce operational costs and increase profitability. After completing a merger, existing shareholders of both original organizations receive new shares for the unique company.
An acquisition is when one company purchases most or all of another company's shares to gain a controlling interest. For example, the purchasing company can purchase all the assets of the other business, such as property, equipment, trademarks, and production capabilities. Alternatively, a company can buy over 50% of voting shares in another organization to gain majority ownership. Owning over 50% of voting shares in another business allows the purchasing company to control the direction of business operations.
A takeover is when an organization successfully closes a bid to assume control of another company. This often occurs when a larger company is interested in a smaller company because it finds the organization valuable in some aspect, such as technology or market niche. Company takeovers can be friendly or hostile, depending on the situation between the two entities. A takeover allows a company to eliminate the competition by absorbing the other business into its structure.
Benefits of horizontal merger
There are several benefits for businesses that engage in horizontal mergers, including:
Access to new markets
When two companies merge into one, each can share its market to expand their existing customers and access larger markets than as separate businesses. This can happen when the two companies operate in different regions or serve a different niche market. Not only does a horizontal merger help companies gain access to new markets, but it also increases their market share.
Market share is the percentage of total sales generated by a specific company in a particular industry. For example, an internet service provider may have 34% of the market share in the country. This metric helps to gauge the size and total sales of an organization compared to its competitors. In addition, merging two companies into one larger business allows for a more significant market share.
When two previous competitors horizontally merge into a larger organization, it allows the company to reduce the competition in the marketplace or within a specific area of the supply chain. While competition reduction is helpful for a business to increase revenue, it also can stifle a company's drive for continuous improvement. During the process of an acquisition or merger, a company also wants to ensure it remains compliant with the federal Competition Act. This legal regulation restricts and monitors industry monopolies.
Even though two companies combine into one through horizontal acquisition, they originate from similar industries, products, and stages within the supply chain. Each company has a unique factor of differentiation for its offerings. For example, suppose both companies manufacture skincare products.
One company focuses on creating skincare products with unique and proprietary ingredients and uses this in its marketing strategy to set its products apart from the competition. The other company makes skincare products that focus on brand recognition and prestige, using celebrity endorsement for advertising campaigns. During a merger, the new entity can capitalize on both product differentiations to increase its overall market share.
Increased market power
Market power is an economic term to describe a company's ability to manipulate the price of a product in the marketplace by controlling the level of supply, demand, or both. When a company influences market power by controlling the price of a product or service, it also has more significant control over its profit margin. When two companies merge into a larger organization in a horizontal acquisition, it has a greater influence on suppliers and distributors within the marketplace. This also allows the new company to obtain a more significant market share for its products or services.
Economies of scale
An economy of scale is an economic concept that describes when a company increases its production level of goods and reduces its costs because of higher efficiency. As a company grows in size, its production costs are lower, creating a competitive advantage for the business. As a result, the organization can use its cost savings to increase its profits for shareholders or lower its products' costs for its customers.
When a company gains another organization through horizontal acquisition, it can increase its production level by using the other company's resources. As a result, this increases revenue and decreases production costs. In addition, the combining of two companies into one business enables greater efficiency, creating a greater economy of scale.
Potential disadvantages to horizontal mergers
Several potential disadvantages of horizontal acquisitions can include:
One potential downside of horizontal mergers is that the company becomes too large to manage effectively. Bringing two companies together can bring differences of opinion from management and executive levels, causing unexpected inefficiencies. As a result, this can limit a company's ability to create productive workflows. In addition, challenges within management or the direction of the business can affect the company's ability to innovate and offer new products or services. It's critical for the executive of the newly formed company to create a clear vision for the organization and provide detailed objectives for growth and development.
The federal Competition Act is a national law that regulates business operations and aims at preventing anti-competition practices in the marketplace. This includes providing customers with competitive prices and a choice of products while also allowing an equal opportunity for all businesses. This regulation also monitors the creation of industry monopolies. A monopoly happens when one organization dominates the market or is the only available choice for consumers. Companies that take part in a horizontal merger are best aware of this federal act to ensure they remain in compliance.
When two companies merge, there is the potential risk of poor performance. Sometimes companies can't achieve the expected results expected from a horizontal merger. If the new company isn't able to perform to the required expectations, the organization loses value. Poor performance and decreased value can happen for several reasons, including management challenges, lack of integration of the two entities, or poor productivity.
Horizontal merger example
Here are three examples of recent horizontal mergers:
1. Facebook and Instagram
A real-world example of horizontal integration is the acquisition of Instagram by Facebook in 2012. Both companies operate within the social media industry and share similar target markets for their photo-sharing and video services. Facebook identified Instagram as a competitor and, in 2012, acquired Instagram for $1 billion. Facebook saw the acquisition as an opportunity to reduce market competition, increase its access to a larger audience, and improve its market share. While Facebook now owns Instagram, the two platforms continue to operate as separate social media platforms.
2. Marriott and Starwood Hotels
Another example is the 2016 acquisition of Starwood Hotels and Resorts by Marriott International. The Marriott hotel and resort organization purchased its competitor to increase its market share and serve a new target audience. This acquisition allowed them to become the largest hotel company worldwide, including Marriott, Starwood, and The Ritz-Carlton properties globally.
3. Volkswagen and Porsche
A third example of horizontal mergers is the 2012 acquisition of Porsche automobiles by Volkswagen. This merger allowed the automobile manufacturer to expand into another high-performance luxury market. As a result, it also increased Volkswagen's overall automobile market share globally.
Please note that none of the companies, institutions, or organizations mentioned in this article are affiliated with Indeed.
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