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Vertical integration strategy is a competitive strategy that results in a business taking complete control over one or many stages in the production or distribution cycle. Generally, the strategy involves two different companies partnering to improve efficiency and retain ownership of the phase. Vertical integration meaning is also extensively covered in the MBA curriculum; it can’t be ignored at any cost.
One of the most interesting examples of a company religiously following vertical integration to get the best possible results is the curious case of the Carnegie Steel Company. The organization bought iron mines to ensure a consistent supply of raw materials and took charge of the railroads to revamp its distribution process completely. As a result, vertical integration strengthened the distribution of the final product and cemented the organization’s position in the industry.
Vertical Integration Examples
Apart from the Carnegie Steel example, there are numerous cases where vertical integration examples have profound effects. Some of them are as follows:
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Amazon
The internet giant is a prominent example of vertical integration. It has clubbed together many of its processes to reduce turnaround time and maximize profits. As a result, it not only acts as a platform for buyers and sellers but also offers its products and services, including its extensive distribution network. So, in essence, it has three stages in the supply chain. These involve sourcing products, marketing them on its platform and selling them. The rest involves the distribution of the product as per the vertical integration meaning.
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Ikea
Ikea, a leading name in the wooden furniture game, is also one of the best examples of vertical integration. The organization takes the last spot in the supply chain by acting as a retailer. It sells its product directly to the end-users. However, in 2015, the organization took a major step that is still considered one of the industry’s biggest steps.
Ikea embraced vertical integration by purchasing a Romanian forest. The move was further augmented by the purchase of forestland in Alabama in 2018. This helped Ikea achieve complete control over the raw material and be less dependent on third parties, and also fulfil its aim to create a sustainable supply chain.
Ikea carried out its moves through its subsidiary Swedwood, which was later renamed as the Ikea Industry in 2013. This gave the organization complete ownership of the entire journey and made it a great among the many vertical integration examples.
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Zara
Zara, a renowned Spanish accessory and clothing company, is known for its unique designs and thousands of retail units all across the globe. It not only owns the retail stores and the sections dealing with distribution, but a considerable amount of apparel is sourced in-house. But that’s not all; Zara has integrated both the manufacturers and designers of its goods.
The move is considered a masterstroke by the industry pundits who label other retail units as “left by mercy”. In contrast, Zara has in-house designers and manufacturers that allow it to adopt trends faster than others.
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Netflix
Netflix, a popular streaming service provider, is known among the masses for its content. It lies in the last stage of the supply chain by reaching out to the end-users directly through the internet. However, things that look pretty now were not the same before 2013. The service provider had to rely on third parties who provided the content and charged a premium for it. This ended up creating an unhealthy relationship between the company and external production houses.
This is where Netflix took a major step by adopting vertical integration. It started its production house, where it churned out incredible content. This allowed the company to be self-reliant and gave it an upper hand in the game. Apart from that, the move helped Netflix stand out from the competition.
Advantages of Vertical Integration
Vertical integration examples come with a wide spectrum of advantages that can be executed in every major industry. These are as follows:
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Achieve Economies of Scale
For companies to lower their per-unit fixed cost, they need to buy raw materials in bulk. This act is called economies of scale. Other ways to achieve the same are eliminating expensive markups in intermediaries, optimizing operations and consolidating staff and management.
For instance, Walmart tries to experiment with every possible solution that can help their economies of scale. This could be achieved by owning the distribution centers, implementing state-of-the-art technologies, and establishing efficient processes for loading and delivering products. This is how Walmart adopts vertical integration that has helped it garner more customers–a key to Walmart’s success.
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Expand Geographically
One of the principal factors from the vertical integration strategy that can help companies grow their profits exponentially through vertical integration is expanding globally. This could be done through establishing distribution centers, acquiring new brands or forming partnerships with existing business houses.
Procter and Gamble successfully demonstrated the following vertical integration strategy by acquiring Iams pet foods. It allowed the company to have a global reach in that particular domain. Another popular example includes Louis Vuitton, which successfully became a global brand by establishing outlets across the world’s fashion capitals.
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Create New Profit Centers
Online retailers have changed the internet landscape by allowing anyone to ship products to any other corner of the globe. Amazon and Chinese e-commerce giant Alibaba are among such bright examples of the creation of new profit centers.
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Maintain Quality Control
When it comes to businesses, quality plays a pivotal role. Further, concepts like vertical integration allow manufacturers to own their raw materials. As a result, when it comes to cost reduction and quality control, these products ace the game.
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Stand Out From the Competition
The advantages of vertical integration allow companies to market better than their competitors. This could be achieved through companies directly reaching out to the end-users. Vertical integration was implemented by numerous companies such as Ikea and Apple. For example, when Apple opened its first retail unit, it beat Microsoft in all aspects by directly reaching out to the end-users.
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Protecting Proprietary Processes or Recipes
Vertical integration also comes as an aid while dealing with proprietary processes or recipes. One such prominent organization that has guarded its recipes over the years is Coca-Cola.
Types of Vertical Integration
Vertical integration can be broadly categorized into three major categories. These types of vertical integration are:
- Forward Vertical Integration
- Backward Vertical Integration
- Balanced Integration
Forward Vertical Integration
Forward vertical integration denotes a company’s mergers, acquisitions or expansion ahead in the supply chain. In its simplest term, the different stages involve raw material extractors, retail distributors and manufacturers. However, the primary task in the domain includes growth through acquisition.
For instance, EA sports ( a manufacturer of games) lies in the middle of the supply chain. The advantages of vertical integration will take shape if it purchases a retailer such as Target or Gamestop.
Another commonly used term for forward vertical integration is upstream integration. Upstream integration focuses on the beginning of the end of the supply chain. As per the theory, those at the top or at the end of the supply chain have the highest purchasing power and can even buy companies in the middle of the chain.
Backward Vertical Integration
Backward vertical integration refers to when a business teams up with another one that lies before it in the supply chain. In essence, it refers to a condition when a manufacturer purchases its suppliers. This liberates any organization from being dependent on others for raw material.
The method is also known as downstream integration, as the bigger businesses at the end of the supply chain have the resources to acquire the suppliers in the chain.
Balanced Integration
The third type of vertical integration that is the combination of both forward as well as backward integration is balanced integration. To dive into details, vertical integration happens when an organization or a business in the middle of the supply chain purchases the business at the end of and ahead of the supply chain.
This ensures that balanced integration involves two transactions–one downstream and another upstream.
A fitting example highlighting the advantages of vertical integration is Hershey. The chocolate manufacturing house depends upon bean suppliers for its raw material while relying on distributors such as Walmart and Target to sell its products.
However, a better example would have been if Hershey had acquired both the bean suppliers and the distribution channel–Walmart or Target. But such integrations are rare because of the cost involved and the potential dispute due to a monopoly in the supply chain.
Concluding Remarks
No matter what, vertical integration plays a pivotal role in today’s business scenario. The strategy is not restricted to geographical boundaries or limited to any particular industry. This helps businesses think about the possibilities that exist and whether they can optimize their existing process for the best results.
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