Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail
Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

Horizontal Integration

What it is:

Horizontal integration occurs when a company purchases a number of competitors. It is the opposite of vertical integration, whereby the parent purchases businesses in each stage of a product's life cycle (that is, it buys suppliers, distributors, wholesalers and retailers of the product).

How it works (Example):

Horizontal integration is most common among conglomerates, which are corporations made up of a number of smaller companies spanning several industries.

Conglomerates usually consist of a parent and several subsidiaries. The parent owns a controlling stake (if not all) of each subsidiary, and these subsidiaries usually form through acquisitions rather than organic growth. In many cases, companies become conglomerates because they are attempting to monopolize a particular market. They do this via horizontal integration.

In most cases, each subsidiary of a conglomerate operates independently of the conglomerate's other businesses (although the managers of the subsidiaries work for the managers at the parent company).

Why it Matters:

The motto "the parts are worth more than the whole" is the idea behind horizontal integration. It is also behind many companies' strategies for "going global" buy purchasing foreign competitors.

Especially among conglomerates, the diversification and efficiencies brought about by shared or reduced costs often mean that horizontal integration can benefits companies by reducing their overall risk profiles. Participation in different market segments also means that the company may become less sensitive to the business cycles of any one of its holdings. That in turn helps create highly valued stock (which can be used as currency to acquire more companies).

However, horizontal integration creates challenges, too. The integration might make the company so big that it is difficult to manage efficiently. As with any acquisition, the company might not realize the anticipated cost savings. This can lead to a lack of focus, which creates managerial problems and reduces shareholder returns. (This in turn is why companies often "spin off" subsidiaries into stand-alone entities.)