My business is generating less and less profits each year and the risk and effort involved is starting to outweigh the benefits; should I diversify my business? I am sometimes asked this question and it never ceases to astonish me how attractive a diversification strategy is to some Maltese businesses.

Steve Jobs emphasised one word: ‘Focus’- Kevin-James Fenech

One of the first things they teach you at Business School – particularly in Strategy class – is the Ansoff’s Product/Market Matrix which introduces the business student to the concept of diversification. The idea is to increase profits by moving into new markets and new products.

Why would a business owner be tempted to follow a diversification strategy? For instance, just very recently, we read in the local press that a local family business (a group of companies) with skills and capabilities in the fast food industry, port operations, property development and engineering is now moving (through acquisition) into the non-related industry of ICT. The diversification move was described as a “perfect fit” and “a further step in the diversification of its interests”. I have no doubt that the family business knows what it is doing and that we from the outside cannot properly judge such a decision, but it does beg the question: how is ICT a “perfect fit” with property development or fast food?

Normally, when a business reaches a certain size and/or profits start to decline they consider diversification. Therefore, or so the argument goes, if you move into a new industry, your future prospects are better than just staying in your existing industry. Furthermore, it is argued, diversification into unrelated industries with new products reduces the risk for the shareholder(s) since it is unlikely that both (or all) industries fare badly simultaneously. In a sense, one is hedging his business interests and risk. Plausible, but not convincing.

To come clean: I personally don’t buy into the concept of diversification per se; especially when diversification concerns a move into a completely unrelated industry. To me it is just common sense: stick to what you know best. When Steve Jobs, for instance, was asked by Google co-founder Larry Page in 2011, for advice about Google (he had just taken back the reins), Jobs emphasised one word: “Focus”. He told him, “Figure out what Google wants to be when it grows up. It’s now all over the map. What are the five products you want to focus on? Get rid of the rest, because they’re dragging you down. They’re turning you into Microsoft. They’re causing you to turn out products that are adequate but not great.”

Or as Tom Peters (co-author of the legendary “In Search for Excellence”) put it: “Stick to the knitting”. Sage advice.

In my opinion, any temptation to diversify is an unnecessary distraction which takes away valuable, and limited, resources (time, money and strategic focus) away from core business. And let’s be frank no one has unlimited resources and there is such a thing as “opportunity cost” in business.

I believe that it is difficult to add value to businesses that aren’t connected or relevant to each other. Each business requires a unique set of skills and talent to compete. A conglomerate that has a presence in three or more different (unrelated) industries, which is what diversification leads to, needs three or more different sets of skills and capabilities.

This to me means that either you will spread your limited resources over three or more businesses meaning that you fail to give any one of them the best possible chance to succeed or that you are distracted (lacking focus) meaning that you will never be the best in class.

A focused business, on the other hand, receives all of the available (though still limited) resources and because of strategic focus stands the best possible chance of being number one – the market leader – in its respective industry. To understand or appreciate better what I mean just read the authorised biography of Walter Isaacson on Steve Jobs. Apple is where it is today – the number one technology company – because of strategic focus and not diversification.

I am sure that the idea of diversification in business comes from the world of finance where it is contended that a wide variety of investments within a portfolio will on average, yield higher returns and pose lower risk than any single investment found within a particular portfolio. Whilst it makes sense in financial investment it simply doesn’t hold water in strategy.

My advice to those of you in a business or industry, which is in decline, is to get out of it or use blue ocean strategy to re-think what constitutes “your” industry. To those of you unable to generate reasonable profits or witnessing shrinking profits, change your business model. Those of you losing market-share invest in customer loyalty and improve your service system. But whatever you do please don’t diversify!

www.fenci.eu

Mr Fenech is managing director of Fenci Consulting.