When two companies in the same industry join together but work at different stages of the production process, this is called a vertical merger. Businesses can get a better handle on their supply chain, cut costs, and work more efficiently after this kind of merger. Companies can merge in two ways: backward integration, in which they buy suppliers, or forward integration, in which they join forces with retailers or distributors. There are chances for growth with vertical mergers, but there are also problems that need to be carefully handled.
What is a Vertical Merger?
When businesses want to grow or get stronger in the market, they often merge with or buy other businesses. The name for one of these plans is a "vertical merger." It is when two businesses in the same field work together but at different stages of the production process. With this kind of merger, the companies get more control over the whole supply chain, from the raw materials to the finished goods.
Types of Vertical Mergers
Backward integration and forward integration are the two main types of vertical mergers. When it comes to the production process these two types are different.
Backward Integration
A backward integration is when a company merges with a company that gives it raw materials or parts for its products. We want to be in charge of the supply chain. This helps the business keep a steady supply of materials on hand, cut costs, and work more efficiently.
Example: If a car company merges with a steel company, it can depend less on outside suppliers. The cost of materials may go down and the quality of the steel used in car production may be more tightly controlled.
Forward Integration
A business merges with a nearby one that is closer to the customer in forward integration. This person or company could be a seller, a distributor or a service provider. The goal is to get closer to the customer, make sales channels better, and have more control over how the product gets to people.
Example: If a soft drink company merges with a chain of grocery stores, it can sell its goods directly to customers. By directly reaching more customers, this kind of merger can help the business grow faster and make more money.
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Why Do Companies Choose Vertical Mergers?
There are many good things about vertical mergers. Businesses think about this strategy when they want to grow or get ahead in the market because of these benefits.
Savings on costs
Cost savings are one of the best things about a vertical merger. A business can save money on buying goods and services from outside sources by merging with a supplier or distributor. There is no need to pay people who sell or handle the goods. This means that overall costs go down and profits go up.
If a clothing manufacturer and a fabric supplier merge, the cost of fabric can be reduced, resulting in lower production costs for the clothing company.
More power over the supply chain
Better control over the supply chain is another good thing about a vertical merger. A business can make sure that everything goes smoothly when it has more control over the production process. Also it can make sure that deliveries of goods or raw materials do not get held up. This speeds up production and makes things run more smoothly.
One way for a smartphone company to make sure it always has enough screens for production is to merge with a company that makes phone screens. This helps the business avoid delays and keep a steady flow of goods.
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More power in the market
One more way for a business to get stronger in the market is through a vertical merger. When a business owns both the production and distribution of its goods, it can make choices and set prices without having to worry about what other people think. The business is now stronger in the market because of this. By making it harder for competitors to get to the same resources, it can also keep them from getting into the market.
A large shoe manufacturer, for instance, can control both the production and the sales of its shoes if they merge with a major shoe retailer. Other shoe companies will find it harder to keep up.
Better access to resources
It may also be easier to get resources if you merge with a company that works in a different part of the supply chain. Resources like raw materials, technology, or information that can help the business grow could be among these.
For instance, a tech company that merges with a software company can get new ideas and technology. It gets better products and services as a result, which makes it stronger in the market.
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How Vertical Mergers Can Go Wrong?
There are many good things about vertical mergers, but there are also some bad things. If a company wants to do a vertical merger, it needs to know about these risks.
Close Examining of Rules
Getting inspected by the government is one of the biggest risks of a vertical merger. To make sure that vertical mergers don't lessen competition in the market, governments and regulatory bodies often look into them. Government officials may stop a merger if it gives one company too much power over the market. And they do this because they want to make sure that customers have enough options and that prices stay fair.
Like if two companies merge and control almost all of the supply of a certain product, prices could go up and customers might have fewer choices. This might not happen because of regulators' actions.
Problems with integration
Another risk is that it might be hard to combine two businesses that do different things. When two companies merge, their management styles, ways of doing things and cultures are often not the same. These differences can lead to confusion and hold up traffic. Integration can make the merger less effective or even cause it to fail if it is not done correctly.
If a company that makes technology and a company that makes physical goods merge, for example, the two may have different ways of managing their employees. This can lead to stress and less work getting done.
Too much extension
If a company after a merger takes on too many tasks, it may become too busy. The company might lose sight of its main goal if it tries to handle too many supply chain parts or new businesses. This could cause waste, higher costs, and worse quality.
One example is a company that makes shoes might find it hard to run both its shoe production and its retail stores. This could make it harder for the company to focus on making good shoes, which would make customers less happy.
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Summing Up
A vertical merger is a way for companies to grow by joining forces with other companies that are in different stages of the production process. Companies can cut costs, work more efficiently and have more control over their supply chain with its help. But vertical mergers have risks, like problems with regulations, problems integrating the new companies and going too far. Companies must carefully oversee the process of a vertical merger and aim for the ideal balance between growth and efficiency for it to work.
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FAQs on Vertical Merger
Q1: What is a vertical merger?
A vertical merger occurs when two firms in the same business combine but at different stages of the production process. Example from raw materials to finished products.
Q2: What are the two types of vertical mergers?
The two types of vertical mergers are backward integration (merging with suppliers) and forward integration (merging with distributors or retailers).
Q3: What advantages does backward integration provide to a company?
Backward integration enables a company to own the supply of raw materials, cuts costs and eliminates dependence on other suppliers.
Q4: What is forward integration in a vertical merger?
Forward integration is merging with businesses that are nearer to the customer, i.e., retailers or distributors, in order to enhance sales channels and customer access.
Q5: What are the benefits of vertical mergers?
Vertical mergers have advantages such as cost reduction, enhanced supply chain management, improved market power and greater access to resources.
