Vertical Marketing Strategy Example – Vertical integration is a strategy that allows a company to improve its operations by directly owning various stages of its production process instead of relying on external contractors or suppliers.
A company can achieve vertical integration by acquiring or establishing its own suppliers, manufacturers, distributors or retail locations instead of outsourcing them. However, vertical integration can be considered a risky venture due to the significant initial investment required.
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Vertical integration occurs when a company tries to expand its supply chain or production process. Instead of sticking to one point along the process, the company participates in vertical integration to be more present in other aspects of the process. For example, manufacturing may need to source its own raw materials or sell directly to consumers.
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Netflix, Inc. A prime example of vertical integration. The company started as a DVD rental business before moving into online movie streaming and movies licensed from major studios. Netflix executives then realized they could improve their margins by producing some of their own original content, such as shows like Grace & Frankie and Stranger Things. It has also produced some blockbusters such as 2016’s The Get Down, which reportedly cost the company $120 million.
Today, Netflix uses its distribution model to promote its original content alongside programming licensed by studios. Instead of relying only on other people’s content, Netflix implements vertical integration to be more involved in the entertainment development process earlier.
A company’s supply chain or sales process usually begins with the purchase of raw materials from suppliers and ends with the sale of the final product to the customer.
Vertical integration requires a company to control two or more steps related to the creation and sale of products or services. The company must buy or create part of the production, distribution or retail process that comes from abroad.
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Companies can integrate vertically by purchasing their suppliers to reduce production costs. They can invest in the retail process by opening websites and physical stores. They can invest in warehouses and fleets of vans to control the distribution process.
All of these steps involve a significant investment of money to establish facilities and hire additional talent and management. Vertical integration also ends up increasing the size and complexity of the company’s operation.
As companies engage in more activities along a single supply chain, this can result in a market monopoly. A monopoly that occurs due to vertical integration is also called a vertical monopoly.
There are many ways a company can achieve vertical integration. The two most common are backward and forward links.
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A company that chooses backward integration moves ownership control of its product to an earlier point in the supply chain or production process.
This form of vertical integration is a name that is suitable for companies that often try to find suppliers of raw materials or service providers towards the beginning of the supply chain. Companies towards the beginning of the supply chain often specialize in their different steps (ie the distribution of wood to furniture manufacturers). In an effort to improve the process, furniture manufacturers will try to source the wood in-house.
Amazon.com, Inc. It started as an online retailer of books it bought from established publishers. He still does, but he became a publisher. The company eventually branched out into thousands of branded products. It then introduced its own private label, Amazon Basics, to sell many of them directly to consumers.
The company that decided on forward integration expanded by gaining control over the distribution process and the sale of its finished products.
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A clothing manufacturer may sell its finished products to a middleman, who then sells them in smaller lots to individual retailers. If the clothing manufacturer experienced vertical integration, the manufacturer will join the retailer and may open its own store. The company will aim to bring in more money per product, assuming it can operate its retail operations effectively.
Forward integration is a less common form of vertical integration because it is often more difficult for a company to acquire another company further along the supply chain. For example, the largest retailers at the end of the supply chain often have the greatest liquidity and purchasing power. Instead of these retailers being acquired, they often have capital available to be the receiver (backlink example).
Balanced integration is a method of vertical integration in which the company aims to integrate with the company both before and after along the supply chain. The company must be a “middleman” and produce good products to operate a balanced combination, as it must take raw materials as well as work with retailers to deliver the final product.
Consider the supply chain process for Coca-Cola where the raw materials are, the beverages are manufactured, and the bottled beverages are distributed and sold. If Coca-Cola chooses to integrate with both the raw material suppliers and the retailers who will sell the product, Coca-Cola is engaging in balanced integration.
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Although the most expensive and riskiest due to the diverse nature of business operations, balanced integration also produces the highest recovery because the company tends to have more (if not complete) control over the -the entire supply chain process.
Although vertical integration can reduce costs and create more efficient supply chains, the associated capital expenditure can be significant.
Vertical integration can help companies reduce costs and improve efficiency. However, when implemented poorly, vertical integration can have negative consequences for the company.
The main goal of vertical integration is to achieve more control in the supply chain, supply process and production. When implemented well, vertical integration can result in lower costs, economies of scale, and lower external dependence.
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Vertical integration can result in lower transportation costs, less turnaround time, or simpler transportation if all processes are handled internally. This can lead to higher quality products since the company has direct control over the raw materials used through the production line.
Sometimes, companies are at the mercy of suppliers who have market power. Through vertical integration, the company can avoid an external monopoly. In addition, the company can receive insights from retailers about which products sell best; This information can be very useful in making decisions about production and products.
Companies cannot be vertically integrated overnight; It is a long process that requires extensive buy-in. This also includes the need to spend a lot of money to get the right company, Integrate with new and existing systems, and ensure that the staff is trained throughout the entire production process
By integrating vertically, the company sacrifices some flexibility. This is because they are committing capital to a specific process or product. Instead of being able to refuse to buy from an outside seller, the company can commit money that cannot be easily recovered. In addition, the company may lose the opportunity to gain unique knowledge through different external vendors.
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Vertical integration can also have various social effects. Companies can end up trying to do too much and lose focus on their ultimate goal. In addition, customers may not support the culture of large manufacturers who are still directly interfacing with customers.
Horizontal integration involves the purchase of competitors or related businesses. A company may do this to eliminate competitors, improve or diversify its core business, expand into new markets, and increase overall sales.
Vertical integration involves acquiring key elements of the supply chain that the company has previously committed to. It can reduce the company’s costs and give it more control over its products. In the end, it can increase the profit of the company.
While vertical integration expands the company along one process, horizontal integration is a more targeted approach that allows the company to become specialized or niche in a certain market. For example, instead of participating in all aspects of the supply chain from sourcing, manufacturing or retailing, a company may choose to control only one of those aspects by acquiring similar companies to participate in -horizontal integration.
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A lot of analysis went into reviewing when it would be better to contract with another company as opposed to them. The spread of modern economic theory on the matter has been going on for decades.
The oil industry is a case study in vertical integration. British Petroleum, ExxonMobil, and Shell all have exploration divisions that look for new oil fields and subsidiaries dedicated to their extraction and refining. Their shipping department ships finished products. Their retail division operates gas stations that deliver their products.
The 2010 merger of Live Nation and Ticketmaster created a vertically integrated entertainment company that manages and represents artists, produces shows and sells event tickets. The entity manages and collectively owns concert venues, while also selling tickets for events at those venues.
Here’s an example of a forward link from Ticketmaster’s perspective, and a backward link from Live Nation’s perspective.
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