In: Economics
Suppose you are the manager of a corporation that typically acquires high-end, expensive beef and potato product restaurants. Due to the COVID-19 pandemic, the economy is expected to enter a major recession within the next few months. Accordingly, the chief operating officer of the company comes to you and hands you the following data. Note: (Exy) denotes the cross-price elasticity of demand between your corporation’s products and the products of other firms.
The Mustard Factory = -1.2
Ketchup Delight! = -1.1
Sounds Fishy to Me = +2.2
Chicken and Pork Concerns = +1.3
Sword and the Shield Health Care = 0.0
The COO and the board of directors have discussed acquiring one of the above firms. Both The Mustard Factory and Ketchup Delight! are firms that supply those respective condiments to expensive restaurants all over the country. Sounds Fishy To Me is a fine- dining restaurant that serves seafood. Chicken and Pork Concerns is a restaurant that serves poultry products in fine dining. Lastly, Sword and the Shield Health Care is a major health care provider.
Furthermore, the COO has stressed that, given the upcoming business cycle, the board of directors wishes to acquire a business to diversify the corporation’s overall portfolio. They wish to acquire a company as a defense against major losses expected to accompany the nearing recession.
Given the above data, which firm would you recommend that your company acquire? Explain the concept of diversification and the type of merger (horizontal, vertical, conglomerate) that the board of directors is most likely looking for here. What is your reasoning?
As the firm wants to diversify in the times of COVID-19, two scenario's are possible,
1. Company go for acquiring "Sounds fishy to me" which will be a horizontal merger. Because the cross price elasticty of products is +2.2 they are substitute goods. A fall in one good will be compensated by the rise in another good. Thus comapny can hedge its situation by this merger.
Where horizontal merger is merger with the firm within the same industry, thus gaining higher market share together and utilising their synergies and operating at bigger scale.
Also vertical merger is a merger of a firm buying its own supply chain, to reach closer to its customer.
2. A conglomerate is a company dealing in different businesses in different industry under one corporate name. They usually have many subsidaries under a parent name.
Acquisition of "Sword and the shield health care", Acquiring a new company operating in a different industry, where the two industry are not in any sink can also save the industry from falling. As a fall in food industry might be saved by a rise in healthcare industry or vice versa.