Vertical Integration

  • W. Stewart Howe


Vertical integration as a business strategy involves a firm in undertaking two or more successive stages in the process of converting raw materials into finished goods in the hands of the ultimate consumer. By this means two or more successive technologically distinct production or distribution processes are carried out by a single enterprise. We noted in Chapter 4 (see Table 4.1, p. 55) and in Chapter 7 that vertical integration constituted a significant potential growth path for the firm. In addition to the prospect of growth that vertical integration offers, there is a range of further advantages that may be gained from the adoption of this strategy. In this chapter we shall analyse the nature of these possible advantages, consider the potential strategic drawbacks of such a policy, and examine how management can arrive at an optimal strategy in this area.


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    In the case of clutch mechanisms motor car manufacturers fairly early abandoned production of their own requirements, relying on specialist suppliers such as Automotive Products, which now dominates the UK market. Economies of scale in clutch production and assembly appear to be such that there are considerable cost savings for a large specialist supplier operating at a scale of output far beyond that required to meet the needs of a single motor car assembly firm. See Monopolies Commission, Clutch Mechanisms for Road Vehicles (London: HMSO, 1968, HCP 32).Google Scholar
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    Hayes and Abernathy suggest that backward integration, too, leads to an inflexible commitment to in-house sources of supply and hence also to a manufacturing as opposed to a marketing orientation on the part of the firm. These problems of integration must again be greater when markets or technologies are changing rapidly, and when it will pay the firm to ‘stay loose’. See R. H. Hayes and W. J. Abernathy, ‘Managing Our Way to Economic Decline’, Harvard Business Review, July–August 1980, pp. 72–3.Google Scholar
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    See Buzzell, ‘Is Vertical Integration Profitable?’, pp. 96–7.Google Scholar
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    Return on investment is the product of the sales margin and the capital turnover ratio. That is, (profit/sales) × (sales/capital) = profit/capital.Google Scholar
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    J. T. Vesey, ‘Vertical Integration: Its Effect on Business Performance’, Managerial Planning, May–June 1978, p. 12.Google Scholar

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© W. Stewart Howe 1986

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  • W. Stewart Howe

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