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What Is A Conglomerate
A conglomerate is essentially a company that owns other companies doing business in different sectors or markets.
In other words, a conglomerate is a corporation that generally focuses on many different, and potentially unrelated markets, to diversify its business risk.
For example, a conglomerate can own businesses operating in various fields such as the financial sector, consumer goods, electronics, manufacturing, and other sectors.
On the other hand, most corporations tend to focus on their core business and expand business operations in ancillary and related markets.
For example, a company may sell mobile phones and eventually get into other types of electronics like computers, tablets, and others.
During the 1960s, the economic conditions of the time lead to the creation of many conglomerates.
In essence, large companies were able to access capital at low rates of interest to acquire different businesses in unrelated sectors.
The idea was to generate a higher rate of return by using low-cost capital and buying high-profit margin businesses.
However, as many companies become conglomerates, they realized that they were unable to turn the profits as expected due to different challenges they faced.
Eventually, when companies understood that inefficient business management can lead to a significant decline in profitability, they realized that forming a conglomerate does not necessarily equate to quick profits.
What is the meaning of conglomerate?
According to the Corporate Finance Institute, a conglomerate is defined as follows:
A conglomerate is one very large corporation or company, composed of several combined companies, that is formed by either takeovers or mergers.
When you have a conglomerate business, you have a parent corporation that owns all the independent businesses of the conglomerate.
You also have the subsidiaries who are the smaller companies owned by the parent entity who each operate their businesses independently but report to the parent entity.
What is a family conglomerate?
A family conglomerate can mean a few things depending on the context.
Some may use the term “family” to refer to the different companies forming the conglomerate.
In essence, the conglomerate corporation is the “parent” entity and the subsidiaries are businesses part of the “family”.
Family conglomerates can also refer to conglomerate businesses owned by a particular family.
In this case, a conglomerate is a business owned by a well-known family who operates the conglomerate business.
In Asian countries, there are many conglomerates that have been operating quite successfully for many years.
For example, in South Korea, you have companies like LG, Hyundai, and Samsung which are well-known brands operating as conglomerates.
In China, Japan, India, and other Asian countries, you have large conglomerates such as Tata Group, Mitsubishi, Doosan, Jardine Matheson, and others who are thriving as they are well managed and operate in profitable niches.
How Does A Conglomerate Work
In business, we typically use the term “conglomerate” to refer to a very large company that is composed of many smaller and independent companies in various industries.
What’s unique about conglomerates is that the businesses owned by a conglomerate corporation are operated separately and apart from the other businesses owned by the same corporation.
This is different from how many large corporations operate where they leverage their expertise centrally to serve their subsidiaries.
Although conglomerate subsidiaries operate their businesses independently, they must still report their results and business operations to the main parent company.
The conglomerate parent company will have an overall view of how all of its businesses are doing in different industries and markets and can track the overall progress of the business.
How are conglomerates formed?
There are several ways that a company can eventually become a conglomerate over time.
The most common ways conglomerates are formed are through mergers and acquisitions, business expansion, and extension.
The most common way a conglomerate is formed is through M&A where a company purchases other companies operating in different markets or industries.
A company can also organically grow and become a conglomerate simply through expansion.
When a company becomes large enough, it may perform a corporate restructuring to form a parent entity and a subsidiary for each of the businesses it owns.
The best example of this is when Google Inc. was restructured to become Alphabet where Google become a subsidiary within the Alphabet group.
The third way is through extensions where a company extends operations to new sectors.
This was done by Warren Buffett with Berkshire Hathaway as the company was originally a textile business that become a holding company of different businesses that we know of today.
What Are The Advantages And Disadvantages of Conglomerates
What is the benefit or drawback of operating a business as a conglomerate?
The main advantage for corporations to form a conglomerate is to diversify risk.
In essence, a conglomerate business can be composed of several, dozens, or even hundreds of subsidiaries operating in different markets and industries.
If for various reasons one or few of the subsidiary businesses perform poorly, the conglomerate will have many other businesses to rely on to generate a profit.
The conglomerate philosophy is similar to when an investor purchases a portfolio of stocks and investment instruments to diversify risk.
This way, if one stock performs poorly, the are other investment positions in the portfolio that can generate gains to compensate for the loss.
Internal Capital Market
Another advantage of operating a business as a conglomerate is that the parent company has access to an internal market of capital.
In other words, since the subsidiaries are operated independently but all part of the same conglomerate, the parent company can allocate resources and funds from a profitable subsidiary to compensate for the poor performance of another.
In addition, the conglomerate can also leverage excess funds from its subsidiaries to finance the purchase of another business or invest to further grow the conglomerate.
On the other hand, the main disadvantage of operating a business as a conglomerate is a company’s inability to benefit from the economies of scale.
When a company grows to become too large and operates in different industries without being able to streamline processes and develop central methodologies that can benefit all the subsidiaries, the company loses efficiency.
Operating an inefficient business can actually be detrimental to the shareholders and the long-term growth of the company.
Another important drawback to operating a conglomerate is that the entire company can be affected by how the subsidiaries are managed.
It’s important to manage a conglomerate in a proper manner so that the parent entity can diversify its risk.
If the company does not properly evaluate the overall risk exposure resulting from each subsidiary business, it can end up costing the conglomerate a lot more.
Also, if the subsidiary companies are not properly managed, they may operate the business in a way that will unexpectedly result in a cash drain or lead to unbudgeted excess costs.
Another disadvantage of conglomerates is that the parent company may have a harder time managing the different businesses within the group of companies.
On challenge can stem from the fact that the parent company management may not have enough qualifications in a subsidiary business to be able to be efficient and make the right decisions.
On the other hand, subsidiary businesses can start competing with one another and exercise political controls within the conglomerate business which can be detrimental to the overall growth of the business.
Since conglomerates are at risk of having management issues, it will be at the expense of higher management costs and less effective management of the conglomerate.
What Is An Example of Conglomerate
There are many types of conglomerates out there.
To give you a better understanding of what a conglomerate means, let’s look at an example.
A conglomerate is essentially a parent company that owns subsidiaries operating in unrelated sectors and industries.
Here are some major corporations that you may know that are conglomerates:
- Berkshire Hathaway
- Proctor & Gamble
- Johnson & Johnson
- Warner Media
- General Electric
- Walt Disney Company
For instance, Amazon now owns grocery stores, a shoe retailer business, an online bookstore, a business cloud infrastructure, and more.
Although Amazon may own many subsidiaries related to its core business focus, it also owns subsidiaries that operate in completely unrelated sectors.
Another example is Berkshire Hathaway.
As you know, the well famous Warren Buffet started his business by offering investment services and eventually started purchasing entire businesses under the Berkshire Hathaway corporation.
Berkshire owns businesses such as furniture stores, insurance businesses, and other types of companies making it a well know conglomerate.
What Is Conglomerate Takeaways
So there you have it folks!
What is a conglomerate?
What does a conglomerate company mean?
For a company to be considered a conglomerate, you should have a large corporation with a controlling interest in smaller companies.
Very often, conglomerates own businesses in unrelated sectors selling different types of products and services.
The parent company (or the conglomerate) oversees all the businesses within the group and the subsidiaries operate independently from one another but still report to the parent entity.
The main benefit is to diversify business risk allowing the conglomerate to reduce the financial impact of a business segment doing poorly.
On the other hand, the main drawback is that a conglomerate may not be operated as efficiently and smoothly as businesses focusing on a core product or service.
Finding the right balance between business risk diversification and the management of different independently operated business entities is crucial for the overall success of a conglomerate.
Now that you know what is the meaning of conglomerate, its advantages, disadvantages, and how it works, good luck with your research!
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What Is A Conglomerate Overview
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