Harvard Case - Arauco (A): Forward Integration or Horizontal Expansion?
"Arauco (A): Forward Integration or Horizontal Expansion?" Harvard business case study is written by Ramon Casadesus-Masanell, Jorge Tarzijan, Jordan Mitchell. It deals with the challenges in the field of Strategy. The case study is 34 page(s) long and it was first published on : Feb 15, 2005
At Fern Fort University, we recommend that Arauco pursue a strategy of horizontal expansion, focusing on acquiring or establishing new businesses within the wood products industry, particularly in the value-added, engineered wood products segment. This strategy leverages Arauco's existing strengths in forestry, manufacturing, and global reach, while allowing them to capitalize on the growing demand for sustainable and high-performance building materials.
2. Background
Arauco, a Chilean forestry and wood products company, faces a strategic crossroads. With a strong position in the global pulp and paper market, the company must decide between forward integration into downstream activities like construction or furniture manufacturing, or horizontal expansion into new wood product segments. The case study highlights the company's impressive growth trajectory, fueled by its vertical integration model, its commitment to environmental sustainability, and its global reach. However, the company faces challenges like increasing competition, fluctuating raw material prices, and evolving consumer preferences.
The main protagonists of the case study are:
- Mat'as Domeyko, CEO of Arauco, who must navigate these strategic choices and guide the company's future direction.
- Arauco's Board of Directors, who must evaluate the proposed strategic options and provide guidance to management.
- Arauco's management team, who must develop and implement the chosen strategy.
3. Analysis of the Case Study
To analyze Arauco's strategic options, we employed several frameworks:
1. Porter's Five Forces:
- Threat of New Entrants: Moderate, due to high capital investment requirements and access to raw materials.
- Bargaining Power of Buyers: Moderate, with large buyers like construction companies having some leverage.
- Bargaining Power of Suppliers: Moderate, with potential for price fluctuations in raw materials.
- Threat of Substitutes: Moderate, with alternative building materials like steel and concrete.
- Rivalry Among Existing Competitors: High, with several established players in the global wood products market.
2. SWOT Analysis:
Strengths:
- Vertical Integration: Strong control over the entire value chain, from forestry to manufacturing.
- Global Reach: Extensive operations in South America, North America, and Europe.
- Environmental Sustainability: Strong commitment to responsible forest management practices.
- Strong Brand Reputation: Recognized for quality and reliability.
Weaknesses:
- Exposure to Commodity Prices: Vulnerable to fluctuations in pulp and paper prices.
- Limited Value-Added Products: Focus on basic wood products leaves room for growth in higher-margin segments.
- Potential for Bureaucracy: Vertical integration can lead to inefficiencies and slow decision-making.
Opportunities:
- Growing Demand for Engineered Wood Products: Increasing use of sustainable and high-performance building materials.
- Emerging Markets: Expanding into new markets like Asia and Africa.
- Digital Transformation: Utilizing technology to improve efficiency, optimize operations, and enhance customer experience.
Threats:
- Increased Competition: Growing number of players in the wood products market.
- Regulatory Changes: Potential for stricter environmental regulations.
- Economic Volatility: Global economic downturns can impact demand for wood products.
3. Value Chain Analysis:
Arauco's value chain is characterized by its strong vertical integration, allowing the company to control key stages of the process, from forestry to manufacturing. However, the company can enhance its value proposition by expanding into value-added products, leveraging its existing strengths in manufacturing processes, technology, and sustainability.
4. Resource-Based View:
Arauco possesses valuable resources, including its extensive forestlands, skilled workforce, and advanced manufacturing capabilities. These resources provide a competitive advantage, but the company must continuously invest in innovation and technology to maintain its edge.
5. Strategic Groups:
Arauco competes within the broader wood products industry, but it can differentiate itself by focusing on specific strategic groups, such as value-added engineered wood products, where it can leverage its existing capabilities and market position.
4. Recommendations
Arauco should pursue a horizontal expansion strategy focused on the value-added engineered wood products segment. This strategy offers several advantages:
- Capitalizes on Existing Strengths: Leverages Arauco's expertise in forestry, manufacturing, and global reach.
- Higher Margins: Value-added products command higher prices and offer greater profitability.
- Growth Potential: The market for engineered wood products is growing rapidly, driven by sustainability concerns and demand for high-performance building materials.
- Diversification: Reduces reliance on commodity markets and provides greater stability.
Specific Recommendations:
- Strategic Acquisitions: Identify and acquire companies specializing in engineered wood products, such as laminated veneer lumber (LVL), cross-laminated timber (CLT), or engineered wood flooring.
- Greenfield Investments: Establish new facilities for manufacturing engineered wood products in strategic locations with access to raw materials and markets.
- Product Development: Invest in research and development to create innovative and high-performance engineered wood products.
- Marketing and Branding: Develop a strong brand identity for Arauco's engineered wood products, emphasizing sustainability, quality, and performance.
- Strategic Alliances: Partner with construction companies, architects, and designers to promote the use of engineered wood products in building projects.
5. Basis of Recommendations
This recommendation aligns with Arauco's core competencies and mission, focusing on sustainable and innovative wood products. It addresses the needs of external customers seeking high-performance and environmentally friendly building materials and internal clients seeking growth opportunities. It also considers competitors in the engineered wood products market, offering a differentiated value proposition based on Arauco's strong brand and manufacturing capabilities.
The attractiveness of this strategy is supported by:
- Growing market demand: The global market for engineered wood products is expected to grow significantly in the coming years.
- Higher margins: Value-added products command higher prices, increasing profitability.
- Diversification: Reduces reliance on commodity markets, providing greater stability.
The recommendation also considers key assumptions, such as the continued growth of the engineered wood products market, the availability of suitable acquisition targets, and the ability to successfully integrate new businesses.
6. Conclusion
Arauco has a strong foundation for success in the wood products industry. By pursuing a strategy of horizontal expansion into the value-added engineered wood products segment, the company can leverage its existing strengths, capitalize on market growth opportunities, and create sustainable long-term value.
7. Discussion
Alternative strategies include:
- Forward Integration: Entering downstream activities like construction or furniture manufacturing. However, this option would require significant investment, potentially diverting resources from core competencies.
- Market Penetration: Increasing market share in existing product segments. This approach is less ambitious and may not provide sufficient growth potential.
Risks associated with the recommended strategy include:
- Integration Challenges: Successfully integrating acquired or newly established businesses.
- Competition: Increased competition from existing players in the engineered wood products market.
- Regulatory Changes: Potential for stricter environmental regulations impacting the wood products industry.
Key assumptions include:
- Continued growth of the engineered wood products market.
- Availability of suitable acquisition targets.
- Successful integration of new businesses.
8. Next Steps
To implement the recommended strategy, Arauco should take the following steps:
- Develop a detailed strategic plan: Define specific objectives, target markets, and acquisition criteria.
- Conduct due diligence: Thoroughly evaluate potential acquisition targets.
- Secure financing: Obtain the necessary resources for acquisitions and investments.
- Build internal capabilities: Develop expertise in engineered wood products manufacturing and marketing.
- Establish partnerships: Collaborate with key stakeholders in the construction industry.
This timeline should be flexible and adapted based on market conditions and the availability of opportunities. Arauco's commitment to strategic leadership, change management, and organizational culture will be crucial to successfully implementing this ambitious strategy and achieving sustainable growth.
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Case Description
Celulosa Arauco is a major Chilean producer of market pulp and wood products. Owning over 1.2 million hectares of forest in Chile, Argentina, and Uruguay, the company's key advantage is the ideal growing conditions in which the company's forests are located. As of early 2004, Arauco is the third largest producer of market pulp (pulp sold on the open market) and is considering increasing its capacity, tying it with Brazilian competitor Aracruz as the world's largest producer. The first phase of the project has been approved by the board of directors and includes a sawmill, plywood mill, and energy complex valued at $120 million. Now, Alejandro Perez, Arauco's president and CEO, is seeking approval for the second phase of the project, which would include the company's sixth market pulp plant at a cost of $1.2 billion. Perez's concerns about the volatility of market prices for the past three years led the company to diversify into wood products like panels, medium-density fiberboard, and other remanufactured wood products. These divisions are highly successful and currently account for approximately 50% of Arauco's revenues. Perez is debating whether the company and its shareholders would be better served by a forward integration into the paper business instead of increasing the company's capacity in market pulp.
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