5.1.4 How is vertical integration developed?

First of all, you must be aware that there is not a choice of being fully vertically integrated, or not at all. It is usual to integrate one step of the value chain, then one more step if the conditions are proper.

Obviously you need to assess very carefully what are the context conditions in which your organisation is operating, and those of your direct suppliers and / or clients. What are the problems in continuing to operate like you have been doing, and what would be the advantages of vertical integration to your firm? You need to be sure about the investments required for undertaking that action, and how long it would take to see positive results. Only if you have answers which indicate that vertical integration provides a clear advantage, should you proceed to develop it.

The recent research and literature1 on this matter has stated that vertical integration is no longer a selectable strategy, especially to SMEs. This idea relies mainly on the fact that the technologies of information and communication had reduced the transaction costs between an enterprise and their suppliers and clients quite a bit. Therefore, vertical integration would not lead to a decrease in costs, quite the opposite. That way, what we have been witnessing since the end of the 20th century, is an increase of vertical disintegration of the organisations. Even some alternatives to vertical integration are suggested: franchise agreements, joint ventures, co-location of facilities, collaboration / cooperation, long term partnership or contracts. But as you can see in the example / case study below, vertical integration can be a valuable solution to an enterprise, and the suggested strategies can conclude in intermediate steps to this end.

EXERCISE: Can you discuss now if for your organisation is better off with a vertical integration or with an alternative strategy? Please, present at least three arguments.

1  Gilson, Sabel & Scott, 2009, "Contracting for innovation: vertical disintegration and interfirm collaboration". Gilley & Rashid, 2000, "Making more by doing less: an analysis of outsourcing and its effects on firm performance".