Reviewed by Annapoorna | Updated on Aug 16, 2023
Introduction to Backward Integration
Backward integration refers to a form of vertical integration in which a company expands its role to accomplish tasks that were previously completed by companies up the supply chain. Simply put, backward integration is when a company purchases another company which supplies the products or services required for its production.
For instance, a company might buy inventory or raw materials from its supplier. Companies often complete backward integration by purchasing or combining with these undertakings. Still, they may also set up their subsidiary to perform the task.
Backward Integration Explained
Backward integration is a strategy that takes advantage of vertical integration to increase efficiency. Vertical integration is when a company expands across multiple supply chain segments to control a portion, or all, of its production process.
Companies use convergence as a way of taking over a portion of the supply chain of the business. A supply chain is the network of individuals, organisations, services, activities, and technology involved in manufacturing and selling a product. The supply chain starts with the distribution of raw materials to a producer and finishes with the selling of a finished product to an end consumer.
Vertical integration may lead a company to monitor its distributors who ship their product. It can help the retail locations that sell their product, or their inventory suppliers and raw materials in the event of backward integration. In short, backward integration happens when a company initiates vertical integration by going backwards in the supply chain of its business.
A backward integration example could be a bakery that buys a wheat processor or a wheat farm. In this case, one of the suppliers is acquired by a retail supplier, thereby cutting the middleman out, and hindering rivalry.
Pros and Cons of Backward Integration
Industries are seeking backward integration as it is supposed to lead to higher productivity and cost savings. Backward integration will reduce freight costs, increase profit margins, and make the business more competitive. Prices can be substantially regulated, ranging from production till the final delivery.
Backward integration can be capital-intensive, which means buying a part of the supply chain will often require large sums of money. If a company needs to purchase a manufacturer or a manufacturing plant, it may need to take on significant amounts of debt to achieve backward integration.
Comparison with the Forward Integration
Forward integration is also a form of vertical integration, involving purchasing or controlling distributors of a product. Backward integration consists of buying part of the supply chain that takes place before the manufacturing phase of the product. In contrast, forward integration involves the purchase part of the process that takes place after the manufacturing activity of the company in the supply chain.
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CONTENTS
- Introduction to Backward Integration
- Backward Integration Explained
- Pros and Cons of Backward Integration
- Comparison with the Forward Integration
As an expert in business strategy and vertical integration, my extensive experience allows me to provide a comprehensive understanding of the concepts presented in the article. Vertical integration, particularly backward integration, is a strategic move that companies often employ to enhance efficiency and control over their supply chains. Let's delve into the key concepts used in the article.
Vertical Integration:
Definition: Vertical integration refers to a strategy where a company extends its influence and control over various stages of the supply chain, either upstream (backward integration) or downstream (forward integration).
Backward Integration:
Definition: Backward integration is a specific form of vertical integration wherein a company expands its operations to encompass tasks that were previously handled by entities up the supply chain. It often involves acquiring or merging with suppliers to gain control over raw materials or other essential components.
Supply Chain:
Definition: A supply chain is a network that comprises individuals, organizations, services, activities, and technology involved in the production and distribution of a product. It starts with the distribution of raw materials and concludes with the delivery of the finished product to the end consumer.
Example of Backward Integration:
Illustration: In the context of the article, a bakery purchasing a wheat processor or a wheat farm exemplifies backward integration. By acquiring a supplier, the bakery reduces reliance on intermediaries, enhancing control over the wheat supply chain and potentially mitigating competition.
Pros and Cons of Backward Integration:
Pros:
- Higher Productivity: Backward integration is expected to lead to increased efficiency and productivity.
- Cost Savings: It can result in reduced freight costs and increased profit margins.
- Competitive Advantage: Businesses can become more competitive by having greater control over their supply chain.
- Regulated Prices: Control over the entire supply chain allows for substantial regulation of prices from production to final delivery.
Cons:
- Capital-Intensive: Implementing backward integration can be capital-intensive, requiring substantial financial investment.
- Debt Burden: Companies may need to take on significant debt, especially when acquiring manufacturers or manufacturing plants.
Comparison with Forward Integration:
Forward Integration:
Definition: Forward integration is another form of vertical integration where a company acquires or controls distributors of its products. Unlike backward integration, it involves processes that occur after the manufacturing phase in the supply chain.
Differentiation: While backward integration involves activities before manufacturing, forward integration deals with processes occurring after manufacturing, such as distribution and retail.
In conclusion, understanding the dynamics of backward integration, its advantages, disadvantages, and the comparison with forward integration is crucial for businesses seeking to optimize their supply chain management and gain a competitive edge in the market. The strategic decision to integrate vertically requires careful consideration of industry dynamics, financial implications, and long-term business objectives.
