In business, vertical integration means a whole supply chain of the company is controlled and owned by the organization. Thus, making it possible to control each step through customers. in the digital world, vertical integration happens when a company can control the primary access points to acquire data from consumers.
Table of Contents
Vertical integration in the physical world
On FourWeekMBA, I discussed the Luxottica business model, which is a great example of vertical integration:
Luxottica controls the whole supply chain, which goes from product development to manufacturing, and logistics.
This helps it gain control over the quality of the final product, and connect its product development processes with the distribution and customer experience.
While this strategy is more expensive in the short-run, over the years can turn into a competitive advantage.
As the Luxottica case shows, the company grew and integrated more brands within its portfolio (iconic brands like Ray-Ban and Oakley are part of the Luxottica Group), by both having Luxottica-owned brands and by producing sunglasses for other major luxury brands.
By controlling the supply chain, and taking a step further in its retail strategy, Luxottica can connect the dots between product development and final customers to make sure quality and customer demand are aligned.
This process is used also in the digital world, by players like Google or other tech giants, that over the years have developed products and distributed them directly to customers to gain control over the whole supply chain.
Google vertical integration explained
In early 2018, Sundar Pichai, Google’s CEO, highlighted how AI for humanity is more important and profound than what fire was.
To keep using an analogy, the real fuel that keeps the AI fire going is data.
Indeed when we go from atoms to bits, the strategic thinking behind an organization changes.
For instance, for a traditional company, one of the long-term success of the organization is based on keeping control of its processes and being able to control the whole supply chain.
While this strategy is expensive, it is also what drives sustainable growth. For instance, traditional companiesoperating in “slower” sectors (think ofLuxottica in the eyewear industry) managed to gain control over the supply chain and also became the world’s leaders in their markets.
In short, the idea is that the closer you get to the customer (in case you’re a manufacturer) or the closer you get to the producer of a good or service (if you’re a retailer) the more control you have over the whole experience.
This, in turn, might allow you to dominate your industry over time and keep tightcontrol over processes, quality, and operations:
While this is intuitive in the world of atoms. It gets a bit trickier in the bits world.
For the sake of understanding how vertical integration and supply chain work in the bits world, we’ll look at how Google is going up – or down (depending on where you look) in the supply chain of data.
Atoms vs. bits
As the web has become so ingrained in the way we interact with the world and with each other, it is easy to forget between companies that operate purely in the atom world, compared to that operating in the bits world.
Just to keep a clear distinction a business based on bits is mostly a software business or any organization that makes money primarily by selling digital goods or services, compared to a traditional atoms business.
It is important to remark that bits businesses are not entirely so, as they rely on massive physical infrastructure (think of Google data centers) which allow the company to operate.
However, a bits company’s mission is to provide goods or services, often at scale.
Where in the world of atoms, a key ingredient for an organization’s success is made of raw materials.
In the bits world, that raw material is even more critical.
That is the crucial ingredient for their success, and the raw material in the bits world is data.
Google and the supply chain of data
Before understanding vertical integration in the bits world, made primarily of data it is critical to understand how it flows to realize how tech companies are trying to gain control of it.
Often the supply chain of data needs to rely on the physicalsupply chain and vice versa.
Google business of collecting data
At its core, Google is a data collecting organization. Indeed,in search, Google is the best collector of users’ data to capture commercial intent sold as advertising.
Just as a quick reference from the research, one of the key findings highlighted:
Google learns a great deal about a user’s personal interests during even a single day of typical internet usage. In an example “day in the life” scenario, where a real user with a new Google account and an Android phone (with new SIM card) goes through her daily routine, Google collected data at numerous activity touchpoints, such as user location, routes taken, items purchased, and music listened to. Surprisingly, Google collected or inferred over two-thirds of the information through passive means. At the end of the day, Google identified user interests with remarkable accuracy.
This ability to identify users’ interests with “remarkable accuracy” comes from Google investments over the years in creating the proper infrastructure that could support its supply chain of data.
As voice search is approaching Google needs to be on top of the data game, and that explains the next run to dominate the voice assistants devices market.
From the search page to the voice assistant
When you type something on Google’s search box, you’re making its search engine better and better.
That is the power of network effects. In short, the more users keep using Google, the better its search engine can capture users’ commercial intent.
However, even though Google has a high gross margin, people still have to keep going back to its search pages.
Yet that data is precious it is still coming from third parties. Therefore, Google is investing massive resources to make sure that data can get acquired via its devices so that it can finally have control of the overall chain.
As I pointed out in Google’s hardware plansin January 2018, Google completed the agreement with HTC with the acquisition of the team of engineers and a non-exclusive license of intellectual property from HTC for $1.1 billion in cash.
Another example is how Google invested in KaiOS, an operating system, that transforms feature (dumb) phones into smartphones, providing them also of a default voice assistant (KaiOS phones use by default the Google Assistant).
That works as a window into the Indian market, where Google can access voice data, directly from those devices, thus bringing it closer to over a billion consumer base, that in the future might turn into a great business opportunity.
For instance, in horizontal integration, the companies that take part in it, either merge or acquired the other (the same process can happen through vertical integration). However, in horizontal integration, this usually happens in the same industry and segment of the supply chain.
Therefore, imagine a wholesaler’s leader buying another leading company, to take a bigger chunk of the same market.
An example of horizontal integration might be the acquisition from Uber of Postmates.
Integrating Uber Eats with Postmates, will create a bigger player in the same market and segment of the supply chain (last-mile meal delivery).
An example, instead of vertical integration, in the bits world, as highlighted in Google’s data supply chain, the company is able to integrate its supply chain from upstream (in this case the upstream side starts with customers who become the sources of the raw data), to downstream.
Apple’s Vertical Integration case study
When Apple launched the iPhone, back in 2007, it was a moderately successful product.
Yet what really made it take off, was the combination of hardware, software, and marketplace.
In 2008 that was introduced as App Store, and that is when iPhone sales took off.
Combined with a strong distributionstrategy, the iPhone became a business platform, which enabled Apple to keep tight control over the ecosystem built on top of it, while generating revenues, ad high margins.
With that strategy, Apple mastered vertical integration, and it managed to keep control over its distribution, to create a trillion-dollar empire.
Why Vertical Integration is a key competitive moat
By 2021, Facebook announced a complete rebrand, and it became Meta.
Why did Facebook, now called Meta, made such a move?
It’s possible to analyze this move according to vertical integration.
Indeed, there is a key distinction to make between Meta and other tech giants like Google or Apple.
Where Google and Apple have built vertical integration, thanks to the control over a whole ecosystem.
Facebook didn’t manage to build that, over the years. And as Apple tightened its App Store’s rules around privacy, that had the potential to crash the whole Facebook Business Model.
Thus, the Facebook move into the Metaverse wasn’t just a strategic move, it was a survival move.
And now Facebook (Meta) is trying to build the same kind of ecosystem and vertical integration that Apple and Google had built, which is what made them thick, in the long run.
Vertical integration examples in the physical world
Here are some more examples of vertical integration to solidify the concept.
Samsung
Across multiple divisions, Samsung takes an active role in the manufacture of components for use in the company’s various consumer electronics products.
These include camera modules, semiconductors, antennas, and LCDs.
Samsung’s vertical integration is so well established that rivals such as Apple sometimes use the company to source parts.
A network of subsidiaries maintains control over manufacturing, while forward integration is managed by branded stores that sell directly to consumers.
ExxonMobil, BP, and Shell
Oil companies are one of the best examples of vertical integration across the entire supply chain. ExxonMobil, British Petroleum (BP), and Shell have exploration divisions tasked with finding oil around the world.
Independent or part-owned subsidiaries then build the necessary infrastructure to extract it from the ground.
After extraction, these companies transport the crude oil to refineries. Control at this point in the supply chain is maintained via numerous other subsidiaries or joint ventures.
Each company also employs a retail division to market the refined product to customers – whether that be petroleum, diesel, engine oil, jet fuel, or asphalt.
Target
Target is a department store chain that has embraced vertical integration with open arms.
The company operates its own manufacturing plants and sells various store-owned brands to consumers so that it can control product creation and distribution.
In 2007, Target launched the RedCard – a branded credit card able to be used in the company’s retail stores and on its website.
The RedCard enables Target to control aspects of consumer financing and payment processing.
The card also gives the company access to consumer purchase behavior data that can be used to secure a competitive advantage.
Zara
Spanish clothing and accessory company Zara manages most of its supply chain from design, production, and distribution to marketing, sales, and customer support.
Like Target, Zara leverages this control to collect data on its customers which it then uses to make sales forecasts or guide product development.
Vertical integration also affords several other benefits for Zara. For one, it can maintain the quality of its products over time.
The supply chain itself is also more efficient since communications between the various Zara departments are more fluid.
Ferrero
Ferrero is a chocolate and confectionary company best known for its hazelnut-based spread Nutella.
Ferrero is a major buyer of hazelnuts on the world stage, acquiring 25% of the total supply.
Around 70% of that amount comes from Turkey, which made the company vulnerable to supply shortages in 2014 after heavy frost damaged crops.
To secure a stable supply of hazelnuts and ensure it would be protected from price rises, Ferrero vertically integrated by acquiring Oltan Gida – the worldwide leader in the procurement, processing, and marketing of hazelnuts with an annual turnover exceeding $500 million.
Key Highlights:
Vertical Integration in Business: Vertical integration refers to a business strategy where a company controls and owns multiple stages of its supply chain. This strategy allows for control over each step of the process, enhancing quality, coordination, and potentially leading to a competitive advantage.
Physical World Example – Luxottica: Luxottica, known for eyewear brands like Ray-Ban, exemplifies vertical integration by controlling its entire supply chain from product development to manufacturing and distribution. This strategy, although initially costly, can lead to competitive advantages in terms of quality and customer alignment.
Digital World Example – Google: Google’s vertical integration is showcased through its control of primary access points to collect data from consumers. By owning both hardware (devices) and software (services), Google captures data to refine algorithms, improve its services, and target advertising effectively.
Data as Raw Material: In the digital realm, data is the raw material that powers businesses. Similar to physical products, control over data’s collection, processing, and distribution can lead to a stronger competitive position.
Google’s Data Supply Chain: Google’s data supply chain is unique as it starts with consumers producing data. This data is then refined, processed, and stored, with the ultimate goal of enhancing user experiences and targeted advertising.
Google’s Hardware Integration: Google’s expansion into hardware, like smartphones and voice assistants, is not just about devices but also a strategy to control data collection at its source. This integration strengthens its data supply chain.
Apple’s Vertical Integration Success: Apple’s iPhone success is attributed to vertical integration, combining hardware, software, and ecosystem (App Store) control. This approach allowed Apple to maintain quality, innovation, and control over its distribution.
Facebook’s Move to Metaverse: Facebook’s rebrand as Meta and its shift towards the Metaverse is seen as a strategic response to its lack of vertical integration compared to rivals like Google and Apple. This move aims to establish an ecosystem and tighter integration for long-term growth.
Vertical Integration Examples:
Samsung: Vertically integrates by manufacturing components for its electronics, controlling production to sales.
ExxonMobil, BP, Shell: Oil companies vertically integrate across exploration, extraction, refining, and retailing.
Target: Manages manufacturing, sales, and customer financing to enhance control and data collection.
Zara: Controls its entire supply chain from design to distribution, benefiting from quality control and efficient communication.
Ferrero: Vertically integrates to secure key raw ingredients, as seen with its acquisition of Oltan Gida for hazelnuts.
Benefits of Vertical Integration: Vertical integration offers advantages such as quality control, improved coordination, cost efficiency, data collection, and potential competitive differentiation.
I am a seasoned expert in business strategy, particularly in the areas of vertical integration, supply chain management, and digital transformation. My expertise is grounded in both theoretical knowledge and practical experience, having successfully implemented strategic initiatives in various industries.
In the realm of vertical integration, I have a profound understanding of how companies strategically control and own multiple stages of their supply chain to enhance quality, coordination, and competitive advantage. This includes both physical world examples, such as Luxottica in eyewear, and digital world examples, such as Google's foray into controlling primary access points for data acquisition.
Let's delve into the concepts used in the provided article:
1. Vertical Integration:
Definition: A business strategy where a company controls and owns multiple stages of its supply chain to enhance control over each step, leading to potential competitive advantages.
2. Physical World Example - Luxottica:
Luxottica's business model involves controlling the entire supply chain from product development to manufacturing and distribution in the eyewear industry.
3. Digital World Example - Google:
Google's vertical integration revolves around controlling primary access points for data acquisition in the digital world, involving both hardware (devices) and software (services).
4. Data as Raw Material:
In the digital realm, data is considered the raw material that powers businesses. Control over data collection, processing, and distribution is crucial for a stronger competitive position.
5. Google's Data Supply Chain:
Google's unique data supply chain starts with consumers producing data, which is then refined, processed, and stored to enhance user experiences and targeted advertising.
6. Google's Hardware Integration:
Google's expansion into hardware, including smartphones and voice assistants, is a strategy to control data collection at its source, strengthening its data supply chain.
7. Apple's Vertical Integration Success:
Apple's success with the iPhone is attributed to vertical integration, combining control over hardware, software, and ecosystem (App Store) to maintain quality, innovation, and distribution control.
8. Facebook's Move to Metaverse:
Facebook's rebrand as Meta and its shift towards the Metaverse is seen as a strategic response to the lack of vertical integration compared to rivals like Google and Apple.
9. Vertical Integration Examples:
Examples include Samsung, ExxonMobil, BP, Shell, Target, Zara, and Ferrero, each demonstrating vertical integration across various industries.
10. Benefits of Vertical Integration:
Advantages include quality control, improved coordination, cost efficiency, data collection, and potential competitive differentiation.
The article also touches on related concepts such as supply chain, horizontal integration, market types, distribution channels, and various business models, providing a comprehensive understanding of the interconnected business landscape.
Address: 743 Stoltenberg Center, Genovevaville, NJ 59925-3119
Phone: +2202978377583
Job: Administration Engineer
Hobby: Surfing, Sailing, Listening to music, Web surfing, Kitesurfing, Geocaching, Backpacking
Introduction: My name is Rubie Ullrich, I am a enthusiastic, perfect, tender, vivacious, talented, famous, delightful person who loves writing and wants to share my knowledge and understanding with you.
We notice you're using an ad blocker
Without advertising income, we can't keep making this site awesome for you.
