Diversification can be a double edged sword. Know yourself and your capacities to find winning business ideas.
Don’t put all your eggs in one basket. An oft repeated axiom (particularly by me) for farm, woodlot, ranch or any enterprise highly dependent on one revenue stream. Recent painful lessons in what can happen to the highly concentrated abound.
In 2008, lumber and log markets tanked in the wake of the US housing collapse. Meat export markets were frozen after disease outbreaks for beef (BSE), chicken (avian influenza) and pork (swine / Mexican / North American / H1N1 / your name choice here flu). E. coli found in one lot of spinach and sales plummeted across North America.
These examples show clearly that there can be a high degree of risk in relying on a single commodity or market. And losing that market can be fatal to your business. But does diversification always make sense? Is it possible to weaken your business by straying from the core? In short, the answer is a resounding yes.
Diversification does not always lead to success.
One Up on Main Street?
I’m self-employed. And like many other entrepreneurs, I rely on my own resources to fund my potential emergency, disability and retirement needs. This means investing has de facto become one of my hobbies. As such, I do my best to keep up to speed with what’s happening on Wall Street, Bay Street and even Howe Street. Although, admittedly I should be paying more attention to financial districts in Mumbai and Abuja.
Long before Jim Cramer was launching chairs across his set at CNBC (a kinder, gentler Cramer has since stopped this practice) I teethed my self-guided portfolio education on the sage words of Peter Lynch. The highly successful manager of the Fidelity Magellan Fund shared his winning investing strategies with the retail investor in “One Up on Wall Street”. This is one of the best selling financial books of the era.
Lynch’s advice on stock picking included a chapter on “Stocks I’d Avoid”. In that, he coined the phrase, “diworseification” to describe companies that bog themselves down with non-complementary subsidiaries. They often doe this through costly acquisitions that end up draining the organization by moving it away from what it does best.
The same can hold true for small businesses in forestry and agriculture (or any sector).
When Diverse Becomes Worse
Diversification becomes diworseification when the cash flow or profits from your new venture don’t come close to compensating you for what you will lose by taking time and resources away from your main business.
Clearly, diversification can be a double-edged sword. Being overly concentrated entails risk. But so does straying too far from core competencies. There really is no clear way to know before hand. Sorry, the free market never comes with guarantees. But there are some steps you can take to avoid diworseifying and give your new venture the best chance to prosper.
Rules for Smart Diversification
First, do your homework and find your niche. This can be done with ‘bottom-up’ approach of finding someone successfully doing what you are interested in and copying them, or through a top-down approach of studying the trends for “good ideas”, finding a new or under-served market niche that fits with your goals and capacity and building a business plan to capitalize on it.
Second, filter your ideas with your personal interests, strengths, weaknesses and capacity. Follow your heart. The best of ideas will wither and die if you can’t devote the time to develop it into a new venture. And you are most likely to keep at something that interests you, rather than simply jumping on a ‘hot idea’.
Look at your current production constraints, time commitments and resource needs and decide if the new work will complement or clash with it. Understand and be honest about your weaknesses. Some can be over come with education and support, but others may doom your venture. For example, you wouldn’t consider adding a highly service-oriented component to your enterprise such as farm bed and breakfast if you truly don’t interact well with the public.
Don’t Ride Bad Ideas Into the Ground
Finally, don’t ride a bad idea into the ground. Not every business idea or new market entry is going to be a success. No one bats 1000. Part of any good small business strategy should be a formal business plan. This will help you keep focused. And it will also allow you to revisit your diversification venture and see if your expectations are being met.
Pride and an exaggerated sense of determination can become your worst enemy. We all want to stand tall in the face of adversity and no one would be in business if they collapsed at the first road block. But you must remain realistic about the long-term viability of your businesses. And, if the market consistently tells you that you don’t have a winner, it’s time to cut your losses and move on.