Business diversification: A how-to guide for SME businesses

How-to

Man holding shipment box full of new products

As a small or medium-sized business owner, you’re well aware that the business landscape is constantly evolving, and being agile and adaptable is key to remaining competitive. Diversification is one way to achieve this flexibility.

Expanding your product or service offerings, entering new markets, and collaborating with other businesses are all potential outcomes of diversifying your business.

And by doing so, you can better weather economic downturns, decrease your reliance on any single revenue stream, and capitalise on new growth opportunities.

This guide delves into the essential benefits of diversification, the most effective diversification strategies for small and medium-sized businesses, and how to finance your diversification efforts.

In addition, we explore real-world examples that demonstrate the effectiveness of diversification in various industries.

Lastly, we offer practical steps to guide you through the successful launch and implementation of your diversification plan.

If you’re determined to grow your business and improve your chances of success, then keep reading.

Three key ways diversification can benefit your business

Business diversification can be a powerful strategy for small and medium-sized businesses looking to strengthen their position in the market.

By expanding into new areas, businesses can reduce their exposure to risk and create a more resilient operation.

Here are the three key benefits that diversification can bring to your business:

1. Reduced risk

One of the biggest benefits of diversification is that it can help to reduce risk.

By diversifying your business into multiple revenue streams, you’re less likely to be impacted by market downturns or the loss of a single client.

This can be especially important during times of economic uncertainty or market downturns, when a single setback could have a significant impact on your business.

By spreading your risk across multiple areas, you can protect yourself from these types of events and ensure that your business remains stable and profitable.

2. Increased resilience

Diversification can make your business more resilient and better able to withstand unexpected events or economic shifts.

By having a diversified portfolio of products, services, and clients, you can adapt more quickly to changes in the market and avoid being caught off guard by sudden shifts in demand.

This can give you a competitive edge over other businesses that are more narrowly focused and less able to respond to change.

3. New growth opportunities

Diversification can open up new markets, customers, and products that can help you grow your business and increase revenue.

By expanding into new areas, you can tap into previously untapped markets and customer segments, and create new opportunities for growth and expansion.

This can be especially important for businesses that are operating in highly competitive or saturated markets, where it can be difficult to differentiate yourself from other players.

By diversifying your offerings, you can stand out from the crowd and attract new customers and clients.


Business diversification

Effective diversification strategies

So, what are the most effective diversification strategies for small and medium-sized businesses?

In this section, we’ll explore a few ideas and step through some practical use cases.

Expanding your product or service line

One of the most straightforward ways to diversify is to expand your product or service line.

For example, a bakery could add a coffee bar, a marketing agency could add web development services, or a construction company could add electrical services.

This strategy is effective because it leverages your existing customer base and expertise to create new revenue streams.

Use case | A retail store that diversified its product line

A retail store that sells home goods, such as lamps, throw pillows, and bedding, decided to diversify its product line by adding clothing and accessories.

The store noticed that many of its customers would frequently comment on the owner’s style, so the owner decided to add a small section of clothing and accessories that complemented the store’s existing aesthetic.

Within a few months, the clothing section had become one of the store’s most profitable revenue streams, and the store was able to attract new customers who were interested in fashion.

Entering new markets

Diversification can also mean expanding into new geographic regions.

For example, a local restaurant could open a second location in a neighbouring suburb or another state.

This strategy is effective because it allows you to reach new customers and take advantage of untapped markets.

Use case | A manufacturing company that expanded into new markets

A manufacturing company that produces industrial equipment for the oil and gas industry decided to diversify by entering new markets.

The company realised that there was a demand for its products in the renewable energy sector, so it began producing equipment for wind and solar energy.

Within a year, the company had secured contracts with several renewable energy companies, which helped to increase revenue and reduce its dependence on the oil and gas industry.

Focusing on niche markets

Another effective diversification strategy is to focus on niche markets that are underserved or have untapped potential.

For example, a bookkeeping firm could specialise in serving freelance writers or musicians.

This strategy is effective because it allows you to establish yourself as an expert in a specific area and build a loyal customer base.

Use case | A recruitment agency that focused on niche markets

A recruitment agency that specialises in matching candidates with jobs in the technology sector decided to focus on niche markets to differentiate itself from its competitors.

The agency established itself as the go-to recruitment firm for startups and small tech companies, which were often underserved by larger recruitment firms.

By focusing on this niche market, the agency was able to establish a reputation as an expert in the technology industry and attract new clients who were looking for specialised expertise.

Collaborating with other businesses

Collaborating with other businesses can also be an effective diversification strategy.

For example, a commercial cleaning company could partner with a pest control company to offer a bundled service package.

This strategy is effective because it allows you to reach new customers and offer more comprehensive services.

Use case | A construction company that collaborated with other businesses

A construction company that specialises in home renovations decided to collaborate with other businesses to offer a comprehensive package of services to its customers.

The company partnered with an interior design firm, a landscaping company, and a home security company to offer a one-stop-shop for home renovations.

This strategy was effective because it allowed the construction company to offer more comprehensive services to its customers, which helped to increase revenue and improve customer satisfaction.

Working capital finance

Financing your diversification efforts

Diversification can require significant upfront investment, which is why it’s important to carefully consider your financing options.

Here are a few ways to finance your diversification effort.:

Working capital

Working capital is the money you have available to fund your day-to-day operations.

You can use working capital to finance your diversification efforts, such as hiring new staff, purchasing new equipment, or investing in marketing.

Traditional financing

Traditional financing options, such as bank loans or lines of credit, can also be used to finance your diversification efforts.

However, these options often require collateral and a strong credit history, which can be challenging for small and medium-sized businesses.

Emerging financing

Emerging financing options, such as crowdfunding or peer-to-peer lending, can also be used to finance your diversification efforts.

These options can be more accessible to small and medium-sized businesses, but they often come with higher interest rates or fees.

Use case | A retail store that used working capital to diversify its product line

A retail store that diversified its product line by adding clothing and accessories used working capital to finance the effort.

The store used some of its existing revenue to purchase inventory and hire additional staff to manage the new section.

The store also invested in marketing to attract new customers and promote the new product line.

Risk management

Are there any potential downsides or risks to be aware of?

Diversification can bring many benefits, but it also carries several risks that should be taken into account.

Loss of focus on core competencies

One major risk of diversifying a business is that it can lead to a loss of focus on core competencies.

When a business begins to diversify its product or service offerings, it may spread itself too thin and lose sight of what it does best.

This can result in a decline in the quality of its core products or services and a loss of customer loyalty.

Expensive and time-consuming

Another risk of diversification is that it can be expensive and time-consuming.

Developing new products or services, entering new markets, and building new distribution channels all require significant investments of time and resources.

If these investments do not pay off, they can drain a company’s finances and distract it from its core business.

Risk to brand image and reputation

Diversification can also be risky in terms of brand image and reputation. If a company enters a new market or industry with a poor reputation or if its new products or services are of poor quality, it can damage the company’s brand and erode customer trust.

Mitigating the risks

To mitigate these risks, businesses should carefully assess their core competencies and ensure that any diversification efforts align with these competencies.

They should also conduct thorough market research to ensure that any new products or services meet customer needs and have the potential to generate revenue.

Additionally, businesses should be prepared to invest the necessary time and resources to successfully execute their diversification plans and should closely monitor the performance of new products or services to ensure that they are meeting expectations.

The outtake

If you’re thinking about expanding your product or service offerings as a business owner, it’s essential to assess the potential advantages and drawbacks.

Diversification can be challenging for a business since it entails operational management of new product lines and understanding new markets or niches.

Fortunately, there are resources available to assist you, such as the International Chamber of Commerce Australia, local business groups, and specialist advisors who can provide insight into how you might diversify.

To mitigate the risks of diversification, you may wish to consult with specialists who can assist you in assessing the feasibility of your new offerings and developing a strategy.

A framework for diversification

How do I go about actually diversifying my business?

To effectively diversify, businesses need to develop a structured approach that aligns with your overall business strategy. Here’s an outline of actions to take in order to help you to tackle diversification with confidence and achieve success.

Here are some best practice steps to help you tackle this.

Establish a framework to support you

To effectively diversify your business, you need a structured approach that aligns with your overall business strategy.

The following framework can help you develop a diversification plan that meets your specific needs and circumstances.

1. Assess your current business model

The first step in developing a diversification plan is to assess your current business model. Analyze your strengths and weaknesses, and identify areas for improvement.

Consider your customers, products, services, distribution channels, and marketing strategy.

This will help you identify potential areas for diversification and ensure that your plan aligns with your overall business strategy.

2. Identify potential markets and products

Next, research potential new markets and products that align with your business strategy.

Consider factors such as market size, growth potential, competition, and consumer demand. Conduct market research, talk to customers, and gather feedback from your team.

This will help you identify new opportunities and develop a plan for how to capitalise on them.

3. Develop a diversification plan

Based on your assessment and market research, develop a diversification plan that aligns with your overall business strategy.

Set clear goals and objectives, and develop a timeline and budget for implementing your plan.

Identify potential risks and develop contingency plans to address them.

Remember to involve your team and stakeholders in the planning process to ensure buy-in and support.

4. Implement and monitor your plan

Once you have a plan in place, it’s time to put it into action.

Start small and test your new products or services in a controlled environment.

Monitor your results and gather feedback from customers, stakeholders, and team members.

Use this feedback to refine and improve your plan as needed.

Takeaway

Diversification is a critical strategy for small and medium-sized businesses. It can bring many benefits, but it’s important to carefully consider the potential risks and challenges before making any changes.

Developing a structured approach that aligns with your overall business strategy is key to successfully diversifying your business.

By taking the time to plan and tackle this thoroughly, you can ensure that diversification is the right move for your business and set yourself up for long-term success.

By expanding your product or service line, entering new markets, focusing on niche markets, or collaborating with other businesses, you can reduce risk, increase resilience, and capitalise on new growth opportunities.

It’s also important to carefully consider your financing options.

With the right strategy and financing, diversification can help your business stay ahead of the curve and achieve long-term success.

Take the next step

If you’re looking to diversify your business and access better funding options to support your growth plans, we can help.

At Fifo Capital we specialise in helping SME and corporate businesses to improve their cash flow and their overall business, using their working capital.

Our team of solutions specialists can help you explore your options and find the best finance to fit your business needs. Contact us now to book an appointment and get started!

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