Backward integration allows businesses to obtain control over suppliers and improve supply chain efficiency. Businesses merge with and acquire their suppliers to gain strategic advantages over competitors and lower costs. In some markets, this may create monopolies and violate antitrust laws. This strategy has many advantages for most businesses, but companies should be aware of potential problems with backward integration.
A form of vertical integration, backward integration has several potential challenges and risks. Companies that are unable to effectively manage their supply chain after acquiring their suppliers may lose profits and produce lower-quality products. The costs of managing the suppliers may not be in the best interests of the business, or the company may not have the best expertise to manufacture products.
Midsized Companies and Backward Integration
For smaller and midsized companies, obtaining affordable products may become more expensive, and the merger may not be worthwhile if economies of scale cannot be created to reduce costs. If a cheaper supplier enters the market, the company owning its own supply chain may no longer be able to take advantage of the new lower prices created in the market by supply and demand. Many midsized companies do not have sufficient capital to invest in their own business and their suppliers. By acquiring suppliers, the business may be at risk of reduced cash flows and weaker operations.
Businesses should carefully consider the risks and benefits of a backward integration strategy as part of their business plan. Midsized businesses may not be ready for the added risk of acquiring suppliers and should be cautious. If, however, controlling suppliers allows for better profit margins and secures the availability of supplies for production, backward integration may be beneficial.