Entry, exit, and the potential for resource redeployment

Research summary: Combining the concept of resource relatedness with the economic notion of sunk costs, we assess how the potential for resource redeployment affects market entry and exit by multi‐business firms. If the performance of a new business falls below expectations, a diversified firm may be able to redeploy its resources back into related businesses. In effect, relatedness reduces the sunk costs associated with a new business, which facilitates exit. This, in turn, has implications for entry: By decreasing the cost of failure, the potential for redeployment justifies the undertaking of riskier entries and greater experimentation. These dynamic benefits of relatedness are distinct from standard notions of “synergy.” To show support for this idea, we provide a mathematical model, descriptive data, and company examples. Managerial summary: The ability to redeploy resources inside the firm reduces the cost of entry “mistakes.” If a new business turns out to have poor profitability, the ability to redeploy more of its resources back into the firm's other businesses allows recycling of investment and can speed up the retreat. This reduces not only the cost of exit, but also the cost of entry. Managers should therefore be more willing to experiment and take risks in developing businesses that are more related to the firm's existing businesses, whereas if redeployment is likely to be difficult, managers should be cautious about entering. New businesses should be chosen in ways that facilitate redeployment, and managers should consider the implications of redeployment when setting the performance thresholds that justify entry and exit. Copyright © 2016 John Wiley & Sons, Ltd.