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Vertical consolidation is buying resources that are part of the manufacturing process of an organization. For example, a property development company buys a cement company. By doing this it has greater control on one aspect of its manufacturing process.
By buying the cement company, the property development company can expect to make huge cost-savings over a long-term duration. Why would a company do vertical consolidation? When a company feels that is becoming more and more dependent on the resources provided by another company, it plans to kill the dependency by buying the company.
In the future, it would negate risks associated with cost-escalation, demand-supply imbalance, and dependency-profiting. Vertical consolidation becomes such only if the purchase is on the supply chain process of the manufacturing company. It it is not, then it become diversification.
A company may choose to do forward vertical consolidation or backward vertical consolidation. Forward vertical consolidation is buying a company that is at a position on the supply chain with a closer distance to the end-user. For example, a coffee-planter will buy a coffee-processing unit, because the coffee-processing unit is closer to the end user.
Backward vertical consolidation is the opposite of forward vertical consolidation. An example to illustrate this is when a woolen clothes manufacturer decides to buy a sheep farm. The sheep farm is much farther from the end-user, and is typically at the start of the supply chain process. Vertical consolidation is an excellent way of killing competition and giving a company a competitive edge over others.
