Definition: Forward integration is a type of vertical integration that extends to the next levels of the supply chain, aiming to lower production costs and increase the efficiency of the firm. In other words, it’s a business strategy where a firm replaces third party distribution or supply channels with its own in an effect to consolidate operations, reduce costs, and become a step closer to the end consumer.
What Doe Forward Integration Mean?
Unlike the backward integration, which extends to the previous levels of the supply chain, the forward integration is a mechanism for sustaining a firm’s profit while avoiding leakage of profits to intermediaries.
For instance, a firm that imports oranges and sells them as a retailer can acquire a retail store to distribute its products. The positive outcome of this integration is higher operating margins due to increased sales as a result of the firm’s access to more distribution channels. Furthermore, the firm adopts more flexible production processes, thereby increasing its market share and gaining a competitive advantage.
Let’s look at an example.
The implementation of forward integration with suppliers may be a strategic choice to address decreasing delegation to third parties. Through FI suppliers assume the entire product value chain of customer activities, thus facilitating expansion into foreign markets through an expanded customer base and the development of specific contracts of supply.
For example, a firm acquires one of its distributors. FI allows the firm to gain control over the distribution processes without intermediaries. Furthermore, the firm can control its in-house distribution, wholesale operations, and online business. In the long-term, the firm controls both the manufacturing and the distribution processes. Therefore, it can operate as a monopoly and dominate the market through the control of both raw materials and finished product.
Higher growth potential and greater control over distribution are the key benefits of forward integration. By eliminating third parties, the firm gains ownership of the distribution processes, thereby having an increased control over the flow of its products. Eventually, the firm can increase its potential markup and customer value.