3.1 - Business Growth Flashcards
1
Q
Why do firms want to grow?
A
- Larger firms often have easier access to finance
- Growth provides opportunities for product diversification
- Owners/shareholders desire for higher levels of profit
- Desire for stronger market power (monopoly) so as to increase profits
- Desire to reduce costs by benefitting from economies of scale
- Owners/Shareholders/Managers desire to run a large business & continually seek to grow it
2
Q
Why do small firms exist?
A
- They offer a more personalised service & focus on building relationships with their customers
- Rapid growth can cause diseconomies of scale which can be difficult to deal with & so many owners choose to avoid these
- Many small firms operate in mass markets with low barriers to entry
- Owners goal is not profit maximisation but rather an acceptable quality of life (satisficing)
- Unable to access finance for expansion
- They provide a product that is in a niche market - smaller market size but can be very profitable
3
Q
What is divorce of ownership of control?
A
- As firms grow, the owners (or shareholders) often appoint managers to run the business for them - separation (divorce) between the owners and the managers who control the day-to-day running of the business
4
Q
What is the principle agent problem?
A
- The principal-agent problem arises when the interests of a company’s owners (the principals) are not aligned with those of its managers (the agents) who make decisions on their behalf
- This can lead to conflicts of interest, as managers may prioritize their own goals over the objectives of the company’s owners
5
Q
What is the distinction between public and private organisations?
A
- Public sector organisations are owned & controlled by the Government - their goal is not profit maximisation but to provide a service, e.g. corporations like BBC or civil service departments like education
- Private sector organisations are owned & controlled by private individuals (vary from sole traders to partners to company shareholders) - goal is usually profit maximisation -> often causes the private sector to be more efficient than the public sector with higher levels of productivity
6
Q
What is the distcinction between profit and not-for-profit organisations?
A
- Most firms In the private sector exist to make a profit, even if their goal is not profit maximisation
- Exceptions to this are not-for-profit organisations which also operate in the private sector - exist to provide a service or meet a need
- Many sell goods/services & use the profits they generate to further their objectives, e.g. The British Heart Foundation
- The government exempts them from paying direct taxes
7
Q
What are the different types of business growth?
A
- organic growth
- forward and backward vertical integration
- horizontal integration
- conglomerate integration
8
Q
What are different ways of organic growth?
A
- gaining greater market share
- product diversification
- opening a new store
- international expansion
- investing in new technology/production machinery
9
Q
What is the distinction between organic and external growth? Give real-life examples of inorganic!
A
- Organic: growth driven by internal expansion using reinvested profits or loans
- External: growth that occurs as a result of mergers or takeovers e.g. Google bought Youtube for $1.65bn in 2006 or T-mobile merged with orange -> EE - 30mil customers
10
Q
What are the advantages and disadvantages of organic growth? Real-life examples?
A
Advantages:
- The pace of growth is manageable
- Less risky - growth is financed by profits & there is expertise in the industry
- Avoids diseconomies of scale
- Keep ownership and control
Disadvantages:
- Slower growth for directors who wish to maximise salaries - e.g. Basecamp grew to $100mil in revenue per yr in 20yrs
- Not necessarily able to benefit from economies of scale
- Access to finance may be limited
- Lose ownership and control by selling shares/franchises - e.g. Uber’s founder sold too many shares -> owns only 10%
- Difficult for firms to get new ideas
11
Q
What is forward vertical integration? Examples?
A
- Involves a merger or takeover with a firm further forward in the supply chain
E.g. A dairy farmer merges with an ice-cream manufacturer or Ford integrated with its tire manufacturer
12
Q
What is backward vertical integration?
A
- Involves a merger/takeover with a firm further backward in the supply chain
E.g. An ice-cream retailer takes over an ice-cream manufacturer
13
Q
What are the advantages of vertical integration?
A
- Reduced COP as middleman profits are eliminated e.g. delivery costs eliminated when Ford acquired tyre maker
- Greater control over the supply chain reduces risk as access to raw materials is more certain
- Quality of raw materials can be controlled
- Forward integration adds additional profit as the profits from the next stage of production are assimilated
- Forward integration can increase brand visibility
14
Q
What are the disadvantages of vertical integration? Give examples.
A
- Diseconomies of scale occur as costs increase e.g. unnecessary duplication of management roles
- Regulation - OFGEM has prevented electricty producers from integrating with the power grid (causes consumer exploitation)
- Culture clash between the two firms that have merged
- Possibly little expertise in running the new firm results in inefficiencies -> CoOp vertically integrated with farms but productivity fell
- The price paid for the new firm may take a long time to recoup
15
Q
What is horizontal integration?
A
A merger/takeover of a firm in the same stage of production and business area e.g. T-mobile and Orange merged to make EE
16
Q
What are the advantages of horizontal integration?
A
- Rapid increase of market share
- Gain monopoly power
- 2+2=5 output rises exponentially due to increased expertise gained
- Reductions in the cost per unit due to economies of scale
- Reduces competition - wasted money on trying to steal away competitors
- Existing knowledge of the industry means the merger is more likely to be successful
- Rationalisation - when a firm reorganises to cut costs -. cutting out duplicate marketing teams, printers etc
17
Q
What are the disadvantages of horizontal integration? (include real-world examples)
A
- Internal diseconomies of scale may occur as costs increase e.g. unnecessary duplication of
management roles - Job losses - Orange & T-mobile -> 1200 job losses
- Brand dilution - become associated with integrated firm -> worsens brand reputation
- There can be a culture clash between the two firms that have merged
18
Q
What is conglomerate integration?
A
Merger/takeover of firms in entirely different industries e.g. Pepsi and Quaker oats or an ice cream manufacturer buys a clothing compnay
19
Q
What are the advantages of conglomerate integration?
A
- Reduces overall risk of business failure
- Increased size and connections in new industries opens up new opportunities for growth
- Internal EOS -> reduced cost of failure by diversifying
- Allows for growth when current markets are saturated
- Knowledge transfers e.g. when Apple bought Beats
- Increased brand awareness e.g. Tata merged with Starbucks to set up Indian Starbucks
- Parts of the new business may be sold for profit as they are duplicated in other parts of the conglomerate
20
Q
What are the disadvantages of conglomerate integration?
A
- Possible lack of expertise in new products/industries
- Diseconomies of scale can quickly develop - communication and coordination problems e.g. Pepsi & Quaker Oats
- Job losses
- Finance required
- Worker dissatisfaction due to unhappiness at the takeover can reduce productivity
21
Q
What are the reasons for demergers?
A
- Reducing diseconomies of scale: decreasing the size of the firm can reduce the diseconomies & lower the cost/unit which increases the profitability
- Increased business focus: if efforts & resources are scattered across a large number of firms/ industries it can be hard to maintain focus and profitability - narrowing focus can improve profitability
- Increase liquidity & dividend payments: generates extra revenue for the firm in the year they occur - may increase the profit & dividend payments
- Remove loss-making divisions: can be more profitable to remove loss-making divisions & replace them with outsourcing
- Cultural differences: most common reason for failures of mergers - sometimes these differences are irreconcilable & not worth the expense to change
- Comply with the demands of the Competition Commission: sometimes firms are forced to demerge by the competition regulator due to concerns about the high market share they may have, which is considered to be anti-competitive & bad for consumers
22
Q
What are the impacts of demergers on the firm conducting the demerger?
A
- Opportunity for a more narrow focus on the core business
- Removing loss-making portions of the business
- Increased efficiency and lower costs/unit
- Increasing the annual profits for the year that the demerger occurred
- Removing some difficult cultural differences
23
Q
What are the constraints on business growth?
A
- Size of the market: the more niche the market the smaller the number of potential customers. Even large firms face this constraint as they move closer to capturing the domestic market - to increase market size they will have to expand internationally
- Access to finance: small firms find it harder to access loans as they are considered to be more risky than larger firms - interest rates also tend to be higher
- Owner objectives: Many owners desire to grow a business to a point that provides a certain lifestyle or standard of living - and not beyond.
- Regulation: Large firms are often constrained by competition regulation that aims to limit monopoly power + firms that sell demerit goods have growth limited by government policies such as age restrictions, minimum prices & indirect taxes
24
Q
What are the impacts of demergers on employees?
A
- Some workers may lose their jobs
- Reduced friction from cultural differences can help build better team dynamics
- Smaller workforce provides more opportunity for promotion
- Less complication in daily tasks due to more narrow focus
25
What are the impacts of demergers on consumers?
- If successful, better quality products & customer service
- If successful, lower prices due to the firms' new efficiencies
- If unsuccessful, a narrower product range & perhaps worse quality/customer service
26
Moral hazard
Moral hazard occurs when the individual is willing to take risks because the impact of failure will be felt by the owner more than the individual
