3.1 Business Growth

Question 1

0

Why do some firms grow

Answer 1

• More sales & profit
• More monopoly power –> ↑P’s & ↑ profit
• Help a firm diversify and enjoy risk- bearing economies (If 1 product fails, others may be successful)
• Help firms exploit E.O.S (gain a competitive advanatge)
• To meet objectives such as gaining market share or ↑ shareholder value (profit max.)

Question 2

Why do some firms remain small

Answer 2

• Some firms lack the finance to expand
• Regulations can prevent firms from growing too big (concerns over consumer exploitation)
• Some firms are in a niche market with little scope for growth + others might need to stay small to offer a personalised service
• Firms might be worried about diseconomies of scale e.g. alienation, bureacracy, communication
• Objective isnt profit max. but profit satisficing and owner of firm concentrating on other factors e.g. leisure time

Question 3

2 reasons why there may be so many small firms in the UK because of the
advantages they have over larger firms + EV

Answer 3

• Smaller business are able to make innovative changes more quickly and easily, because, in smaller firms, the key decision makers are in closer contact with the consumer / market, and there tend to be fewer levels through which communication has to pass (which can lead to slower decision-making), and fewer rules and regulations, (which can stifle change), making faster response to changes in the market possible.
• Smaller firms can be more efficient because, with fewer employees, fewer rules and regulations, as well as less supervision and checks are required in order to coordinate and control activities and ensure everyone is working towards a common goal, which can increase costs considerably in larger businesses.

EV:
* The extent to which small firms are able to innovate more easily, depends on the operational culture of the firm. If the smaller firm’s market research and product development is not especially market orientated or consumer sensitive, then it may not be able to take up innovative opportunities arising from changes in the marketplace.
* The extent to which a small firm is able to benefit from greater efficiency depends on the extent to which they are able to execute the advantages available. It is possible that a small firm with fewer employees has the opportunity to make the efficiency gains referred to, but in practice fails to achieve this level of efficiency due to a lack of experience or capability in the leadership of the firm.

Question 4

Divorce of ownership and control

Ownership and control in modern industrial economies

Answer 4

• Modern industrial economies: LICs have developed= ↑ S.O.L and ↑ levels of GDP/capita. Many businesses= publically and privately owned
• Small businesses are often owned and run by one person or a small group of people. This might include sole traders, partnerships and private limited companies
• As firms ↑ in size they often float on the stock exchange and become public limited companies. These are owned by shareholders who do not control the business on a day to day basis
• The government also own a no. of businesses where responsibility is delegated = owners and managers are different

Question 5

What is the divorce of ownership from control

Answer 5

• Shareholders (the owners of a business)–> maximise profits
• Managers/CEOs, who control the business, might be self-interested and maximise their own personal benefits e.g. increase job enjoyment, increase their own pay and fringe benefits etc. + sales/revenue max.

Question 6

What is the principal- agent problem

Answer 6

Where there is a difficulty in getting one party, the manager or director, to work in the best interests of the principal party, the shareholders
Conflict of interest between the principal (shareholder) and the agent (CEOs/directors/managers)

Question 7

Explain the principal- agent problem

Answer 7

The agent or manager will try to look after their own interests: Have to achieve a level of profits that are satisfactory to the owners of the business
This allows them to focus on their own interests e.g.
* Growth of the business in order to achieve greater self-esteem and better pay/conditions
* Substituting leisure for work time
Therefore, the managers might start to pursue their own agenda that benefits them but not the owners

Question 8

Why is there assymetric infomation between the shareholders (principal) and the managers (agent)

Answer 8

As the manager is in control it is very difficult for the owners to have as great an insight into the running of the business. Information is power and managers/directors often have more information than owners

Question 9

Principal- agent problem

Define moral hazard

Answer 9

Moral hazard occurs when the individual is willing to take risks because the impact of failure will be felt more by the owner than by the individual

Question 10

How can the principal-agent problem lead to moral hazard

Answer 10

• Failure of the business–> bankruptcy
• Failure for the individual–> lose their job
• If the individual is successful the rewards can be substantial e.g. in terms of bonuses. The owners of the business are also likely to benefit (recieve larger dividends)
• The individual can cover up any inappropriate activity because the owners are not aware of the situation due to asymmetric infomation

Question 11

Significance for the conduct and performance of firms

Answer 11

Owners will have control mechanisms in place so that they can check on the performance of the firm leading to checks on management, who will be under intense pressure to deliver good results on a consistent basis

Question 12

What is the Annual General Meeting (AGM)

Answer 12

The AGM is a forum that allows shareholders to question the board of directors and vote on whether individuals should remain on the board

Question 13

Role of the financial media

Answer 13

The financial media closely follow the performance of firms and share brokers provide ratings as to whether investors should buy, sell or hold the shares in these firms

Question 14

Difference between private sector and public sector

Answer 14

Public sector- owned and controlled by the govt e.g. state education, NHS, BBC
Private sector- owned and controlled by private individuals e.g. sole traders/ partnerships, private limited companies, public limited companies

Question 15

Define unlimited liability

Answer 15

They are personally responsible for all debts run up by the business. Therefore, their home and all of their assets might be used to pay off any debts that they may incur and are unable to pay.

Question 16

What is the limited liability partnerships (LLPs)

Answer 16

A form of partnership that do not have unlimited liability but they carry other disadvantages such as greater administration placed on the firm.

Question 17

What are limited companies

Answer 17

Limited companies exist in their own right. The owners and the company are separate legal entities. Therefore, the company’s finances are separate from the owner’s personal finances.
Shareholders are the owners of limited companies. They have limited liability: they can only lose the money that they have invested in the business in the form of shares.

Question 18

Public Limited companies (Plc)

Answer 18

• Plc –> publicly quoted: shares are freely transferable and anyone can buy them.
• They face greater public scrutiny and are open to hostile takeovers, if anyone can obtain 51% of shares in the company.
• A Plc can raise substantial amounts of finance through investors in order to help meet corporate objectives e.g. growth.
• They face strict regulatory controls from government.

Question 19

Define organic growth

Answer 19

Occurs when a business expands in size e.g. opening new branches or new product development

Question 20

Advantages of organic growth

Answer 20

• Less risky
  Avoids conflicts
  More likely to be funded with retained profit
• Greater consistency
• Maintain distinctive capabilities
• Less threat of brand dilution
• Can be steady
• Less loss of control
• Avoid diseconomies of scale

Question 21

Disadvantages of organic growth

Answer 21

• Missed opportunities from acquisitions
• Potential for growth maybe more limited
• Lack of shared expertise
• Lack of competiveness due to a lack of economies of scale (especially if competitors are growing via inorganic methods)
• Pressure on leaders
• Dissatisfaction from shareholders
• Access to finance may be limited

Question 22

Define merger

Answer 22

• When two or more firms agree to become integrated to form one firm under joint ownership
• An agreement

Question 23

Define takeover

Answer 23

• When one firm gains control over another and becomes the owner. This can be achieved by buying 51% of the shares
• Can be hostile

Question 24

Define horizontal integration

Answer 24

Occurs when two firms at the same stage within a process integrate

Question 25

Define vertical integration

Answer 25

Vertical integration occurs when two firms at different stages within a process integrate

Question 26

Define forward vertical integration

Answer 26

Forward vertical integration occurs when a firm takes over another firm ahead of it in the process e.g. a car manufacturer takes over a car dealer

Question 27

Define horizontal vertical integration

Answer 27

Backward vertical integration occurs when a firm takes over another firm behind it in the process e.g. a car manufacturer merges with a tyre supplier

Question 28

Define conglomerate integration

Answer 28

Occurs when 2 unrelated firms integrate

Question 29

Advantages of vertical integration

Answer 29

* Secure supplier--> greater control over supply chain, which reduces risk as access to raw materials is more certain * Secure outlet--> Forward integration secures retail outlets and can restrict access to these outlets for competitors. * Gain foothold in a market * Benefit from expertise * Brand recognition * Synergy (increased profits) * Lower P's -->they don’t have to worry about being charged high prices for supplies, keeping costs low and allowing lower prices for consumers. This can increase competitiveness and sales

Question 30

Disadvantages of vertical integration

Answer 30

* Finance required * Clash of culture * Can impact on focus of the business * Can impact on economies of scale as different processes * Diseconomies of scale can occur due to communication and coordination problems

Question 31

Advantages of horizontal integration

Answer 31

* Rapid increase of market share * Achieve economies of scale * Reduces competition * Existing knowledge of the industry means the merger is more likely to be successful * Firm may gain new knowledge or expertise

Question 32

Disadvanatges of horizontal integration

Answer 32

* Diseconomies of scale may occur as costs increase e.g. unnecessary duplication of management roles * There can be a culture clash between the two firms that have merged * Decentralised leading to less tight control of businesses taken over

Question 33

Disadvantages of a merger between Sainburys and Morissons for suppliers

Answer 33

Firms will have greater bargaining power with their suppliers. This could be seen as poor for the suppliers, as they will be further forced into producing goods at a cheaper price. This could then lead to a fall in the number of suppliers, which is bad for consumers as they will be given less choice, worsening allocative efficiency and could also lead to an investigation by the GCA.

Question 34

Advanatages of conglomerate intergration

Answer 34

* Spreads risk between different markets as firm diversifies * Allows for growth when current markets are saturated or competitive * Allows for cross selling of products in different markets due to brand recognition and access to customers * Allows market research to be shared across different markets * Acheive E.O.S--> risk bearing economies--> diversify, reduces costs of failure * Knoweledge transfers, which increases dynamic efficiecny, increasing its productive potential

Question 35

Disadvantages of conglomerate integration

Answer 35

* D.O.S--> **A**lientation, **B**ureacracy, **C**ommuniation * Brand dilution * Lack expertise--> productivity falls, costs increase, profits fall

Question 36

Explain how the size of the market is a constraint on business growth

Answer 36

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

Question 37

Explain how access to finance is a constraint on business growth

Answer 37

Small firms find it harder to access loans as they are considered to be more risky than larger firms. Due to the perceived risk, interest rates for any loans acquired tend to be higher

Question 38

Explain how owner objectives is a constraint on business growth

Answer 38

Many owners desire to grow a business to a point that provides a certain lifestyle or standard of living - and not beyond.

Question 39

Explain how regulation is a constraint on business growth

Answer 39

Large firms are often constrained by competition regulation that aims to limit monopoly power. Firms that sell demerit goods also find growth can be limited by government policies such as age restrictions, minimum prices and indirect taxes

Question 40

Three reasons for demergers

Answer 40

1. Achieve E.O.S at lower levels of output 2. To realise capital from the demerger 3. To specialise in different fields

Question 41

Define spin-off

Answer 41

A spin off occurs when a business creates a separate company from part of its existing one, but retains some form of ownership

Question 42

Impact of demergers on the firm

Answer 42

* Allow businesses to dispose unwanted elements of the organisation e.g. loss making divisions * Greater focus on the core competencies * E.O.S: lowers costs, which increases efficiency * D.O.S reduced: firm is more able to coordinate and communicate * Removing some difficult cultral differences * Selling off parts of the business can provide a cheap source of finance to reinvest in other, more profitable areas of the business

Question 43

Negative impact of demergers on the workforce/ employees

Answer 43

* The workforce might feel threatened by a demerger as they do not know whether the new management are looking to create synergies * This might occur through reducing the size of the workforce, particularly to create a leaner, more efficient, organisation (workers lose jobs) * The new management might asset strip the demerged business, selling off profitable elements to make a quick profit

Question 44

Positive impact of demergers on the workforce/ employees

Answer 44

* 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

Question 45

Impact of demergers on consumers

Answer 45

* A horizontal demerger can create competition in an industry as one firm becomes two * The new management are likely to want to make the business leaner --> improved productive efficiency, lowering costs which might be passed on to the consumer * At the same time it would increase choice available to the consumer and improve quality --> allocative efficiency might improve as the business is more likely to focus on and understand the needs of the consumer

Question 46

Negative impact of demergers on consumers

Answer 46

Demerged firms may be less efficient through loss of economies of scale or raise prices/reduce quality or range of goods as they become motivated by profits.

Question 47

Explain how a business might overcome the principal agent problem

Answer 47

1. Provide employee- share ownership schemes- improve incentives for employees to increase their productivity and help businesses make higher SNP 2. Offer long term employment contracts for senior managers- help them make decisions more in tune with long term strategic objectives of the businesses