3.5 - Firms Flashcards
Firm
An organisation that uses resources to produce a product, which it then sells
Classification of firms (2)
- By sector: primary, secondary, tertiary
- By owenership: public, private
Primary sector
Firms in industries within the primary sector of an economy specialise in the production or extraction of natural resources by growing crops, managing forests, mining coal etc.
Secondary sector
Firms within industries in the secondary sector of an economy will use unprocessed natural resources and other unfinished products to make other goods: manufacturing
- for example, oil is used in plastics, glass is made from sand, and paper is made from pulped wood
Tertiary sector
The distribution and sale of manufactured goods and the provision of services to consumers is the final stage in their production
- firms in the wholesale and retailing industries specialize in these activities
Public sector
A part of the economy that comprises all organizations that are owned and operated by the government
Private sector
The part of the economy that is run by individuals and companies for profit and is not state controlled
State-owned enterprise
A business enterprise where the government or state has significant control through full, majority, or significant minority ownership
Industrial sector
Contains firms that use similar production processes and specialise in the production of a similar range of products.
Through what characteristics can you measure the size of a business? (4)
- The number of employees
- Capital employed
- Market shared
- Sales turnover (revenue)
Small business
An independently owned business that usually has the owner as its manager and has only a small amount of employees
Advantages of small businesses (name 3)
- Flexibility - can adapt to quick changes as the owner is more involved
- Personal service - owners are easily accessible to offer customer service
- Lower wages - no trade unions = employees has weak negotiating powers; owners are able to impose wages to the legal minimum wage
- Better communication - since there are fewer employees, information can be reached easily
- Innovation - faces more pressure to become innovative, hence they are more prepared to take risk as they have less to lose
Disadvantages of small businesses (name 3)
- Higher cost - cannot exploit economies of scales; average cost will be higher than larger rivals = lack of competitive edge
- Lack of finance- struggles to raise finance as choice of sources is limited
- Staff - hard to attract experienced staff as they lack resources (not able to afford the wage, training required for a specific skill)
- Vulnerability - when trading conditions fluctuate, it is hard to survive as they lack resources
Internal growth
Internal growth, also known as organic growth, occurs when a company uses its own tools and resources to expand.
Ways that internal growth can happen (name 3)
- Developing new product ranges
- Launching existing products directly into new international markets (e.g. exporting)
- Opening new business locations - either in the domestic market or overseas
- Investing in additional production capacity or new technology to allow increased output and sales volumes
Advantages of internal growth (name 2)
- Incremental, even-paced growth
- Provides maximum control
- Preserves organisational culture
- Encourages internal entrepreneurship
- Allows firms to promote from within
Disadvantages of internal growth (name 2)
- Slow form of growth
- Need to develop new resources
- Investment in a failed internal effort can be difficult to recoup
- Adds to industry capacity
External growth
External growth usually involves a merger or takeover of another existing business.
* can be friendly (merger) or hostile (takeover)
Advantages of external growth (name 2)
- Reducing competition
- Getting access to proprietary products or services
- Gaining access to new products
- Obtaining access to technical expertise
- Gaining access to an established bran name
Disadvantages of external growth (name 2)
- Incompatibility of top management
- Clash of corporate cultures
- Operational problems
- Increased business complexity
Backwards vertical integration
When a firm merges/takes over their supplier, backwards in the supply chain
Horizontal integration
When a firm merges/takes over their competitor in the same industry in the same sector
Forwards vertical integration
When a firm merges/takes over their customer, forwards in the supply chain
Conglomerate integration
When a firm merges/takes over a business in a completely different industry
Economies of scale
When an increase in the scale of output results in a lower cost per unit (optimum size)
Diseconomies of scale
When an increase in the scale of output results in higher costs per unit (the business is too big)
Define internal economies of scale
Result of the growth in the scale of production within the firm
Define external economies of scale
When there is an increase in the size of the industry in which the firm operates
Examples of internal economies of scale (name 3)
- purchasing economies
- technical economies
- financial economies
- marketing economies
- managerial economies
- risk-bearing economies
Examples external economies of scale (name 3)
- Access to skilled workers
- Job marketing benefits
- Shared infrastructure
- Specialist service providers (ancillary firms)
Risk-bearing economies of scale
Large firms (high output) sell into different markets and produce a variety of products (diversification)
- business risks are spread over a wider range of products/markets - in case of market failure, other products can continue business
Financial economies of scale
Banks more willing to lend to large firms, more financially secure in repaying loans (trust and good reputation)
- also likely to get lower rates of interest
- large firms can sell shares to raise capital
- more capital and lower costs
Marketing economies of scale
- afford their own vehicles to distribute products: cutting down costs
- cost of advertising is spread over a much larger output in large firms
Technical economies of scale
Large firms are financially able to invest in good technology, skilled workers, machinery etc.
- efficiency cuts costs for the firm
Purchasing economies of scale
Large firm can buy raw material in bulk because of high scale of production
- supplier usually offer price discounts for bulk purchases, cut costs for the firm
Access to skilled workers
Large workers can recruit workers trained by other firms
- efficiency and productivity of workers cuts costs
Joint marketing benefits
Firms in the same industry are located close to each other: they can enhance reputation and customer base
- promote one-another / merge
Shared infrastructure
Development in infrastructure of an industry / economy can benefit large firms
- e.g. more roads and bridges by govn. can cut transport costs
Specialist service providers (ancillary firms)
They are firms that supply materials / services to larger firms (e.g. marketing, research etc.)
- if located located near a company, the company can cut costs by using their services more cheaply than other firms
Examples of diseconomies of scale (name 3)
- management diseconomies
- skills shortages
- supply constraints
- labour diseconomies
- regulatory risks
Management diseconomies
Large firms have wide internal organisations (lots of managers and employees)
- makes communication difficult, decision-making slow
- gradually leads to inefficient running of firms: increases costs
Skills shortage diseconomies
Firms are unable to attract skilled labour
- have to spend more on training and wages: increasing costs
Supply constraint diseconomies
Too much output requires large supply of raw materials, power etc.
- shortages halt production, reducing profit and increasing costs
Labour diseconomies
Large firms can use automated production (lots of capital)
- workers may feel bore during repetitive tasks: demotivation and lack of cooperation
- can lead to strikes: stopping production and increasing costs
Regulatory risk diseconomies
Firms become so large that smaller firms cannot compete
- end up dominating supply and controlling market price
- governments may introduce laws to reduce the firm’s control
