Business growth

Question 1

Reasons why some firms tend to remain small. (4)

Answer 1

1) Economies of scale may be very small relative to the market size.
2) The costs of production for a large scale producer may be higher than for a small company.
3) Barriers to entry may be low.
4) Small firms can be monopolists because they offer a flexible, personal and local service.

Question 2

Explain the divorce of ownership from control.

Answer 2

Shareholders own most large businesses, they represent the principal, and they appoint directors and managers (agents) to control the business on their behalf. However, these two entities may have different objectives. The aim of shareholders is to maximise profits, in order to maximise their dividend, whereas managers may want to increase sales and revenue at the expense of profits. The principal-agent problem occurs when the aims of the principals and the agents diverge and the policies that they choose to pursue conflict with the other’s aims.

Question 3

What is a public sector organisation?

Give three examples.

Answer 3

Public sector organisations are organisations that are owned by the state. Making profit is not generally their main aim. Their purpose is to provide a service to the citizens of a country.
There are a wide variety of public sector organisations in the UK:
1) The Ministry of Defence
2) The BBC
3) The NHS

Question 4

What is a private sector organisation?

Answer 4

Private sector organisations are those that are owned and controlled by individuals or companies and not the state. Almost all private sector organisations aim to make a profit. The amount of profit depends on the objectives of the organisations.

Question 5

What is a not-for-profit organisation?

Answer 5

There are a few private sector organisations that are not-for-profit organisations. These are organisations that do not have making profit as their aim but use any surplus or profit generated to support their aims. These include charities such as the NSPCC or local food banks.

Question 6

What is organic growth?

Answer 6

Organic growth refers to firms increasing their output from within, for instance through increased investment or an increased labour force.

Question 7

What is external growth?

Answer 7

Firms may grow in size through external growth through merger, amalgamation or takeover.

Question 8

What is a merger or amalgamation?

Answer 8

A merger or amalgamation is the joining together of two or more firms under common ownership. The boards of directors of the companies, along with the agreement of the shareholders decide to merge the two companies together.

Question 9

What is a takeover?
What is a hostile takeover?
What is a takeover battle?

Answer 9

A takeover implies that one firm desires to buy the other.
A hostile takeover is where the board of directors of one company encourage the shareholders to reject a bid made for the company by another.
A takeover battle is where the company who wishes to buy the company in question needs to acquire promises to sell at the offer price of just over 50 per cent of the shareholders to win and take control.

Question 10

What is horizontal integration?

Give an example.

Answer 10

Horizontal integration is a merger between two firms in the same industry at the same stage of the production process. For instance, the merger of two bakeries.

Question 11

What is vertical integration?

Answer 11

Vertical integration is a merger between two firms in the same industry at a different stage of production.

Question 12

What is forward vertical integration?

Give an example.

Answer 12

Forward vertical integration is where a firm merges with a firm which is closer to the consumer in the production process, i.e. a supplier merges with one of its buyers. Such as a newspaper buying a newsagents.

Question 13

What is backward vertical integration?

Give an example.

Answer 13

Backward vertical integration is where a firm mergers with another firm which is closer to the raw material in the production process, i.e. a purchaser buying one of its suppliers. Such as a car manufacturer buying a tyre company.

Question 14

What is conglomerate integration?

Give an example.

Answer 14

Conglomerate integration is the merging of two firms with no common interest. Such as a food company buying a clothing chain.

Question 15

Give three advantages of organic growth.

Answer 15

1) Cheaper than a merger.
2) Less time-consuming than a merger.
3) Lower risk and less chance of failing than a merger.

Question 16

Give two disadvantages of organic growth.

Answer 16

1) Slower than a merger.

2) Not as effective and riskier if a firm wishes to enter a new market.

Question 17

Give three advantages of vertical integration.

Answer 17

1) Cost savings - integrating a buyer or a supplier into the firm may increase efficiency.
2) Reduced risk - either guaranteed supply or guaranteed consumption.
3) Increased market control, such as what price to sell its products at and control of marketing and branding.

Question 18

Give four disadvantages of vertical integration.

Answer 18

1) Firms often pay too much for the firm that they take over.
2) The firm that is taken over may not perform as well as the core of the business.
3) Integrating two firms into one can lead to rising costs.
4) Workers in the firm that is taken over may leave, taking with them their expertise.

Question 19

Give four advantages of horizontal integration.

Answer 19

1) It may allow reductions in costs because of economies of scale.
2) It can reduce competition in the market by taking out a competitor.
3) It can allow one firm to buy uniques assets owned by another firm, such as operation in another part of the world.
4) It allows a business to grow in a market where it already has knowledge and expertise. This is likely to make the merger more successful.

Question 20

Give two disadvantages of horizontal integration.

Answer 20

1) Firms often pay too much for the firm they are purchasing.
2) The integration is often poorly managed so that the firm becomes less profitable and many of the workers leave.

Question 21

Give three advantages of conglomerate integration.

Answer 21

1) Reduced risk - the firm is not so dependent or vulnerable to the ups and downs of one market.
2) A conglomerate may find it easier to expand than two separate companies, for example better access to finance.
3) It could be an opportunity for asset stripping.

Question 22

Give two disadvantages of conglomerate integration.

Answer 22

1) Firms may not have expertise in the area into which they buy.
2) Asset stripping can be damaging to the local economy.

Question 23

How does the size of the market constrain business growth?

Answer 23

Some markets, such as that for cricket balls is very small, thus there is not much opportunity for expansion. Some firms could increase output but would have to drop price considerably or not find a market at all.

Question 24

How does access to finance constrain business growth?

Answer 24

To expand, firms need to have access to finance. Since the 2008 financial crisis it has been very difficult for small and medium-sized firms to borrow, and other forms of finance are limited.

Question 25

How can owner objectives constrain business growth?

Answer 25

Not every owner wishes to grow a firm. They may be content with the profit they are currently making and may not wish for the extra work or extra risk that comes with growing the business.

Question 26

How can regulation constrain business growth?

Answer 26

Regulation can prevent some firms from expanding. For example, in he UK, the government regulates the number of pharmacies in a local area.
For large firms, competition law can prevent some mergers and takeovers from taking place. The Competition and Markets Authority has the power to forbid the merger if it creates a company with a market share greater than 25%.

Question 27

What is a demerger?

Answer 27

A demerger occurs when a firm splits itself into two or more separate parts to create two or more firms. The two or more firms may be of roughly equal size. Sometimes the term may be used to describe the sale of a small part of the business to another firm.

Question 28

Give three reasons for demergers.

Answer 28

1) Lack of synergies - manager may feel that there are no synergies between the different parts of the firm. This may lead to diseconomies of scale.
2) Price - The price of the demerged firms may be higher than that of the single larger firm.
3) Focused companies - splitting the larger firm into two smaller ones may mean that management can deliver high profits and growth by concentrating their energies on getting to know and exploiting a limited range of markets.

Question 29

Give two possible benefits of a demerger for firms.

Answer 29

1) Increased specialisation between the two demerged firms may lead to greater efficiency.
2) Greater efficiency should lead to increased profits as well as enabling firms to survive greater competition in their markets.

Question 30

Give two possible disadvantages of a demerger for firms.

Answer 30

1) A demerger may lead to greater inefficiency.

2) Profits may fall.

Question 31

Explain the possible advantages and disadvantages of a demerger for workers.

Answer 31

Some workers may gain a promotion following a demerger, for example a senior manager may gain a promotion to the position as financial director because each of the new firms will need their own financial director. On the other hand, there may be some job losses especially if each firm becomes more efficiently run as a result of the demerger.

Question 32

Give two possible benefits to the consumer of a demerger.

Answer 32

1) Consumers will gain if the demerged firms become more efficient, cut costs and offer lower prices.
2) They could also gain if the new demerged firms invest more and develop new and innovative products.

Question 33

Give one possible disadvantage to the consumer of a demerger.

Answer 33

Consumers will lose out if the new firms become more focussed on profits and raise prices or reduce product ranges.