Chap 20 Flashcards
Define firm
A commercial enterprise, a company that buys and sells products and/or services to consumers with the aim of making a profit
Define plant
A production unit or workplace such as a factory, farm etc.
3 Classification of firms
- Stage of Production they produce in
- Who owns the firms
- Size of the firms
Define industry
A group of firms producing the same product
Define the quaternary sector
Cover service industries that are knowledge-based
Involved with the collection, processing, and transmission of information (information technology)
Define the 3 stages of production with an example
- Primary Sector- involved in the extraction & collection of raw materials
e. g. agriculture, coal mining, forestry - Secondary Sector- involved with the processing of raw materials into semi-finished and finished goods (capital & consumer goods)- manufacturing & construction
e. g. building, clothing, steel - Tertiary Sector- producing services
e. g. banking, insurance, tourism
Measures of the size of the firm
- Number of workers employed
- Value of the output it produces
- Value of the financial capital it employs
The size of a firm is influenced by: (5)
- The age of the firms: new firms that survive the market take time to grow
- Availability of financial capital: Capability of growing will grow with the financial capital available increasing
- Type of business organization: MNCs are larger than single-owned businesses
Easier to sell shares & borrow money, etc. as an MNC - Internal economies & diseconomies of scale: If average costs decrease as the firm expands, it can decrease product prices to capture more market share
- Size of the market: More demand –> Firm may grow to a large size
Reasons for a firm to stay small:
- Small market size: for expensive, luxury, designer products
- Preference of consumers: for personal services
- Owner’s preference: to avoid stress/fear of loss of control
- Flexibility: can adjust to market changes quickly
- Lack of financial capital
- Location: local markets to reduce transportation costs
- Cooperation between small firms
- Specialisation: small firms may provide specialist products to larger firm s
- Govt support: bc they provide jobs, develop skills & have the potential to grow
Two ways a firm can increase in size
- Internal Growth
2. External Growth
Explain ‘Internal Growth’/ Natural/ Organic
An increase in the size of a firm resulting from it enlarging existing plants or opening new ones
E.g McDonalds growing by opening more outlets
Explain ‘External Growth’
An increase in the size of a firm resulting from it merging or taking over another firm
Types of Merger
- Horizontal
- Vertical
- Conglomerate
Define Horizontal merger
The merger of firms producing the same product and at the same stage of production
e.g. Two car producers
Define Vertical merger
the merger of one firm with another firm that either
(a) provides an outlet for its products or
(b) supplies it with raw materials, components, or the product it sells
Define Conglomerate merger
a merger between 2 firms producing different products
Advantages of a Horizontal merger
- Take greater advantage of economies of scale: Production at a lower average cost since the firm will be larger
- Increase the market share: Direct competitor is eliminated
- Rationalization: they can sell redundant resources
Define rationalisation
eliminating unnecessary equipment and plant to make a firm more efficient
Disadvantages of a Horizontal merger
- May experience diseconomies of scale
- Large firm can be difficult to control
- May be difficult to integrate the 2 firms if they had different management and locations
Define Vertical merger forwards
A merger with a firm at a later stage of the supply chain
E.g oil company buys a petrol station
Define Vertical merger backwards
A merger with a firm at an earlier stage of the supply chain
e.g. tyre manufacturer merges with rubber producer
Advantages of Vertical merger forwards
- Ensures that they are sufficient outlets
- Products are stored and displayed well in high quality outlets
- Helps in the development and marketing of new products
Disadvantages of Vertical merger forwards
- Management problems
2. Adjustments due to potential size difference
Advantages of Vertical merger backwards
- Assured supplies or outlets
2. Restrict access of the rival firms to the supplies
Advantages of Conglomerate merger
- Diversification: spread’s risks & can continue growing even if one products market is declining
Disadvantages of Conglomerate merger
- Hard to manage -> can lead to a demerge
Advantages of a merger on consumers
- High quality products
- Innovation
- Greater economies of scale –> lower prices
Disadvantages of a merger on consumers
- Diseconomies of scale -> Higher prices & poorer quality
Explain the different ownerships of firms
Public sector: owned & operated by govt and exists to provide services to citizens
^ Planned Eco System
Private Sector: individually owned
^ Market Eco System
Define economies of scale
The advantages, in the form of long run average costs (LRAC) of producing on a larger scale
Types of economies of scale
Internal EOS:
Lower LRAC resulting from a firm growing in size
External EOS:
Lower LRAC resulting from an industry growing in size
Define diseconomies of scale
Disadvantages, in the form of long run average costs (LRAC) of producing on a larger scale
Types of diseconomies of scale
- Internal diseconomies of scale:
Higher LRAC resulting from a firm growing too large - External diseconomies of scale
Higher LRAC resulting from an industry growing too large
Explain the usual LRAC U-shaped curve
Average costs fall till it reaches an optimum point and then it rises (EOS-DEOS)
Types of internal economies of scale
- Buying economies: bulk=discount & better treatment
- Selling economies: once a transportation system is set up, costs are constant
large volume of output reduces advertising costs - Managerial economies: employ specialist staff; increase efficiency, reduce COP, raise demand and revenue
- Labour economies: division of labour to increase efficiency
- Financial economies: easier to get granted a loan as a big company & can sell shares
- Technical economies: more viable to use advanced machinery (output at lower avg cost)
- Research and development economies: seperate dept for finding efficient ways to lower avg cost and raise revenue
- Risk bearing economies: spreads the risks of trading by producing diff types of products (can reallocate according to demand)
Types of internal diseconomies of scale
- Difficulties controlling the firm: Management required as firm growns which will increase administrative costs and makes the firm slower in responding to changes in market conditions.
- Communication problems: Everyone may not get the opportunity to effectively communicate their views and ideas to the management team.
- Poor industrial relations: Large firms may be at a greater risk from a lack of motivation of workers, strikes and other industrial action
How can an industry enable the firms to reduce their average costs?
- A skilled labour force
- A good reputation (for a high quality production)
- Specialist suppliers of raw materials and capital goods: when an industry becomes large enough, it can become worthwhile for other industries (ancillary industries)
- Specialist services: firms may provide services specially designed to meet the particular needs of firms in the industry
- Specialist markets: Some large industries have specialist selling places and arrangements such as corn exchanges
- Improved infrastructure: government and private sector firms may provide better road links and electricity supplies, build new airports and develop dock facilities
Types of External diseconomies of scale
With more and larger firms in an area, there will be an
- Increase in transport with more vehicles bringing in workers and raw materials, and taking out workers and finished products (congestion, increased journey times, higher transport costs for firms and possibly reduced workers’ productivity)
- Increased competition for resources (pushing up the price of key sites, capital equipment and labour)
Difference bw Takeover & Merger
Takeover: a company acquires ownership & control of another company by purchasing its shares
Merger: two or more firms agree to form an entirely new company & issue new shares
