Theme 3.1: Business Growth Flashcards
Why might firms choose to stay small?
Retain brand prestige
Small market size
Lack of Economies of Scale
Need for flexibility
Why might some firms grow?
Profit maximisation
Increased revenue & market share
Economies of Scale
Diversification
Resource access (aquiring competitors)
Managerial factors (pay related)
Explain the principal-agent problem
Owners of larger private sector companies normally elect a board of directors to control the business’s resources for them
For most public limited companies, the shareholders are not actively involved in running the company on a day-to-day basis
The problem is that the principal cannot always ensure that the agent runs the copmany in the way that they would like
The objectives of the owners may be different to the objectives of the managers
Explain how to solve the principal-agent problem
Owner can attempt to provide incentives in such a way that the manager is encouraged to follow the owner’s objectives, e.g.
* Bonuses for managers for hitting certain targets
* Share options in place of monetary bonuses
Management may also influence owner’s expectations and encourage a focus on non-financial objectives
Give a real world example of the principal-agent problem being solved
M&S Plan A, Our Planet
Define and give examples for Internal/Organic Growth
Internal growth is when a firm increases their own scale of production
Examples:
* Expanding existing production facilities
* Taking on more staff
* Opening new retail outlets
* Investment in new technology
* Widening product range
Define and give the types of External Growth
External growth is when a company expands through mergers, amalgamations or takeovers
Types
* Horizontal
* Vertical
* Conglomerate
Define Horizontal Integration
When two businesses in the same industry at the same stage of production merge
Give a real world example of horizontal integration
Disney and 21st Century Fox (2017)
Define Vertical Integration
When two businesses in the same industry at different stages of production merge
Forward
* A firm acquiring one of its distributors
Backward
* A firm acquiring one of its suppliers
Give a real world example of forward vertical integration
L’Oreal buying The Body Shop (2006)
Give a real world example of backward vertical integration
IKEA buying Romanian and Baltic Forests
Define Conglomerate Integration
When a company buys another firm in an unrelated industry, often to spread risk
Give a real world example of conglomerate integration
Nestle owning firms such as KitKat, Nespresso, L’Oreal, and by extension, firms like Ralph Lauren
Give the advantages of Internal Growth
Less risky than taking over other businesses
Can be financed through internal funds, such as retained profits
Builds on a business’s own strengths
Allows the business to grow at a more sensible rate
Give the advantages of Horizontal Integration
Increased market share and pricing power
Can increase barriers to entry
Internal Economies of Scale
Possible revenue based synergy
Cost savings from rationalisation
Give the advantages of Vertical Integration
Control of supply chain / distribution channels
Improved access to raw materials
Removes suppliers and information from competitors
Give the advantages of Conglomerate Integration
Diversification: spreads firm’s risk
Good option is there is little scope for further growth in existing markets
Greater scope for cross-selling existing products to new customers
Give the disadvantages of internal growth
The growth achieved may be dependent on the growth of the overall market
Harder to build market share is the firm is already a reader
Slow growth: shareholders may prefer more rapid growth
Disadvantages of external growth
Diseconomies of scale
Much more expensive than internal growth
Valuation problems (overpaying due to lack of information)
Clash of business cultures
Integration of the two businesses may be difficult (incompatible management styles)
Alienation of customers and employees
Lack of certainty of synergy gains
Give examples of constraints on growth
Size of market (limit on growth if the industry is small)
Access to finance (banks are less likely to lend to SMEs)
Owner objective (survival objective means owners are less likely to seek risky expansion opportunities)
Regulation (CMA prevents firms merging when there might be a ‘substantial lessening of competiton)
Give a real world example of the CMA preventing a merger
Sainsbury’s and ASDA: £7bn deal, 32% market share
‘Experts’ surveys suggest that over ___ of some types of mergers / acquisitions fail to achieve the benefits which they are supposed to’
75%
Give 3 real world examples of demergers
PepsiCo demerged food and drinks business by creating Yum Brands
Sports Direct sold their Dunlop brand
Costa and Premier Inn
Give the reasons for demergers
Lack of synergy / Diseconomies of Scale
Firm’s value (value of demerged firms might exceed the single firm’s value (poor performance in one section may drag down the whole company share price)
Focus on core objectives
Impact of demergers on businesses
Benefit if the increased business specialisation leads to greater efficiency
But, firms might lose Economies of Scale
Impact of demergers on workers
Some workers gain propmotions as a result of new roles being created (opposite of rationalisation)
But, some could lose their jobs if efficiency is improved
Impact of demergers on consumers
Benefit if the demerged firms are more efficient, leading to lower prices, or if the demerger creates greater incentive for innovation through greater competition
But, no guarantee that prices will fall, and could instead rise
