1. Growth and Evolution Unit 1.7

2. Ways of measuring growth The value of the firm’s sales turnover (sales revenue) The firm’s market share (sales revenue of the business as a percentage of the industry’s sales The value of the firm’s capital employed The number of employees hired by the business

3. Reasons why a business wants to grow To reap the benefits of larger scale production; economies of scale. To gain larger market share in order to gain better market standing and market power, allowing the business to charge higher prices to its customers yet gain more profit at the same time. As a means of survival against rivals in the industry. Competitors are like;y to aim for growth so businesses may need to run faster to stay; aim to grow in order to compete with their growing competitors. To spread risks by diversity into new markets and industries. This helps to spread the risk of only focusing on a specific market. If there are detrimental changes in a particular market, than having operations in other different markets may help to safeguard the survival of the business.

4. Economies of Scale refer the lower average costs of production as a firm operates on a larger scale due to an improvement in productive efficiency Can help businesses to gain a competitive cost advantage over smaller rivals because lower average costs can mean a combination of lower prices being charged to customers and a higher profit margin being made on each unit sold. Divided into two categories: Internal Economies of Scale External Economies of Scale

5. Internal Economies of Scale relate to the lower unit costs a single firm can obtain by growing in size itself Technical economies- large firms can use sophisticated machinery in an intensive way to mass produce their products. Financial economies- Large firms can borrow massive sums of money at lower rates of interest than smaller rivals. Managerial economies- A sole trader often has to fulfill the functions of marketer, accountant and production manager. Specialization economies- Similar to managerial economies of scale but results from division of labor of the workforce, rather than management. Marketing economies- Large firms can benefit from lower average costs by selling in bulk. Large businesses will benefit from reduced time and transactions costs, such as administration and the cost of invoicing customers, associated with selling in bulk. Monopsony economies- These savings can be enjoyed by large firms that have strong buying power; monopsonists. Monopsonists negotiate with their suppliers for huge discounts on their large bulk purchases. Commercial economies; purchasing economies; buying economies- These are similar to monopsony economies in that firms can lower their average costs by buying resources in bulk. Small firms also gain a discount for bulk purchases but the larger the purchase, the greater the bulk discount will be. Risk-bearing economies- Can be enjoyed by conglomerates, firms that have a diversified portfolio of products in different markets. They can spread their fixed costs, such as advertising or research ad development, across their wide range of operations.

6. External Economies of Scale those that arise from outside the firm due to its favorable location or growth in the industry. Examples: Technological progress which increases the productivity of trading within the industry; the internet. Improved transportation and communication networks help to ensure that deliveries arrive on time. Additionally, employees who are late to work due to poor transportation links cost the business money. Ultimately, congestion increases the costs of production and reduces revenue for the business. The widespread adoption and use of a common language can also help to reduce costs in an industry. More and better trained labor provided by government supported training programs or reputable education and training facilities in a certain area. Regional specialization means that an area or country may have a highly regarded and trustworthy reputation for producing a particular good or service. This allows the industry to benefit from having specialists and efficient labor.

7. Internal Diseconomies of Scale arise due to managerial problems Diseconomies of Scale decreasing returns to scale; the result of higher unit costs as a firm continues to increase the size of operations. As a firm becomes larger, managers may lack control and coordination as the span of control is likely to increase and cause problems for management. May need more time to communicate and cause slower decision-making. There are likely to be poorer working relationships in an oversized business. Oversized organizations may suffer from the disadvantages of specialization and division of labor. Workers become bored of repetitive tasks and may slack. The amount of administration, paperwork, and company policies are likely to increase. Complacency with being a large and dominant player or even the market leader in the industry can also cause many problems.

8. External Diseconomies of Scale an increase in the average costs of production as a firm grows due to factors beyond its control Too many businesses locating in a certain area will result in land becoming more scarce thereby increasing market rents. Traffic congestion will result from too many businesses being located in an area. Increasing transportation costs for businesses, thereby contributing to the increase in unit costs of production. The supply of local labor may increase due to the opportunities being offered by the many rivals located in the same area. Businesses may have to offer higher wages and financial rewards in order to attract new workers.

9. Small Vs. Large Organizations Size of a market can be measured in several ways: Market share- a firm’s sales as a percentage of the industry’s total sales revenue Total revenue- the annual sales of a business Size of workforce- the total number of employees hired by the business Profit- the value of a firm’s annual profit Capital employed- the amount of capital invested in the business Market value- can be measured by either the balance sheet valuation or the stock market valuation of a business

10. Benefits of a large organization Brand recognition allows businesses to market their products to a wider audience. Added convenience is offered to customers. Larger firms have resources to provide a wider range of facilities to enhance shopping experience. More choice is available from larger businesses. ex. amazon.com- large variety of products.

11. Reasons why small organizations can survive: Cost control- large scale operations may mean that a business encounters diseconomies of scale. Financial risk- owners of small businesses can better manage and control organizations and retain all decision-making power. Government aid- financial support in the form of grants and subsidies may be offered to small businesses to help them start up along with funds for training. Local monopoly power- enjoy being the only firm in a particular location. Personalized services- more time to devote to customers. Flexibility- able to adapt easily. Small market size Optimal Size a.k.a best size a business’ best size depends on its internal structure, its cost and the size of the market. This also is based on its aims and objectives.

12. Internal (Organic) Growth occurs when a business grows internally, using its own resources to increase the scale of its operations and sales revenue Ways of Growth: changing prices- customers tend to buy a product at lower prices advertising and promoting- people are more likely to buy a product if they are informed, reminded or persuaded about the benefits of a product producing improved or better products- through methods such as market research and innovation, businesses can make products that are more appealing to the market placement- if a product is widely available, customers are more likely to buy it offering customers preferential credit payment terms ex. “buy now, pay later” increasing capital expenditure (investment)- expanding locations or introduction of new production processes improving training and development- employees are often said to be a firm’s most important asset

13. Internal Growth cont. Benefits: better control and coordination relatively inexpensive- main source comes from retained profit maintains corporate culture Limitations: diseconomies of scale- higher unit costs of production can arise both internally and externally overtrading- ex.a firm taking on too many orders a need to restructure- as a firm grows there is a need for change dilution of control and ownership- with growth comes more owners which entitles longer decision-making processes and more conflicts

14. External (Inorganic) Growth occurs through dealings with outside organizations Benefits: faster way to grow and evolve quick way to reduce competition in a market can bring greater market share with its associated benefits working with other businesses means a sharing of good practice and ideas can benefit from risk-bearing economies of scale

15. Joint Venture occurs when two or more businesses decide to split the costs, risks, control and rewards of a business project Advantages as a means of growth: Synergy- pooling of experiences, talents and resources of the firms in collaboration Spreading(sharing) of costs and risks Entry to foreign markets- formed agreements overseas Relatively cheap Competitive advantages- competition is reduced Exploitation of local knowledge- firms that form joint ventures have he ability to share knowledge with each other High success rate- tend to be friendly and receptive.

16. Strategic Alliances Similar to joint ventures in that two or more businesses seek to form a mutually beneficial affiliation by cooperating in a business venture. Additionally, the firms also share the costs of product development, operations and marketing. Unlike joint ventures, strategic alliances are independent organizations. Four steps to forming: 1. Feasibility study- investigating and establishing the rationale, objectives and feasibility of an alliance. 2. Partnership assessment- analyzing the potential of different partners, such as what they have to offer to the alliance in terms of both human and financial resources. 3. Contract negotiation- negotiating to determine each member’s contribution and rewards and the formulation of a mutually acceptable contract. 4. Implementation- initiating operations with commitment to the contract from all parties. Main purpose is to gain synergy from different strengths of the members of the alliance and the pooling of their resources.

17. Mergers and Takeovers (mergers and acquisitions) A merger takes place when two firms actually agree to form a new company. A takeover occurs when a company buys a controlling interest in another company. Four types of integration can occur: Vertical integration takes place between businesses that are at different stages of production. Horizontal integration occurs when there is an amalgamation of firms that operate in the same industry. Lateral integration refers to amalgamation between firms that have similar operations but do not directly compete with each other. Conglomerate mergers and takeovers refer to the amalgamation of two businesses that are in completely distinct markets.

18. Mergers and Takeovers advantages Greater market share and larger customer base Economies of scale- large scale operations help to lower the unit costs of production, therefore increasing the chances of earning higher profits. Synergy- combined firms have access to each other’s knowledge Survival- amalgamation is a fast method of growth Diversification- can benefit from a larger customer base and reduced risks

19. Mergers and Takeovers disadvantages Loss of control- original owners will lose a degree of control Culture clash- people will need to adapt to the new corporate culture Conflict- potential disagreements and arguments which can delay or end the merger Redundancies- there is no need to have two separate board of directors or duplicate jobs Diseconomies of scale- large scale operations do not always work Regulatory problems- government may be concerned with the creation of monopolies Amalgamation is a strategy to enable firms to remain or enhance their competitiveness.

20. Demerger what happens when mergers and acquisitions are unsuccessful Reasons to demerger: offload unprofitable sections of the business avoid rising unit costs and inefficiency by being too large (diseconomies of scale) raise cash to sustain operations of existing parts of the business help management have a clearer focus by concentrating their efforts on a smaller range of operations

21. Franchise a form of business ownership whereby a person or business buys a license to trade using another firm’s name, logo, brands and trademarks Benefits as a method of growth: the parent company can experience rapid growth without having to risk huge amounts of money as the franchisee pays for the outlet itself; can be less risky that organic growth franchising allows a business to have a national and/or international presence without relatively higher costs franchisor can benefit from economies of scale can benefit from growth without having to worry about things such as staff wages, purchases of stocks and staff recruitment local franchisees have better awareness of their market conditions and cultural differences

22. Franchisee advantages there is relatively low risk since the franchisor has a tried and tested formula so the chances of the business are high there are lower start-up costs because the business idea has already been developed by the franchisor it is in the best interest of the franchisor to ensure that the franchise succeeds. this means that they will provide added-services to the franchisees, such as advice on financial management and providing training for staff benefits from large scale advertising used by the parent company which means that the franchisee receives “free” advertising and promotion, thereby helping to reduce their costs

23. Pitfalls of Franchising May be difficult to control the activities of the franchisees and to get them to meet the quality standards set by the business Franchisors take a huge risk when allowing other people or businesses to use their names. Franchisees that do not follow set procedures or do not meet expectations may end up harming the reputation of the whole company Although franchising is faster than organic growth, it is not as quick a method of growth as mergers and acquisition

24. Franchisee disadvantages the money needed to buy the franchise can be very expensive, there is no guarantee that this money will ever be recouped. franchisees have to pay a significant percentage of their revenues to the franchisor, thereby leaving them with less profit than would otherwise be the case there is less flexibility for franchisees to use their own initiative or to try out new ideas because they are constrained from doing so by the franchisor. for instance, the owner would be told what prices to set and what promotional campaigns to use

25. HL: Porter’s Generic Strategies outlines the ways that any business can gain a competitive advantage Argued that every successful business must have a competitive advantage to prevent profits being eroded by rivals entering the market. Three general or broad strategies that firms can use to sustain a competitive advantage: cost leadership means to become the lowest cost supplier of a product within the market. differentiation happens when a firm makes its mass-market products distinct from those of its competitors by branding or packaging (Apple, BMW, Coca-Cola) focus occurs when a firm targets a niche or single segment of the market

26. The Ansoff Matrix analytical tool that helps managers to devise their product and market growth strategies created by Professor Igor Ansoff it shows the various strategies that businesses can take depending on whether it wants to market new or existing products in either new or existing markets. ExistingNew Market penetration Product development Market development Diversification Existing New Products Markets

27. Market Penetration low-risk growth strategy for businesses that choose to focus on selling existing products in existing markets can be achieved by using better advertising to enhance the desirability of the product or by offering more competitive prices. Advantage business is focusing on markets and products that it is familiar with which means that market research expenditure can be minimized safest of the four growth strategies Limitation competitors will react to firms trying to take away their customers and market share.

28. Product Development medium-risk growth strategy that involves businesses aiming to sell new products in existing markets suitable for products that have reached saturation or decline stage of their product life cycle in order to prolong their life and their ability to earn revenues for the business useful for businesses that use brand extension strategies. Sony or Nike can use its brand to introduce new products to the market. there are lower risks when launching a new product in a known brand

29. Market Development medium-risk growth strategy that relates to businesses selling existing products in new markets this can be done by using new distribution channels to sell the product in a different location or overseas Advantage it is not high risk since the business will be familiar with the product that is being marketed Nokia and Motorola use market development to sell their mobile phones which have a short product life cycle in developed nations since users upgrade their phones frequently

30. Diversification high risk growth strategy that involves a business marketing new products in a new market suitable for firms who have reached saturation in their markets and are seeking new opportunities for growth a key driving force is that the business can spread its risks meaning that if one part of the business is struggling then the other sections that may be more successful will compensate for the struggling section a way to diversify is to become a holding company a business that owns a controlling interest in other diverse companies (parent companies) Benefits have a presence in a range of products and markets in different regions of the world

31. Diversification cont. a similar method is to establish strategic business units (SBU) like subsidiaries in that they have a separate vision and mission statement and are independently run from their parent company remains the riskiest growth strategy of the four options since the business is not on familiar territory when launching new products in markets it has little if any experience

32. 1. Outline four ways in which the size of a market can be measured. 2. Why do businesses seek to grow in size? 3. Using examples, explain the meaning of ‘economies of scale’. 4. Distinguish between ‘internal’ and ‘external’ economies of scale. 5. What is meant by the ‘optimal size’ of a business? 6. Distinguish between ‘internal’ and ‘external’ growth. 7. Distinguish between ‘joint ventures’ and ‘strategic alliances’. 8. What are the benefits of mergers and takeovers as a form of external growth? 9. What are the advantages and disadvantages of franchising as a method of growth? 10. Explain the quadrants of the Ansoff matrix. Higher Level extension 11. What are Porter’s generic growth strategies? Review Questions