1.5 Growth + Evolution

economies of scale

economies of scale

when avg costs of production decrease when the organization increases the size of its operations

cost reducing benefits enjoyed by firms engaged in large scale operations

economies of scale

diseconomies of scale

organization becomes too large, causing productive inefficiencies that result in an increase in avg costs of production

it is the cost disadvantages of growth when the business becomes too big

diseconomies of scale

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economies of scale help companies gain what and how?

competitive advantage; lower price to customers and larger profit margin for business

internal economies of scale

occurs inside the firm and within the firm’s control

types of internal economies of scale

technical, financial, managerial, specialization, marketing, purchasing, risk-bearing

technical economies

• internal

• large firms use machinery for mass production

• reduction of avg costs of production

financial economies

• internal

• large firms borrow large sums of money at low interest cuz less risky to financiers

• reduction of costs of borrowing finance

managerial economies

• internal

• large firms divide managerial roles by employing specialist managers

• small firms can’t cuz sole trader has to be marketer, accountant, and production manager

• avg cost falls cuz high productivity

specialization economies

• internal

• division of labor of workforce

• mass production —> manufacturers benefit from specialized labor

• specialists responsible for single part of production process

• fall of avg costs due to higher productivity

marketing economies

• internal

• large firms benefit from selling in bulk

• ads high cost can be spread by using same marketing campaign across world

purchasing economies

• internal

• large firms benefit from selling in bulk

• bulk purchases have discounts

• large firms purchase large quantities for big discounts

risk-bearing economies

• internal

• conglomerates can spread fixed costs across business ops

• unfavorable trading conditions can be offset by more favorable trading conditions in other products

conglomerates

several different companies (that stay separate) that are grouped together under one big company

examples of internal diseconomies of scale

lack of control and coordination, poorer working relationships, lower productive efficiency from outsourcing, bureaucracy, complacency

types of external economies of scale

technological progress, improved transportation networks, abundance of skilled labor, regional specialization

technological progress

• external economy

• tech innovations increase productivity within industry w significant cost savings

improved transportation networks

• external economy

• global transportation networks enable firms to import raw materials / finished goods manufactured at low costs

• increased convenience from improved logistical networks allows faster delivery at lower costs

abundance of skilled labor

• external economy

• certain locations benefit from reputable education

• local business benefit by having suitable pool of educated / trained labor

• reduces cost of recruitment / training

regional specialization

• external economy

• certain locations / countries have reputation for specializing in specific goods + services

• benefit from access to special labor, sub-contractors, + suppliers

• charge premium price for their products

examples of external diseconomies of scale

higher rents, local market conditions for pay + financial rewards, traffic congestion, context specific problems

internal growth

when business grows using itself to increase scale of its ops and sales revenue

external growth

through dealing w outside organizations + comes in form of alliances + m&a

methods of internal growth

changing prices, effective promotions, product innovation, increased distribution, preferential credit for customers, capital expenditure, staff training + development, providing overall vale for money

advantage of internal growth

• better control and coordination

• relatively inexpensive

• maintains corporate culture

• generally, less risky

disadvantage of internal growth

• diseconomies of scale

• Restructuring of the form of ownership may be needed

• May lead to dilution of control and ownership

• Slower method of growth

disadvantage of external growth

• quicker than organic growth

• synergies

• reduced competition

• economies of scale

• spreading of risks

disadvantage of external growth

• more expensive than internal growth

• greater risks

• regulatory barriers

• potential diseconomies of scale

• organizational culture clash

how can businesses be measured?

market share, total sales revenue, size of workforce, profit, capital employed

generic benefits of being a large business

• Economies of scale

• Lower prices

• Brand recognition

• Brand reputation

• Value-added services

• Greater choice

• Customer loyalty

generic benefits of being a small business

• Cost control

• Loss of control

• Financial risks

• Government aid

• Local monopoly power

• Personalized services

• Flexibility

• Small market size

optimal size of a business depends on…

internal structure, costs, aims + objectives

mergers

takes place when two firms agree to form a new company with its own legal identity

acquisitions

occurs when a company buys a controlling interest in another firm with the permission and agreement of its board of directors

benefits of M&As

• Greater market share

• Economies of scale

• Synergy • Survival

• Diversification

• Gain entry into new markets

drawbacks of M&As

• Redundancies

• Conflict

• Culture clash

• Loss of control

• Diseconomies of scale

• Regulatory problems

external growth methods

horizontal, vertical, lateral, conglomerate

horizontal growth

same industry (banks)

vertical growth

businesses at a different stage of production (coffee manufacturer merges with a coffee beans supplier)

lateral growth

similar operations but don’t directly compete (Pepsi and Quaker Oats)

conglomerate growth

completely different market (Berkshire Hathaway)

success of M&As depend on…

• the level of planning

• aptitudes of the senior leaders

• regulatory (government) issues

takeovers

occurs when a company purchases a controlling stake in another company without the permission and agreement of the company or board of directors

takeovers are also called…

hostile takeovers

joint ventures

occurs when two or more businesses split the costs, risks, control and rewards of a business project and the parties agree to set up a new legal entity

strategic alliances

occurs when two or more businesses cooperate in a business venture for mutual benefit

The firms in the strategic alliances…

share the costs of product development, marketing, and operations but remain independent organizations

4 stages of strategic alliances

• Feasibility study

• Partnership assessment

• Contract negotiation

• Implementation

main purposes of strategic alliances

• Gain synergies from the strength of members of the alliance

• Economies of scale

• Customers may benefit from the added value of convenience of access/wider distribution channels

benefits of joint ventures and strategic alliances

• Synergy

• Spreading costs and risks

• Entry to new/foreign markets

• Relatively cheap

• Competitive advantages

• Exploitation of local knowledge

• Relatively high success rate

drawbacks of joint ventures and strategic alliances

• Rely heavily on goodwill and resources of their counterparts

• Enormous expenditure on brand development

• Possible culture clashes

franchising

a form of business ownership whereby a person or business buys a license to trade using another firm’s name, logos, brands, and trademarks

franchisor

the firm selling the license

franchisee

the entrepreneur buying the license

royalty payment

percentage of sales (like a commission)

benefits of franchising for franchisors

• Cheaper and faster than internal growth

• Enter new local and international markets

• Growth without incurring day-to-day running costs

• Income from royalty payments

• Franchisees are more motivated than salaried managers

benefits of franchising for franchisees

• Relatively low risk

• Relatively lower start-up costs

• Training and advice on financial management

• Large scale advertising performed by franchisor

• Greater likelihood of success due to local market insights

drawbacks of franchising for franchisors

• Risk damage to brand name if franchisees are unsuccessful

• Monitoring quality standards or franchisees can be difficult

• Slower growth method than M&As

drawbacks of franchising for franchisees

• Stifled creativity due to many franchisor rules and requirements

• Can be very expensive to buy a franchise with no guarantee of a return on investment

• Significant percentage of revenues paid to franchisor