F&D P1: Factors Affecting Size of Firms

What indicators gauge the size of firms?

Quantity of output sold, profits generated, total sales revenue, number of employees, market share, number of outlets.

Why can small firms coexist with large firms? (Supply Side / Cost Factors)

MES reached at very low levels of output, saucer-shaped LRACs, banding and joint ventures, vertical disintegration.

What is MES at very low levels of output? (Supply Side Factor)

If diseconomies occur at low outputs (e.g., personalized services), optimum firm size is small.

What is Vertical disintegration? (Supply Side Factor)

Entire production process broken into separate processes, small firms specializing in parts of the task can incur lower unit costs.

What are Saucer-shaped LRACs? (Supply Side Factor)

LRAC has a horizontal portion after initial EOS -> small and large firms can be equally cost efficient.

What are Banding and Joint Ventures? (Supply Side Factor)

Independent businesses cooperate (e.g., bulk buying, advertising) to gain EOS benefits while retaining independence.

Why can small firms coexist with large firms? (Demand Side / Revenue Factors)

Limited market demand, nature of product, market segmentation/specialization, geographical factors, profit-cycles.

What is Limited Market Demand? (Demand Side Factor)

If total market demand is small, it cannot support a large firm.

What is the Nature of the product? (Demand Side Factor)

Personalised goods/services requiring direct individual attention (e.g., legal services, hairdressing) cannot be mass produced -> small firms.

What is Market segmentation and specialization? (Demand Side Factor)

Industries with diversified products/customers can be segmented, allowing small firms to cater to niche markets (often less price elastic).

What are Geographical factors? (Demand Side Factor)

Products with high bulk/perishability relative to value (e.g., fresh produce) have local markets -> small firms.

What are Profit-cycles? (Demand Side Factor)

New products have low initial demand in early cycle stages, favoring small firms until growth.

Why do some firms remain small? (Other Reasons)

Unwillingness to take greater risks, alternative objectives of firms.

What is Unwillingness to take greater risks? (Reason for Remaining Small)

Expansion requires large capital outlay, higher investment risk -> risk-averse firms remain small. Fear of future price fall/surplus after expansion.

What are Alternative objectives of firms? (Reason for Remaining Small)

Owners may prefer reasonable income/benefits (e.g., shorter hours, less stress) over maximising profits from growth.