1.5 Growths and Evolution

Economies of scale

When average costs of production decrease as a business increases the size of its operation and itself becomes bigger

Diseconomies of scale

When the average cost per unit increases and the efficiency lowers as a business increases the size of its operation and itself becomes bigger

Internal economies of scale

When the average cost per unit decreases as a business grow by increasing the size of its operation.

External economies of scale

When the average cost per unit decreases as a business grows due to the industry or the market grows.

Types of internal economies of scale

Technical, Financial, Managerial, Specialization, Marketing, Purchasing

Technical internal economies of scale

The high fixed costs of the technological equipment and machinery are spread over the huge scale of output

Financial internal economies of scale

Large firms can borrow large sums of money at lower interest rates because they are seen as less risky financiers

Managerial internal economies of scale

Large firms divide managerial roles by employing specialist managers. This results in a fall in average costs due to higher productivity

Specialization internal economies of scale

By using mass production techniques, specialists are responsible for a single part of the production process. This results in the fall of average costs and high quality due to higher productivity and a skilled workforce.

Marketing economies of scale

Large firms can also spread the high costs of advertising by using the same marketing campaign across the world. No need to do more.

Purchasing economies of scale

Large firms benefit from buying resources in bulk through discounts.

Risk-bearing economies of scale

Conglomerates can spread fixed costs across a wide range of business operations. Unfavorable trading conditions for some products can be offset by more favorable trading conditions for their other products.

Types of internal diseconomies of scale

Lack of control and coordination, difficult communication, bureaucracy

Types of external economies of scale

Technological progress, abundance of skilled labor, improved transportation network, regional specialization

Technological progress

Technological innovations increase productivity within an industry, with significant cost savings

Improved transportation network

Import raw materials and finished goods that have been manufactured at much lower costs.

Increased convenience for faster deliveries at lower costs.

Abundance of skilled labor

Local businesses benefit from this by having a suitable pool of educated and trained labor. This reduces the costs of recruitment and training

Regional specialization

Firms in those locations benefit from having access to specialist labor, sub-contractors, and suppliers.. They are also able to change the premium price for their products.

Types of external diseconomies of scale

Higher rents, Local market conditions for pay and financial rewards, Traffic congestion, Context-specific problems

Internal growth

To grow the business (increasing the scale of its operations and sales revenue) by expanding its existing operations, using their own capabilities and resource; Try to grow sales of its existing products in its existing markets, Develop new products for its customers

Purpose of internal growth

To foster brand awareness and brand loyalty

To increase market share

To maintain its corporate culture

To maintain ownership and control of the organization

To avoid the comparatively high expenses and risks associated with external growth.

Examples of internal growth

Developing new products, opening new stores, increasing production scale, entering new markets

Pros of internal growth

• Easier to control and coordinate

• Long-lasting growth

• Less risky

Cons of internal growth

Slow method of growth, requires significant amount of time and resources , the existing market may be reluctant

External growth

This occurs through dealing with outside organizations. Such growth usually comes in the form of alliances or mergers with other firms or through the acquisition of other businesses.

Purpose of external growth

To grow at a faster pace

To diversify their product portfolio

To gain market share

To gain customers in new and existing markets

To reduce competition in the industry.

Pros of external growth

Faster method of growth, access new markets, easily increase market share, gain new expertise and capabilities

Cons of external growth

Very expensive, integration difficulties, less control and greater risk of conflict

Mergers

One new company with its own legal identity created from a union of two existing companies under an agreement

Acquisitions

Consolidation or merger after a transaction in which one business buys a controlling share in another firm with the permission and agreements of its board of directors

Takeover

Consolidation or mergers that are caused when a company purchases a controlling stake in another company without the permission and agreement of the company or board of directors

Advantages of M&A and turnovers

Greater market share, economies of scale, synergy, survival, diversification, gain entry into new markets

Disadvantages of M&A and turnovers

Culture clash, loss of control, diseconomies of scale, regulatory problems

Joint ventures

A commercial enterprise with a separate legal entity that occurs when two or more businesses agree to accomplish a specific task. The costs, risks, control, and rewards of its business projects are split

Strategic alliances

An arrangement between two or more businesses to undertake a mutually beneficial project while each retains its independence.

Advantages of JVs and SAs

Synergy, spreading costs and risks, entry to new/foreign markets - exploitation of local knowledge

Disadvantages of JVs and SAs

Rely heavily on good will 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 right to the product in return for an initial fee and a percentage of the franchisee's turnover

Franchisee

The entrepreneur buying the right to the name and the systems used by the franchisor. E.g. materials, training methods

Advantages of franchising

• Less risky than setting up a completely new business - a proven method

• Support of the franchisor for decisions e.g. pricing, choosing suppliers, and planning ahead

• More bargaining power against the franchisor as a group of franchisees

Disadvantages of franchising

• Costs money to buy the right

• Linked to another franchisee for brand reputation. One bad apple spoils the bunch.

• Not free from deciding what to sell, or how to promote.

Reasons for business to grow

economies of scale, sources of finance, recruitment and retention of finance, brand awareness and brand loyalty, spreading risks

Reasons for business to stay small

Cost control, Operational control, financial risks, attracts less attention (publicity, rivalry), flexibility, personalization