Chapter 1.1 - What is a business?

Business definition

A decision-making organization involved in the process of using inputs to produce goods and/ or to provide services.

Inputs

Resources to that a business uses in the production process, such as labour or raw materials.

Product

Both goods and services.

Goods

Physical products (tangible).

Services

Intangible products, lile haircuts, public transport, education, etc.

Entrepreneur

The individual who plans, organizes and manages a business and its operations, taking on financial risks in doing so. (Richard Cantillon, 1680-1734). Successful entrepreneurs tend to be creative, innovative, and highly passionate (traits). They search for and exploit business opportunities by forecasting and/or responding to changes in the marketplace.

Entrepreneurship

The trait of business leaders who tend to be distinctive in their temperament, attitude and outlook who drive the business to achieve organizational goals.

Nature / Purpose of business activity

To generate added value.

Added Value

When there is a positive difference between the selling price of a product and the cost of producing the good or service. It occurs when products are appealing to customers, so they are willing to pay a higher price for such items.

Customer

the people / organizations that purchase a product

Consumer

the people who actually use the product.

Peter Drucker - purpose of a business

To create customers, i.e. the role of businesses is to combine human, physical, and financial resources to create goods and services in order to satisfy the needs and wants of people, organizations and governments.

Needs

The basic necessities that people must have to survive, like food, water, warmth, shelter, and clothing.

Wants

people’s desires, i.e. the things they would like to have, such as a larger home, new smartphone, and overseas holiday or a birthday cake.

Consumer goods

The products sold to the general public rather than to other businesses. Consumer durables - products that last a long time and can be used repeatedly). Non - durables = the products that need to be consumed shortly after their purchase as they do not last or cannot be reused).

Capital goods / Producer goods

Physical products bought by businesses to produce other goods and / or services. For example buildings (premises), computers, machinery, tools and specials equipment.

HRM (Human resource management)

Responsible for managing the personnel of the organization. Includes roles such as human resource planning, organizational structures, management and leadership, motivation and demotivation and dealing with industrial/employee relations.

Finance and accounts

Responsible for managing the organization’s money, ensuring compliance with legal requirements (like filling corporate taxes) and informing those interested in the financial position of the business (like shareholders and potential investors).

Marketing

Responsible for identifying and satisfying the needs and wants of customers. It is ultimately in charge of ensuring that the firm’s products sell. This is done through a series of activities like market research, promotion, pricing, branding, and distribution.

Operations management

Responsible for the process of converting raw materials and components into finished goods, ready for sale and delivery to customers. Examples of production include the extraction of crude oil, car manufacturing and the provision of travel and tourism services.

Primary sector

Businesses involved with the extraction, harvesting and conversion of natural resources. For example, agriculture, fishing, mining, forestry and oil extraction. Primary sector business activities tend to account for a large percentage of output and employment in low-income countries. In high-income countries businesses use mechanization and automation in primary sectors, like combine harvests, tractors, and automatic water systems. As countries achieve sustained economic growth and development, there is less reliance on the primary sector in terms of employment and national output, partly because there is little added value in primary sector production (for example, tea leaves and coffee beans sold at low prices). However countries may benefit from the primary sector significantly from agricultural exports sold all around the world (like France).

Secondary sector

Businesses involved in manufacturing or construction. For example, clothes, manufacturers, publishing firms, breweries and bottlers, construction firms, electronics manufacturers, and energy production companies. The output is sold to customers, like businesses, governments, foreign buyers or domestic customers. Medium-income countries have a dominant secondary sector that accounts a relatively large proportion of their country’s national output. Economists argue that the secondary sector is wealth creating, as manufactured goods can be exported worldwide to earn income for the country. Value is added to the natural resources used during the production process. For example, the mass production and export of motor vehicles and consumer electronic products has helped economies like Taiwan and South Korea to prosper. However, automation and mechanization in modern societies have caused a decline in many secondary industries in terms of employment.

Tertiary sector

Businesses that specialize in providing services to the general population and other organizations. For example, retailing, transportation and distribution, banking, finance, insurance, healthcare, leisure and tourism, and entertainment. Physical goods can be transformed in the process of providing a service. For example, restaurants where a chef prepares a meal with fresh ingredients. The focus is on the people who are providing the service rather than on the tangible product itself. In high-income countries, it tends to be the most substantial sector in terms of both employment and output percentage of gross domestic product (the value of the country’s output each year). E.g. in USA and UK, around 80% of the labour force work is in the tertiary sector. The decline in manufacturing sector in high-income countries signifies their growing reliance on the tertiary sector.

Quaternary sector

This is a sub-category in the tertiary sector. Businesses are involved in intellectual and knowledge-based activities that generate and share information. For example, information communications technology (ICT), research and development (R&D), consultancy services and scientific research. Pharmaceutical companies invest heavily in R&D to create innovative products, develop new production methods, improve efficiency and to tap into markets. This sector mainly exists in high-income countries as it requires a highly educated workforce. It is also the sector in which high-tech and e-commerce businesses invest for further growth and evolution.

Chain of production

Tracks the stages of an item’s production, from the extraction of raw materials used to make the product all the way through to it being delivered to the consumer. (Includes all sectors). All four sectors are interdependent - each sector relies on the others to remain in existence.

Lack of finance - challenges of starting a business

Businesses need finance to purchase fixed assets, like premises, buildings, machinery and equipment. Start-up firms and most owners of new or small businesses often do not have the credentials to secure sufficient funding without major challenges. Even if entrepreneurs borrow money, the funds may be insufficient and or the relatively high interest charges might seriously affect the cash flow position of the business. Hence, new sole traders often have to remortgage their own homes to raise the finance needed, thereby offering the lender more collateral (financial security) in case they fail to repay the loan.

Unestablished customer base - challenges for business start-ups

New businesses often have problems with attracting customers, i.e. building a broad and loyal customer base. The problem intensifies when there are well established competitors that already operate in the market. Customer loyalty is build over a long time, which may require marketing know-how and large amounts of money.

Cash flow problems - challenges of start-ups

Financing working capital (the money available for the daily running of a business) is a major challenge for many business start ups. A business may have a lot of stock, like raw materials, semi finished output or finished goods that it cannot easily turn into cash. Customers might demand a lengthy credit period (typically between 30 to 60 days) enabling them to buy now and pay later, so the business will not receive the cash payment until the credit period is over. However, during this time, the business still needs to pay for its on-going costs like wages, rent, utility bills, taxes, and interest payments on bank loans.

Marketing problems - challenges of start-ups

Marketing challenges arise when a business fail to meet customer needs, thereby resulting in poor sales and a lack of profitability. Supplying the right products to the right customers at the right price is essential for new businesses. However, small and new businesses might lack expertise to do this. Quite often, the key to small business success is to identify a niche in the market and then fill it. For example, back in the 1990s Amazon identified a huge opportunity of using the Internet as a channel of distribution for books and other products. European airline carriers such as easyJet and Ryanair identified early on the niche market for no-frills (budget) air travel.

People management problem

Business start-ups may lack experience in hiring the right staff with all the necessary skills. This can lead to poor levels of labour productivity and the need to refrain staff or rehire people, all of which can be very expensive and time consuming. Moreover, new businesses might not know the ideal organizational structure or the most practical methods of staff motivation that best suits their organizational needs.

Production problems

It can be challenging for business start-ups to accurately forecast levels of demand so they are more likely to either over produce or under produce. Overproduction tends to lead to stockpiling, wastage and increased costs. Underproduction leads to dissatisfied customers and a loss of potential sales.

Legalities - business start-up challenges

It is necessary for businesses to comply with all necessary legislation, including business registration procedures, insurance cover for staff and buildings, consumer protection laws and rules about intellectual property such as copyrights, patents and trademarks. The paperwork and legal requirements of setting up a new business can be cumbersome, confusing, time consuming and expensive. Any oversight could result in the business having to pay compensation or financial penalties. This would obviously damage the already vulnerable cash flow position of business start-ups.

Growth - start-up opportunity

When there is an appreciation in the value of the assets of the business. Has the potential to become worth more than the value of the owner’s salaries.

Earnings