Business Growth WJEC/Eduqas Business A Level PDF

Business Growth WJEC/Eduqas Business A Level Component Two: Business Analysis and Strategy Learning Objectives By the end of this topic you should be able to: Explain what is meant by horizontal and vertical integration. Explain the advantages and disadvantages of horizontal...

Business Growth WJEC/Eduqas Business A Level Component Two: Business Analysis and Strategy Learning Objectives By the end of this topic you should be able to: Explain what is meant by horizontal and vertical integration. Explain the advantages and disadvantages of horizontal and vertical integration. Explain the difference between organic and external growth. Analyse the advantages and disadvantages of organic growth. Analyse the advantages and disadvantages of different methods of external growth including mergers and takeovers. Explain the nature and purpose of franchising as a method of growth. Evaluate different methods that businesses can use to achieve growth. Explain what is meant by rationalisation. Business Growth Businesses growth is categorised as being either organic or external (inorganic). When a business seeks growth through ORGANI natural means by growing their C customer base, launching new product ranges and increasing sales. This is when a business aims to grow EXTERN quickly through mergers or acquisitions AL (takeovers). Organic Growth Organic growth is a slower process but it enables business owners to maintain tighter control over the company. Organic growth is a lower risk strategy but competitors might grow more quickly, becoming more powerful and putting the business at risk of being taken over. Much depends upon how well a business is able to utilise their existing resources (finance and managerial skills) to grow the firm. The competitive nature of the market in which a business is operating and the economic conditions are also very important. Types of Organic Growth New Product Development By investing in Research and Development of new products, so a firm is able to attract new customers and increase sales. However, this is expensive and there is no guarantee of success! Market Development Economies of By expanding into new markets with Scale existing goods, a firm is pursuing a As the business medium risk strategy (Ansoff). This can quickly increase sales but how much grows, so their knowledge does the firm hold of the new ability to benefit market and customers? from economies of Expanding Distribution scale increases By simply ensuring that their product is and this leads to more widely available can lead to lower costs and business growth. E-Commerce is a popular lower prices for way of expanding but is the business able customer which to satisfy the new demand? can increase demand. Much depends on price elasticity! External Growth (Inorganic) External growth involves either the use of takeovers or mergers. A firm acquires another (usually smaller) business in a friendly or hostile manner TAKEOV intending to grow and to eliminate competition. PLCs are more vulnerable to ER takeover as their shares are publicly available. This is an agreement where two firms to come together to become one single MERGER entity. Usually both businesses will be of roughly equal size. Takeover Example One of the biggest takeovers in recent years was that of the United States’ food group Kraft buying a controlling interest in UK confectionary leader Cadbury. This was a hostile move! At a cost of some £11.9bn, Kraft’s aim in buying one of their major competitors was to increase their own market share and to access new and emerging markets. Not everyone though was happy with the deal and many felt that Cadbury would lose their own unique identity and that this would result in job losses. Analysis of Takeovers Takeovers are ADVANTAGES Economies expensive DISADVANTA of scale Can raise a firm’s Reduced GES gearing ratio in competition Access new financing the deal. Possible resistance markets Gain new to change e.g. employees management team Risk of cultural and experience Broader customer clashes Duplication of base Increased market resources Customer share Able to benefit dissatisfaction Diseconomies of financially by scale asset stripping. No guarantee of success! Merger Example Back in 2000, UK drugs giants Glaxo Wellcome and SmithKline Beecham have confirmed their plans to merge into the world's biggest pharmaceuticals group. The deal creates the UK's largest company, valued at £130bn. Glaxo shareholders are to own 58.75% of the new group and SmithKline investors 41.25% The new group would have sales of £17bn and 7.4% of world pharmaceuticals markets. Savings are expected to be considerable, with £250m savings expected to come from combining their research and development. The group expects total annual savings of £1.1bn. Types of Business Integration Backward s Vertical Integratio There are four main n types of merger or (Suppliers takeover. ) Conglomer Horizont ate al Integratio A. Integrati n Compa on (Unrelated ny Plc (Competi Business) tor) Forwards Vertical Integrati on (Custome rs) Integration Vertical integration is when one firm takes over or merges with another business at a different stage in the production process but within the same industry. This can be forwards or backwards. Horizontal integration is when a firm mergers or takes over a rival competitor within the same industry. Conglomerate integration is where a firm diversifies into new markets unrelated to their current area of expertise.  Forwards Vertical Integration Forwards vertical integration is when a business buys a customer for their product. The sometimes controversial US brand American Apparel has total control over all aspects of manufacturing and retail by operating their own chain of BENEFITS DRAWBACKS Expensive stores. Tighter strategy. control over Loss of focus retail image. away from Better their main relationship area of with expertise. customers Very Increased different market culture in power retail to Expert staff manufacturin in stores. Backwards Vertical Integration Backwards vertical integration is when a business buys a supplier for their product. The leading coffee chain Starbucks has relatively recently started to expand into coffee farming, purchasing crop growers in Costa Rica and even DRAWBACKS China. BENEFITS Less supplier Tighter competition control over could mean quality of inefficiency. supply. Less Ability to flexibility in lower prices choice of to customers supplier. through Risk of cheaper limited supply costs. management Create a USP experience in  Horizontal Integration Horizontal integration is when a business buys a rival competitor in the same industry. When the British car manufacturer Rover was taken over by the German BMW group many hoped for a revival of the firm’s fortunes. Four years later the company was sold for just £10! Not all mergers and takeovers are successful. BENEFITS https://www.tutor2u.net/business/blog/bu DRAWBACKS Opportunitie ss4-mergers-acquisiitons-one-that-went- Risk wrong.-bmw-and-rover s for large investigation economies of by scale. Competition Less & Markets competition. Authority if Greater market share market over 25%. power and Cultural Conglomerate Integration Conglomerate integration is when a business expands into markets totally unrelated to their own area of expertise. Firms might wish to diversify into new markets and to spread their exposure to risk. Companies such as Samsung, Google, General Motors and Tata are specialists in diversifying into many unrelated markets. BENEFITS Opens up DRAWBACKS access to Expensive new High risk markets. (Ansoff) Asset Limited stripping experience opportunitie Extensive s market Spreads risk research Enables Most likely to fail. Evaluating Takeovers Shareholders will be concerned that any deal provides synergy. That is the sum of the two companies combined is worth more than they are worth separately i.e. 1+1= 3 Can cost savings be made by removing duplicated resources and how much resistance to change will this create? Can cultural differences be overcome or will they prove so great that any deal is destined to ultimately fail e.g. Rover and BMW. Is the financial offer a sensible one or does it over value the business being taken over? Has due diligence taken place to provide a detailed examination of a firm’s assets and liabilities, enabling its commercial viability to be established? Other Issues Senior managers will fear a change in executive power and possible redundancies. With any change of ownership there are likely to be job Ultimately a losses and this company’s fate rests creates insecurity. with the decision of their shareholders to accept or reject a deal. Workers morale and productivity could fall unless the newly formed company has a clear sense Reasons for mergers and takeovers Mergers and takeovers allow businesses to grow rapidly and can remove competition from the market. In most cases, by using mergers and acquisitions, a company can develop a competitive advantage and ultimately increase shareholder value. The main reasons for mergers and takeovers include: Access to new markets – especially overseas Increased market share leading to increased market power in the market Diversification Acquiring new products and technology. Economies of scale are derived from becoming larger Synergy – the idea that 2+2=5. Cost Savings Underperforming management teams can be removed Higher returns to shareholders In your booklet answer the question why would the Competition and Markets Authority get involved with mergers and takeovers? Franchising A franchise is the legal right to use the brand name, products and business style of an existing business. A business which grants a licence to an Franchi individual or other business to trade sor under their name. Franchi An individual or business who buys the see rights to a franchise. Franchise Examples in the UK Why Use Franchising? A franchise provides a business with a means of rapid growth. The risks are largely taken by the franchisee as they pay for the franchise and also then pay additional annual fees called royalties which are normally a percentage of annual turnover. With growth comes opportunities for economies of scale and higher profits as the franchisor now purchases larger quantities of stock to supply the franchisees. How Do Franchises Work? After buying a franchise for an initial sum of money, the franchisee then is free to operate the business under licence in their local area but there are restrictions that they must abide by. The name of the business, choice of suppliers, pricing strategies, advertising, store appearance and products are all tightly controlled by the franchisor. BBC Bitesize 5 mins 23 secs Benefits for Franchisees Buying a franchise provides the franchisee with a ready made business opportunity. Franchisees also gain access to: An established business format that carries less risk Tried and tested products All promotional activity is paid for by the franchisor Training provided by the franchisor An established supplier network Cheaper rates of borrowing Drawbacks to Franchising FRANCHISOR FRANCHISEE Loss of direct control. Expensive to buy the initial franchise licence. Damage to brand image if a franchisee acts Annual royalty fees to improperly. be paid Expensive court fees in Limited opportunities to the event of franchisee show any initiative. disputes. Possible expensive and Risk of diseconomies as compulsory supplier a result of growing too contracts quickly. Rationalisation Rationalisation is the process of deliberately downsizing a business to enable it to improve operational control. Firms often use this strategy to minimise the impact of diseconomies of scale after a period of previously rapid growth. Sometimes a downturn in the external economic environment can leave a business with excess stock and resources lying idle. This is inefficient and costs a business money. Rationalisation Methods Closure of Relocating unprofitable production branches. facilities to cut BBC Cuts 2 mins 03 costs. secs Removing less Replacing inefficient profitable product paper records with ranges from sale. Rationalisation Recent Examples Tutor2U article Recent example Tutor2U article Problems with Rationalisation The nature of rationalisation (downsizing) inevitably means that there will be job losses. Job losses can attract trade union action, negative media attention and stakeholder protests within the local community. Job insecurity concerns for remaining employees. Employees might be uncertain about the future direction of the company and as a result might look for other work leading to a rise in labour turnover. Location and Rationalisation Firms are influenced in their decisions by the external economic environment. If a business can relocate either within the UK or internationally to save costs then they have to consider the short and long-term impact of this upon stakeholders. The availability of government financial support e.g. grants can encourage relocation decisions. Decisions are also heavily influenced by: The opportunities to benefit from external economies of scale The availability of skilled labour The cost of labour Access to distribution networks and infrastructure Opportunity to pay lower taxes and face less rigorous regulations. Outsourcing Outsourcing is a business practice used by companies to reduce costs or improve efficiency by transferring jobs or activities to an externally contracted third party for a significant period of time. Firms use outsourcing as a means of freeing them up to focus upon their core business. The outsourcing company is not directly employed by the business and jobs might be lost as employment moves overseas (off-shoring). The intention is that activities are outsourced to specialists who can do tasks more efficiently and therefore cheaper, saving the business money. Analysis of Outsourcing ADVANTAGES DISADVANTAGE S Lower staffing costs Outsourced work needs managing which takes time. Frees up Negative publicity as a management time result of job losses. to focus more on core activities. Specialists are more It means trusting other efficient saving companies with cash and raising sensitive business data. profits. Past Paper Question Plan - What is the command word and assessment objective? What are the AO1 definitions? What are the hook words? Take a few minutes to plan and then you have 18 minutes to complete your answer  Mark Schem e Using the mark scheme, please assess you partners answer and complete the feedback grid in their booklet  Quick Fire Five 1. State two drawbacks of operating as a franchisee. 2. Define the meaning of the term merger. 3. Which type of integration involves a business merging or taking over a company in a different market to their own? 4. What do you understand by the term ‘synergy’? 5. Analyse why takeovers and mergers sometimes fail. Start 5 End minutes Quick Fire Five - Solutions Possible answers include: 1. Limited innovation / must follow regulations / royalty fees / high cost of franchise purchase / expensive supplies 2. When two firms of roughly the same size choose to come together to form one single company. 3. Conglomerate integration / diversification. 4. 1+1=3 / when the sum of two parts is greater than the individual elements / what firms hope to achieve when merging. 5. Culture clash / resistance to change / lack of synergy / lack of strategic direction / shareholder pressure for profits Exam Practice – Essay ‘Rationalisation creates more problems than it solves’. To what extent do you agree with this statement? (25 marks) Exam Practice – Essay Points Points might include some of the following issues: Rationalisation can correct risks associated with over-trading. By becoming smaller, management can achieve better control. Rationalisation can minimise the impact of diseconomies of scale. It is only ever used as a last resort. Effective rationalisation involves strong communication with trade unions and employees to ensure their support and minimise resistance to change. Better to downsize and lose some jobs than to fail completely. Much depends upon how the change is managed. Rationalisation and job losses attracts negative stakeholder attention. Should the management that allowed over-trading to occur retain their jobs? Strategy will be influenced by the economic conditions of the market and the actions of competitors.