Business Decisions and Strategy Grade 12 PDF

Unit 3: Business Decisions and Strategy Business Objectives and Strategy Chapter 4: Impact of External Influences Chapter 5: Growth Chapter 6: Organic Growth Chapter 7: Inorganic Growth Chapter 8: Problem Arising From Growth Business Studies – Grade 12 (2023-2024)...

Unit 3: Business Decisions and Strategy Business Objectives and Strategy Chapter 4: Impact of External Influences Chapter 5: Growth Chapter 6: Organic Growth Chapter 7: Inorganic Growth Chapter 8: Problem Arising From Growth Business Studies – Grade 12 (2023-2024) Lesson notes Department of Business Studies MADHRSATHUL IFTHITHAAH  Chapter 4 Impact of External Influences External influences refer to factors outside the control of a business that can significantly impact its success. These influences can affect various aspects of a business, including operations, personnel, and revenue. So businesses have to make changes to the way they operate some key external factors: 1. Political Factors: Changes in legislation, government policies, and political stability can directly affect businesses. For instance, new regulations may impact production processes or market access. 2. Economic Factors: Economic conditions, such as inflation rates, interest rates, and economic growth, play a crucial role. A recession, for example, can reduce consumer spending and affect business profitability. 3. Social Factors: Social trends, cultural shifts, and consumer preferences influence business decisions. Demographic changes, lifestyle choices, and societal values impact product demand and marketing strategies. 4. Technological Factors: Advances in technology can revolutionize industries. Businesses must adapt to technological developments to remain competitive. For instance, the rise of e- commerce has transformed retail. 5. Environmental Factors: Concerns about environmental sustainability, climate change, and resource scarcity influence business practices. Companies need to consider their environmental impact and adopt sustainable practices. 6. Competitive Factors: The competitive landscape affects business success. Rival companies, market share, and industry rivalry all play a role. Businesses must analyze competitors and differentiate themselves effectively. Approach Used by Business to Analyze the impact of external influences. One approach is to use PESTLE analysis. Political: Political factors refers to the influence of government policies , regulations and the political environment in which an organization exist.As the political environment is unpredictable and unstable businesses have to pay special attention on how to operate in such an environment. Changes in government regulations for example change in wages regulations to labors can put pressure on the business on to increase the wages which is additional cost to businesses. Changes in export and import of goods across countries in order to increase national security can impact business by restricting the movement of goods, people and capital. Economic: Economic factors encompasses the conditions and trends within the economy that can impact the organization.The overall economic performance and growth of a country or region can influence consumer spending patterns and market demand. Inflation Rates: Inflation can affect pricing strategies, production costs, and overall business profitability. Exchange Rates: For businesses involved in international trade, fluctuations in currency exchange rates can impact the cost of goods and competitiveness. Some of the economic factors that are likely to impact business other than inflation and exchange rates are Strengthening exchange rate might make exporting more difficult but importing cheaper, Lower interest rates would make borrowing cheaper and encourage more investment. Social: Social factors involve the examination of societal influences, cultural dynamics and demographic trends that may affect the organization. There are likely to be changes in the way society operates, Demographic Trends: Understanding population demographics, such as age distribution, income levels, and cultural diversity, helps in tailoring products and services to the target market. Social Values: Analysis of societal values, lifestyles, and cultural norms that may affect consumer preferences and behavior. Consumer Attitudes and Behaviors: Exploration of how societal attitudes and behaviors may influence purchasing decisions and brand perception. People becoming more health conscious leads to opportunities for certain businesses such as those selling healthy foods. Greater number of people are going to university which could increase the quality of human resources. Technological: Technological factors focus on the impact of technology on the industry and Organization , this involves assessing the innovation , automation, technological advancements and the rate of technological change that may affect the business. The rate of technological change provides new opportunities or help improve efficiency for businesses Some of the technological advancements which would help businesses are shortening product life cycles by introduction of new technology as new products can be quickly developed to replace ones that use older technology. Replacement of labor with machines hence reducing labor cost and Lowering unit cost of products. Legal: The government provide the legal framework in which business operate , it also directs legislations at business to protect vulnerable groups. Labor Laws: Compliance with employment laws, including working hours, wages, and workplace safety regulations. Industry-Specific Regulations: Analysis of regulations specific to the industry, such as pharmaceutical regulations, food safety standards, and data protection laws. Legal Risks: Identification of potential legal risks and liabilities that may arise from non-compliance with laws and regulations. Businesses in the food industry are currently under pressure to reduce the amount of sugar and salt they add to products , and imposition of taxes on the use of sugar in certain products can affect businesses. Environmental: People have become increasingly protective of the environment, as some businesses have been receiving threats on global warming from Climate activists. Change in consumer social trends can impact businesses such that some people prefer to buy ethically sourced environmentally friendly goods, this provides opportunities for businesses that specialize in these products. New ways of generating power using renewable sources has been quickly gaining traction in the market Ex EV vehicles as more people have started buying them. The trend of using recycled materials in production of new products have been seen as an innovative way of cutting cost for some businesses. Impact of External Influences: The impact of external influences on businesses is significant and can affect various aspects of their operations, performance, and strategic decision-making. Here are some key ways in which external influences can impact businesses Demand: Businesses will be concerned if external influences reduce demand for their products , this is likely to result in lower profits and weaker cash flows. Costs: Some external influences are likely to raise costs, this will reduce profit margins or force businesses to raise their prices. Strategic Decision-Making: Businesses must adapt their strategies to align with changes in the external environment. For example, shifts in consumer preferences, emerging technologies, or regulatory changes may require companies to rethink their product offerings, marketing approaches, and overall business models. Market Demand and Sales: Economic factors, such as changes in GDP, inflation, and consumer confidence, can influence overall market demand. Businesses need to monitor these economic indicators to anticipate fluctuations in consumer spending and adjust production and sales strategies accordingly. Competitive Landscape: Changes in the external environment can alter the competitive landscape. Technological advancements, new market entrants, or shifts in consumer behavior can impact a company's market share and competitiveness. Operational Efficiency: External influences, such as advancements in technology or changes in regulations, can affect the way businesses operate. Companies may need to invest in new technologies, update processes, or comply with new regulatory requirements to maintain operational efficiency. Financial Performance: Economic factors, currency exchange rates, and interest rates can directly impact a company's financial performance. Businesses with global operations may face currency exchange risks, while interest rate changes can affect borrowing costs. Supply Chain Management: Political events, trade policies, and environmental factors can disrupt supply chains. Businesses need to assess and manage these risks to ensure a stable and efficient supply of raw materials and components. Consumer Behavior: Social and cultural factors influence consumer behavior. Shifts in societal values, lifestyle trends, or demographic patterns can impact the demand for specific products and services, forcing businesses to adapt their marketing and product strategies. Regulatory Compliance: Changes in laws and regulations, both domestically and internationally, can affect how businesses operate. Ensuring compliance with legal requirements is crucial to avoid fines, legal battles, and damage to the company's reputation. Innovation and Technology Adoption: Technological advancements can create opportunities for innovation and efficiency gains. Businesses that embrace and adapt to new technologies can gain a competitive edge, while those that lag behind may struggle to keep up. Corporate Reputation: External influences, particularly in the social and environmental realms, can impact a company's reputation. Consumer expectations regarding corporate social responsibility and sustainability practices can influence brand perception. The Structure of Markets: Perfect Competition: Perfect competition occurs when there is a large number of small companies competing against each other. They sell similar products and there is large number of buyers and sellers and the product sold by each businesses are close substitutes from each other. A lack of entry and exit barrier makes it easy to exit or enter a competitive market. Businesses have very little control on the prices charged. Buyers have perfect knowledge of the goods and services and the associated prices on the market. The firms are price takers Ex(Agricultural products) Monopolistic Competition: Monopolistic competition refers to an uncompetitive or imperfectly competitive market with the traits of both the monopoly and competitive market. There are many number of firms. Products are differentiated offering variety of products. Entry and exit is relatively easy. Some pricing flexibility due to product distinction. Firms have limited control over prices Ex(Restaurant , clothing ) Oligopoly: Markets dominated by a few very large producers is called an oligopoly. Few large firms The Changing Competitive Environment: The structure of the market in which a business operates is likely to change over time. Businesses have to respond to this changing competitive environment New businesses may enter the market and existing businesses may leave or integrate with others E.g. Until the early 2000's UK supermarkets were dominated by a small number of giants including Tesco, Sainsburys and ASDA  The entry of businesses such as ALDI and LIDL has made the market more competitive whilst takeovers involving leading brands such as that of Somerfield by Morrisons in 2004 have had the opposite effect. The legislation (laws) may change likely leading to fewer barriers to entry for new businesses E.g. Until the 1980s only local councils were permitted to operate local bus services in the UK because of some deregulation’s any business with the financial resources to enter the market could run a bus service. The growth of the Internet has increased the number of competitors businesses face in the majority of markets E.g. UK booksellers have faced severe price competition largely from the online giant Amazon Many smaller independent retailers have closed down as they were unable to compete Remaining retailers such as Waterstones have needed to change their operations significantly to survive. Consumer tastes and preferences are changing more rapidly leading to short product life cycles and a requirement for businesses to innovate to compete E.g. The growth in fast fashion has meant that many clothing retailers must now constantly update their product ranges rather than rely on seasonally focused product selections Businesses such as Primark and Zara have been particularly successful in meeting customer demand for fast fashion giving customers the chance to buy the latest fashions in as little as thirteen days Globalisation has increased competition with rivals from around the world E.g. Between 1970 and 2010 trade barriers around the world were reduced and customers were able to buy an increasing number of motor vehicle brands By 2015 more than half of all cars sold in the UK were manufactured by Japanese companies The impact on Businesses of a changing competitive Environment: Impact of New Entrants: Increased competition forces existing businesses to reassess their strategies. Growth in online shopping has pressured retailers to offer online services. Some retailers have collapsed due to failure to compete online (e.g., RadioShack closed 1,470 stores in 2017). Impact of New Products: Businesses must adapt, lower prices, or increase marketing efforts when new products emerge. Peer-to-peer (P2P) lending has disrupted traditional banking, leading banks to collaborate with or develop their own platforms (e.g., Lendbox in India). Market Consolidation: Fewer but larger businesses emerge, increasing competitive pressure. Larger businesses can lower costs and gain market share. Other firms may respond by merging, diversifying, or cutting costs. Consequences of Not Responding:  Businesses failing to adapt may experience lower profits or even closure. Survival is at risk if firms do not react effectively to competition changes. Porter’s Five Forces Model A framework introduced by Michael Porter in Competitive Advantage: Creating and Sustaining Superior Performance (1985). Determines the profitability of an industry based on five competitive forces. Businesses should aim to manage these forces to improve their competitive position. Bargaining Power of Suppliers Suppliers can increase prices and reduce business profits. Businesses can limit supplier power by: o Backward vertical integration (acquiring suppliers). o Finding alternative suppliers to increase competition. o Substituting inputs through research and development. o Minimizing information shared with suppliers to reduce their leverage. Bargaining Power of Buyers Buyers seek lower prices, forcing businesses to reduce costs. Buyers have power when they can negotiate better prices (e.g., car manufacturers reducing component costs). Businesses can counter this by: o Forward vertical integration (entering the buyers' market, e.g., car manufacturers setting up dealerships). o Encouraging competition among buyers to reduce their power. o Creating switching costs (e.g., game console manufacturers making their games incompatible with competitors). Threat of New Entrants High profitability attracts new competitors, increasing industry competition. Existing businesses can create barriers to entry by: o Obtaining patents and copyrights to protect intellectual property. o Building strong brands to ensure customer loyalty. o Heavy advertising to discourage new entrants. o Creating high sunk costs (initial investments that are difficult to recover). Threat of Substitutes More substitutes increase competition and limit pricing power. Businesses can reduce threats by: o Investing in research and development to control substitutes. o Acquiring patents for substitutes to prevent market entry. o Using aggressive marketing to discourage consumers from switching. o Predatory pricing to drive substitutes out of the market.  Rivalry Among Existing Firms Intense competition affects prices and profitability. Businesses can reduce rivalry by: o Forming cartels (illegal in many countries but still attempted). o Merging with competitors (horizontal integration). o Avoiding price competition and instead competing through innovation, advertising, and branding. o Maintaining a small number of dominant firms to sustain high profitability.  Chapter 5- Growth If a business is growing it means that it generates more revenue, owns more assets , uses more resources and hopefully makes more profit. Growing businesses are also likely to increase their market share, launch new products and sell into a wider range of markets. 1. Definition of Internal Economies of Scale o Benefits of growth that arise within a firm, leading to lower average costs. 2. Types of Internal Economies of Scale: a) Purchasing and Marketing Economies o Large firms receive bulk-buying discounts on raw materials and components. o Administrative costs do not increase in proportion to order size. o Marketing costs are lower per unit for larger firms (e.g., owning transport, spreading sales force costs over more product lines). b) Technical Economies o Larger plants operate more efficiently; costs do not rise in proportion to output. o Principle of Increased Dimensions: Doubling capacity does not double costs (e.g., double- decker bus vs. single-decker). o Indivisibility: Some equipment has a fixed cost regardless of usage, so larger output reduces per-unit costs. o Mass production (flow production): Specialised machinery increases efficiency, reducing labour costs. o Law of Multiples: Businesses balance machine capacities to optimise production efficiency. c) Specialisation and Managerial Economies o Larger firms can afford specialist managers for different business functions (e.g., finance, HR, marketing). o Specialisation improves efficiency and reduces average costs. d) Financial Economies o Large firms have more financing options (e.g., issuing shares, securing large loans). o They can offer more assets as security, making borrowing easier and cheaper. o Large firms often get lower interest rates on loans. o Some governments provide schemes to help small firms access finance. e) Risk-Bearing Economies o Large firms can diversify into new products/markets to reduce risk (e.g., Amazon expanding into supermarkets). o Research and development (R&D) helps large firms stay competitive. Points to remember: Internal economies of scale reduce costs as firms grow, improving competitiveness.  Large firms benefit from bulk purchasing, efficient production, specialised management, better financing, and diversification. These advantages create barriers to entry, making it harder for smaller firms to compete. Definition of External Economies of Scale o Cost reductions that benefit all businesses in an industry as the industry grows. o More likely when the industry is concentrated in a specific region. Types of External Economies of Scale: a) Labour o A concentrated industry leads to a skilled workforce. o Training costs decrease as workers gain industry-specific skills from other firms. o Local schools, colleges, and government may provide industry-focused training programs. b) Ancillary and Commercial Services o Growth of an industry attracts smaller firms offering specialized support services. o Examples: Specialist banking, insurance, marketing, waste disposal, maintenance, components, and distribution. c) Co-operation o Firms in the same industry may collaborate on research and development (R&D). o Shared resources, such as industry journals, improve knowledge-sharing. d) Disintegration o Industry concentration encourages specialization. o Firms focus on specific components and supply them to larger assembly plants. o Example: Hollywood film industry now has specialized businesses for editing, casting, makeup, costume design, special effects, and distribution. Points to remember: External economies of scale help businesses reduce costs and increase efficiency. Industries concentrated in a particular region benefit from skilled labour, support services, collaboration, and specialization. These advantages make it easier for businesses to grow and remain competitive. Definition of Increased Market Power o As businesses grow, they become more dominant in the market. o This dominance can reduce competition, forcing weaker businesses to close. Impact on Stakeholders: a) Customers o A dominant business can charge higher prices due to reduced competition. o Less competition means less incentive to innovate, leading to limited product choice. b) Suppliers o Large businesses can pressure suppliers to lower costs, especially if they rely on a single buyer. o Suppliers may have little choice but to accept lower prices or delayed payments. Potential Government Intervention o Authorities may investigate businesses that exploit their market power. o Examples include: ▪ Energy companies being criticized for high prices. ▪ Supermarkets accused of unfair treatment of suppliers, such as delaying payments or forcing price reductions. Points to remember: Market dominance allows businesses to increase profits but can negatively impact consumers and suppliers. Anti-competitive behavior may attract regulatory scrutiny and legal action. Governments may intervene to prevent monopolistic exploitation. Increased Market share and Brand Recognition: 1. Market Share Growth o As businesses expand, their market share increases. o Greater market share leads to increased power and competitive advantages. 2. Brand Recognition o Larger businesses benefit from stronger brand recognition. o Customers become more aware of the brand due to widespread advertising and availability. 3. Advantages of Strong Brand Recognition: o Ability to charge higher prices due to perceived value. o Differentiation from competitors, making the product stand out. o Increased customer loyalty, leading to repeat purchases. o Greater product recognition, making it easier to market. o Development of a strong brand image. o Easier launch of new products under the established brand. 4. Media Attention o Larger market share increases media exposure, providing free promotion. Points to remember: Increased market share strengthens brand recognition, enhancing customer loyalty and pricing power. Strong brands benefit from easier product launches and sustained competitive advantage. Media attention further reinforces the brand’s presence in the market. Growth Strategies o Businesses can grow through inorganic (external) growth or organic (internal) growth. 2. Inorganic (External) Growth o Growth through mergers and takeovers. o Allows businesses to rapidly expand, sometimes doubling in size overnight. o Example: Doctoralia and DocPlanner merger (2016), combining 9M and 8M users. 3. Organic (Internal) Growth o Growth by increasing sales and expanding operations using the business's own resources. o Slower process but lower risk compared to inorganic growth. o Example: Bayern Munich’s revenue growth (€166M in 2003–04 to €640M in 2015–16) due to stadium expansion, TV rights, hospitality, and commercial activities. 4. Key Differences Between Organic and Inorganic Growth: a) Speed o Inorganic growth is much faster (e.g., mergers can double a business instantly). o Organic growth takes longer as it depends on gradual expansion. b) Risk o Organic growth is safer as it builds on existing expertise. o Inorganic growth has higher risks, such as integration challenges (e.g., cultural differences, instability, and delays). 5. Business Lifecycle and Growth Strategy o Early-stage businesses often pursue organic growth due to limited resources and caution. o As businesses grow more confident and accumulate cash, they may shift towards inorganic growth through acquisitions to accelerate expansion. Points to remember: Organic growth is slower but safer, relying on internal expansion. Inorganic growth is faster but riskier, involving mergers or acquisitions. Businesses typically start with organic growth and later consider inorganic strategies when financially stable.  Chapter 6- Organic Growth 1. Organic Growth o Organic growth occurs when a business expands by building on its existing strengths to increase sales. o Several approaches can be used to achieve organic growth. 2. Methods of Growing Organically: a) New Customers o Expanding production to serve more customers. o Exploring new distribution channels (e.g., selling to supermarkets instead of just local shops). o Investing in marketing to attract more customers. b) New Products o Developing new and innovative products to drive growth. o Investing in research and development (R&D) to create new offerings. o Modifying existing products to meet the needs of different customer segments. c) New Markets o Expanding to different locations (e.g., a hairdresser opening another salon). o Geographic expansion, including international markets (e.g., European and US retailers opening stores in China). o Higher risk when entering unfamiliar foreign markets. d) New Business Model o Growth through technology or social change (e.g., a toy retailer launching an online store). o Digital expansion can lead to rapid growth with access to a global customer base. e) Franchising o Allowing other entrepreneurs to operate under the brand name. o Accelerates growth without requiring the business to invest in every new location. o Example: SUBWAY expanding through franchising. Points to remember: Organic growth is achieved through expanding customer reach, introducing new products, entering new markets, adopting new business models, or franchising. Some methods (e.g., geographic expansion) involve higher risk, while others (e.g., franchising) can enable faster organic growth. Organic growth is slower than inorganic growth but is generally safer and more sustainable. General Benefits of Organic Growth o Entrepreneurs grow the business using their own strengths and expertise. o Allows businesses to adapt quickly to market changes. o Owners can control the pace of growth according to their needs. o Provides personal satisfaction and the potential to sell the business later for profit. Specific Advantages of Organic Growth: a) Less Risky o Growth is based on existing knowledge and successful business practices, reducing the chance of failure. o Avoids challenges of integration issues that arise in mergers or acquisitions. b) Relatively Cheaper o Organic growth is often self-financed through retained profits, avoiding debt or external capital. o Lower financial burden compared to inorganic growth, which often requires loans or high acquisition costs. c) More Control o Owners and management retain full control over business decisions and expansion. o Example: A retail chain expanding by opening one store at a time can maintain its established business model and culture. o In contrast, mergers and takeovers reduce control as the acquired business may have its own ways of operating. d) Better Financial Protection o Organic growth puts less strain on financial resources because expansion is gradual. o Helps maintain strong cash flow and liquidity. o Example: Inorganic growth, such as Keurig Green Mountain Inc.’s $18.7 billion acquisition of Dr Pepper Snapple Group (2018), requires large cash outflows, increasing financial risk. e) Avoids Diseconomies of Scale o Steady, measured growth prevents sharp increases in unit costs. o Easier to manage growth without experiencing inefficiencies, such as communication problems or managerial challenges. Points to remember: Organic growth is safer, more cost-effective, and allows greater control compared to inorganic growth. Businesses can expand at their own pace, maintain financial stability, and reduce risks of inefficiencies. However, organic growth is slower, which may limit competitive advantages in fast-moving industries. General Disadvantages of Organic Growth o Organic growth may limit a business's potential and cause it to miss profitable opportunities. o Slow growth can lead to a loss of market competitiveness. Specific Disadvantages of Organic Growth: a) Slow Pace of Growth o Organic growth is gradual, which may not satisfy stakeholders, especially shareholders in a public limited company (plc). o Shareholders seeking quick returns may sell shares if growth is too slow, causing a drop in share price and increasing the risk of a hostile takeover. b) Lack of Access to Resources o Organic growth prevents businesses from leveraging the expertise and resources of other firms. o Example: A construction firm wanting to specialize in energy-saving technology would take longer to develop expertise internally compared to acquiring a specialist company. c) Reduced Competitiveness o Competitors growing through mergers and acquisitions may scale faster. o Slower-growing firms may struggle to match rivals' advertising budgets and economies of scale. d) Delayed Economies of Scale o Organic growth means gradual cost reductions, delaying the full benefits of economies of scale. o Higher costs for an extended period can reduce profit margins and weaken competitiveness. o Some industries, such as shipbuilding, require large-scale investment upfront, making organic growth unsuitable. e) May Be Inappropriate in Fast-Growing Markets o Organic growth may be too slow in rapidly expanding industries. o Example: In the early mobile phone industry, the most successful companies grew through mergers and acquisitions. o In the UK, the remaining three mobile operators exist due to multiple takeovers and mergers. Points to remember: Organic growth is slow, resource-limited, and may reduce competitiveness, especially in fast- moving industries. Lack of economies of scale and limited access to external expertise can hinder profitability and expansion. In rapidly growing markets, inorganic growth (mergers/acquisitions) may be a more effective strategy.  Chapter7 – Inorganic Growth Definition of Inorganic Growth o Inorganic growth occurs through mergers and takeovers, where two businesses join and operate as one. Reasons for Mergers and Takeovers: a) Exploiting Synergies o Synergy means that the combined business is more powerful and efficient than the two separate companies. o Synergies arise from: ▪ Economies of scale (cost savings from larger operations). ▪ Asset stripping (selling off valuable assets). ▪ Diversification (spreading risk by offering a wider range of products). ▪ Management efficiencies (better decision-making and resource use). b) Faster and Easier Expansion o Mergers and takeovers provide a quicker route to expansion than organic growth. o Example: A supermarket chain expanding in China could build 100 stores or buy an existing chain, which is faster. o Buying a business is often cheaper than organic growth. ▪ Example: Internal growth cost = $80 million vs. Acquisition cost = $55 million (even with price inflation). c) Using Available Cash o Businesses with excess cash may invest in acquisitions to generate better returns. o Example: In 2018, cash returns were around 1%, so businesses preferred higher-return investments like acquisitions. d) Defensive Strategy o A merger strengthens a business’s market position, making it more resistant to takeovers. o Larger size reduces the risk of being taken over by a rival firm. e) Response to Economic Changes o Mergers help businesses adapt to external factors like political and economic uncertainty. o Example: Some UK firms merged to handle Brexit-related risks, such as foreign market access and tariff avoidance. o Merging with a foreign business facilitates international expansion. f) Globalisation o Encourages cross-border mergers, allowing companies to sell globally rather than being restricted to a region.  g) Achieving Economies of Scale o Mergers reduce costs through increased production, better bargaining power, and operational efficiencies. h) Asset Stripping o Some firms buy companies to sell off profitable parts while closing unprofitable sections. o Private equity firms have been accused of asset stripping for short-term profit. i) Management Interests o Managers may pursue mergers to increase company size, aligning with their personal financial incentives (e.g., bonuses linked to company growth). Points to remember: Mergers and takeovers offer faster growth, cost savings, and market expansion but can also be driven by defensive strategies, financial incentives, or short-term asset stripping. They help businesses compete globally, access new markets, and respond to economic changes, but can sometimes prioritize management interests over long-term business health. Definition and Distinction Between Mergers and Takeovers o Both are corporate strategies aimed at improving business performance. o Key difference: ▪ Mergers are friendly and involve businesses joining together to form a new entity. ▪ Takeovers occur when one company buys another, often by acquiring 51% or more of shares. 2. Mergers o Two or more businesses combine and operate as one. o Usually mutually agreed upon and considered friendly. o New business often carries a combined name (e.g., Holcim Ltd + Lafarge SA = LafargeHolcim). o Mergers help reduce costs and improve market positioning (e.g., dealing with overcapacity and weak demand). 3. Takeovers (Acquisitions) o One business buys another, which then loses its identity and becomes part of the acquiring company. o Public limited companies (PLCs) are vulnerable because their shares are publicly traded, allowing anyone to buy them. o Ownership requirement: ▪ Typically, 51% of shares are needed for control. ▪ However, in some cases, as little as 15% ownership may be enough to gain control if shareholders are widely dispersed. o Once a company acquires 3% or more of another company's shares, it must declare this to the stock market (legal requirement).  4. Impact on Share Prices o Takeovers cause share prices to rise sharply due to: ▪ Increased buying activity by the acquiring company. ▪ Speculation by investors who expect a higher value. o If multiple firms compete to take over a company, share prices can increase significantly. 5. Examples of Major Takeovers in 2017 o CVS Health Corp (US) acquired Aetna (health insurer) for $69 billion. o Walt Disney bought film and television assets from 21st Century Fox for $52 billion. 6. Trends in Mergers and Acquisitions (1985–Present) o 2002–2007: Sharp increase in merger and takeover activity. o 2008–2009: Decline due to financial crisis and global recession. o Post-2009: Recovery, but inconsistent growth in merger and acquisition activity. Points to remember: Mergers are cooperative, while takeovers can be aggressive. Takeovers often drive up share prices, creating opportunities for investors. Economic conditions (e.g., financial crises, recessions) impact the frequency and value of mergers and acquisitions. Large corporations use mergers and takeovers for strategic growth, market dominance, and cost efficiency. Definition of Integration o Integration occurs when businesses join together to form one entity. o It can be classified into horizontal and vertical integration. o Not all mergers and acquisitions fit neatly into these categories. 2. Horizontal Integration o Occurs when two firms in the same industry and at the same stage of production merge. o Example: Lafarge SA and Holcim Ltd (cement producers). o Benefits of horizontal integration: ▪ Common market knowledge, reducing uncertainty. ▪ Lower risk of failure compared to merging unrelated businesses. ▪ Employees have similar skills, leading to smoother operations. ▪ Less disruption during integration. 3. Vertical Integration o Occurs when firms at different stages of production merge. o Two types: ▪ Backward vertical integration – Merging with a supplier (previous stage of production). ▪ Forward vertical integration – Merging with a distributor/retailer (next stage of production). 4. Backward Vertical Integration o A firm buys a supplier to gain control over raw materials or components. o Example: A mountain bike manufacturer buying a tyre supplier. o Motives for backward integration: ▪ Ensures a reliable supply of materials. ▪ Eliminates supplier profit margins, reducing costs. 5. Forward Vertical Integration  o A firm buys a distributor/retailer to secure its sales channel. o Example: A mountain bike manufacturer merging with a bike retail outlet. o Motives for forward integration: ▪ Guaranteed outlets for products. ▪ Eliminates retailer profit margins, increasing manufacturer profitability. Points to remember: Horizontal integration strengthens market position by reducing competition and improving efficiency. Vertical integration provides greater control over the supply chain, reducing dependency on suppliers or distributors. Both strategies help firms reduce costs, improve stability, and secure long-term growth. Definition of a Conglomerate o A large business organization that owns multiple diverse businesses. o Each business operates independently but is under the control of the conglomerate. o Growth is mainly achieved through mergers and takeovers. 2. Example of a Conglomerate: Tata Group (India) o Owns businesses across various industries, including: ▪ Tata Steel (metals), Tata Motors (automotive), Jaguar Land Rover (luxury cars), Tata Consultancy Services (IT), Tata Power (energy), Tata Chemicals, Tata Global Beverages (consumer goods), Tata Teleservices (telecommunications), and Taj Hotels (hospitality). o In 2017, Tata Group’s revenue exceeded $100 billion. 3. Advantages of a Conglomerate: a) Risk Diversification o Operating in multiple industries reduces risk. o If one business underperforms, profits from other sectors can compensate. b) Economies of Scale & Market Power o Large-scale operations reduce costs. o Influence in multiple markets provides business advantages. 4. Disadvantages of a Conglomerate: a) Management and Expertise Issues o Specialist skills from the original business may not be relevant to newly acquired companies. o Management may lack industry-specific knowledge, leading to poor decision-making. b) Inefficiency and Complexity o A large, diverse organization can become difficult to manage. o Conglomerates may hesitate to sell underperforming businesses, fearing reduced diversification. o Failure to streamline operations can limit growth potential. Points to remember: Conglomerates benefit from diversification, risk reduction, and economies of scale. However, complexity, lack of expertise in diverse industries, and inefficiencies can limit their success.  Effective management and strategic divestment of weak businesses are crucial for long-term sustainability. Financial Rewards of Mergers and Takeovers Mergers and takeovers aim to strengthen financial performance and create shareholder value. a) Stakeholder Benefits Shareholders in the target company often receive an immediate premium due to rising share prices during a takeover. Example: Primero shareholders received a 200% premium after being acquired by First Majestic Silver. Shareholders in the acquiring company benefit in the long term through: o Higher dividends. o Increased share prices (if the merger is successful). Improved job security as the merged business becomes more stable. Senior management compensation often improves after a takeover. b) Stronger Balance Sheet A merged firm has more assets and a stronger financial position. Diversification of assets lowers financial risk. Cash flow improvements occur due to higher combined revenues. c) Lower Costs Economies of scale reduce production and operational costs. Larger firms negotiate better supplier deals, reducing expenses. d) Lower Taxes Tax liabilities can be minimized by acquiring firms in low-tax countries. Businesses register activities in tax-friendly locations to reduce corporate tax burdens. Financial Risks of Mergers and Takeovers While mergers can provide financial benefits, they carry significant risks. a) High Integration Costs Merging two businesses is a complex, expensive, and time-consuming process. Key costs include: o Organizational and personnel restructuring. o Severance pay for dismissed employees. o Technical and system changes. o Training programs for new employees. Cultural differences between companies can create conflict and inefficiencies. b) Overpayment Risk  Many businesses pay too much when acquiring another firm. Studies estimate 70-90% of mergers fail due to overestimated financial benefits and underestimated costs. Example: Yahoo! overpaid $1 billion for Tumblr, despite the company having only $353 million in assets and $114 million in liabilities. c) Bidding Wars When multiple firms compete to buy the same company, the acquisition cost increases. Example: Tyson Foods’ takeover of Hillshire Brands: o Initial bid: $6.4 billion (by Pilgrim’s Pride). o Final accepted bid: $8.55 billion (by Tyson Foods). o 33.6% increase in price due to bidding war. Points to remember: Financial rewards include higher shareholder value, stronger balance sheets, cost savings, and tax advantages. Major financial risks include integration costs, overpayment, and competitive bidding wars that inflate acquisition prices. While mergers boost growth quickly, poor execution or misjudged valuations can lead to financial losses instead of benefits. Advantages of Inorganic Growth: a) Speedy Growth o Businesses can grow much faster than through organic growth. o Benefits such as: ▪ Increased market share. ▪ Lower costs from economies of scale. ▪ Greater market power. ▪ Higher profitability. o Quick growth benefits stakeholders like shareholders, employees, and suppliers. b) Strategic Benefits o Mergers/acquisitions improve strategic positioning. o Companies with complementary strengths can create a balanced and diverse product portfolio. o Acquiring a company can fill gaps in a product range instantly. o Strengths of one firm can offset weaknesses in the other. c) Economies of Scale o Cost savings occur almost immediately after a merger. o Example: ▪ Two merged companies need only one head office, reducing administrative costs. ▪ Larger firms benefit from bulk buying, resource specialization, and easier access to capital.  d) Elimination of Competition o Takeovers reduce the number of competitors in the market. o Fewer competitors may lead to: ▪ Higher prices (due to reduced market competition). ▪ Restricted consumer choice. ▪ Potential market dominance by one or a few firms. Points to remember: Inorganic growth is a faster expansion strategy, allowing businesses to quickly increase market share, reduce costs, and improve strategic positioning. Economies of scale and reduced competition help increase profitability. However, reduced competition can harm consumers, leading to higher prices and limited choices. Disadvantages of Inorganic Growth: a) Regulatory Intervention Market regulators monitor mergers to protect consumers from reduced competition. Investigations can cause delays and uncertainty. Regulators may block the merger or impose conditions (e.g., selling assets). Delays and legal proceedings increase costs and slow down growth. b) Financial Drain on Resources Mergers and takeovers require substantial financial investment. Example: United Technologies Corp paid $30 billion for Rockwell Collins Inc (2017). Excessive acquisitions can strain financial resources, leading to: o Cash flow problems. o Limited capital for other areas (e.g., R&D, marketing, expansion). c) Culture Clash Merging companies often have different workplace cultures, making integration difficult. Employees may resist changes if values & expectations differ. Example: A company with flexible work policies might struggle after merging with a strict, office-based culture. Rapid change without consultation can intensify resistance. d) Alienation of Customers Rapid expansion shifts focus away from customer needs. Brand name changes after a merger may confuse customers. Poor communication about brand values may damage customer loyalty. e) Loss of Managerial Control Fast-growing companies become harder to manage. More layers of management increase communication difficulties. Risk of diseconomies of scale, leading to rising costs and inefficiencies.  Chapter 8- Problems Arising from Growth Definition of Diseconomies of Scale Diseconomies of scale occur when a business expands beyond its minimum efficient scale (MES). Result: Long-run average costs increase as output rises. Internal Diseconomies of Scale (Firm-Level Challenges) a) Poor Communication Larger businesses have longer chains of command, making it difficult to communicate effectively. Internal inefficiencies can lead to delayed decision-making and poor external communication with customers. Example: Automated answering services can frustrate customers. b) Control and Coordination Issues Managing large numbers of employees, resources, and locations becomes more difficult. More managers and supervisors are required, increasing administrative costs. Example: Volkswagen (VW) emissions scandal (2015): o VW’s large size and complexity may have contributed to lack of control over operations. o The CEO was unaware of illegal activities related to emissions testing. c) Poor Worker Motivation Employees in large organizations may feel insignificant and less engaged. Can lead to: o Lower productivity. o Higher staff turnover and absenteeism. o Increased labour costs due to inefficiencies. Large firms may struggle with poor employer-employee relations, leading to disputes and conflicts. d) Technical Diseconomies Overuse of machinery and plants reduces efficiency. Example: o Agricultural industry – overworked tractors overheat and break down. o Chemical industry – two smaller plants may be more cost-effective than one large one because breakdowns completely halt production in large plants. e) Bureaucracy (Administrative Inefficiencies) Excessive paperwork and administrative processes slow decision-making. Too much time spent on reporting and form-filling rather than actual business activities. Longer communication channels lead to inefficiencies and rising costs. External Diseconomies of Scale (Industry-Level Challenges) Occur when an industry expands too much, leading to higher costs for all firms in that sector. Caused by overcrowding and increased competition for limited resources. a) Rising Factor Prices Increased demand for labour, land, services, and materials raises costs. Example: Japan’s construction industry (2020 Olympics) o Rapid industry growth led to higher wages for construction workers. o All firms in the industry faced rising labour costs. b) Geographical Concentration Issues When too many firms cluster in the same location, competition for resources drives up costs. Land prices, wages, and material costs increase as firms compete. Congestion and traffic delays cause inefficiencies in transportation and employee commutes. Points to remember: Internal diseconomies of scale make large firms harder to manage, reducing efficiency and increasing costs. External diseconomies of scale arise when an industry grows too large, leading to higher input costs and logistical inefficiencies. To avoid diseconomies of scale, businesses must carefully control growth, streamline operations, and ensure efficient management structures. Definition of Internal Communication Internal communication is the exchange of messages and information within a business, such as: o Between employees. o Between departments. Growth of a business can create communication problems, making it harder to share accurate information. Problems Caused by Poor Internal Communication a) Longer Communication Channels As a business grows, management layers increase, making communication slower and more complex. Messages can become distorted, leading to misunderstandings and conflicts. Wasted resources and reduced productivity occur when misunderstandings cause errors. b) Technology’s Mixed Impact on Communication ICT advancements (emails, video conferencing, instant messaging) have improved internal communication. Large teams can receive instant updates via email. Video conferencing enables global collaboration. However, IT failures can disrupt communication entirely, creating new problems. c) Duplication of Resources Poor communication wastes resources when different departments work on identical tasks unknowingly. Example: o A German division of a company develops a complaints policy. o An Indonesian division creates the same policy, leading to unnecessary duplication. Better communication prevents redundancy and optimizes efficiency. d) Silo Mentality (Lack of Collaboration Between Departments) Departments compete for resources rather than sharing information. Lack of collaboration leads to: o Increased conflict between departments. o Missed business opportunities. o Higher operational costs. Overtrading a) Lack of Capital (Undercapitalization) Some businesses start with insufficient capital. Not enough cash to buy materials or resources to fulfill increasing orders. Struggles to meet demand, leading to financial strain. b) Excessive Trade Credit to Customers Businesses may offer long credit terms (90-120 days) to attract customers. Delayed payments = cash flow shortages. Business cannot reinvest in stock or operations due to lack of cash. c) Small Profit Margins Lower prices = lower profit margins. Not enough profit to finance expansion. Business may struggle to cover operational costs, despite high sales volume. 3. Consequences of Overtrading Severe cash shortages. Threatens business survival. Careful financial management is essential to prevent collapse.