Organic Growth Exam Revision Topic 1 PDF

Organic Growth Exam Revision Topic 1 Reza Salehnejad Alliance Manchester Business School [email protected] November, 2024 Organic Growth How do small firms (startups) grow organically? Reza Salehnejad (AMBS) Economic Analysis II Nov...

Organic Growth Exam Revision Topic 1 Reza Salehnejad Alliance Manchester Business School [email protected] November, 2024 Organic Growth How do small firms (startups) grow organically? Reza Salehnejad (AMBS) Economic Analysis II November, 2024 2 / 24 Key Themes: Startups, Productivity & Firm Growth Internal (organic) versus external growth Sources of startup success Venture capital and startup success Productivity, cost structure, and growth Channels of organic growth The Role of demand and demand creation Supply-side versus demand side growth strategies Historical cases The impact of external factors on firm growth Reza Salehnejad (AMBS) Economic Analysis II November, 2024 3 / 24 Question 1: Growth Modes Explain factors that may influence a firm’s choice between organic and external growth. Answer: Organic growth is often slower, requires competing with other incumbents in the market, and may necessitate access to assets that are hard to trade. External growth can provide access to new markets and help firms to gain access to assets that are hard to trade. Organisational integration may, though, appear challenging. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 4 / 24 Question 2: Sources of startup success Why Are Some Start-ups More Successful? Reza Salehnejad (AMBS) Economic Analysis II November, 2024 5 / 24 The Intra-industry Spin-off theory Start by the learning by doing theory of start-up formation – 70% of founders have previous employment experience, often in the same sector. Employees acquire know-how while working for a firm and eventually capitalise on that know-how by starting their own firm. Predictions: 1. Senior level employees are more likely to attempt a spin-out; 2. Better performing firms may have better performing intra-industry spinoffs 3. Industry-industry spinoffs are likely to survive longer, grow larger, and perform stronger 4. More spin-offs in industries where knowledge is embodied in employees 5. Higher chance to secure VC funding – past employment experience as credible signal. Higher productivity, lower AC, stronger at demand creation and startup growth Reza Salehnejad (AMBS) Economic Analysis II November, 2024 6 / 24 Question 3: VCs & Startup Growth How does venture capital impact firm growth and innovation? What are the key synergies between startups and financiers? How does assortative matching affect growth overall/ Reza Salehnejad (AMBS) Economic Analysis II November, 2024 7 / 24 The Impact of Venture Capital on Firm Growth Venture capital (VC) plays a critical role in fostering firm growth and innovation, significantly impacting both individual firms and the overall economy. Selection Effects: Venture capitalists are highly selective in their investments, targeting startups with strong growth potential and innovative capabilities. Empirical evidence shows that VC funding is concentrated in firms that exhibit high early-stage employment growth and patent activity. This suggests that venture capitalists rely on their experience and expertise to identify promising startups early on. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 8 / 24 The Impact of Venture Capital on Firm Growth Treatment Effects: VC involvement goes beyond mere financial support. It includes providing management advice, mentoring, industry expertise, and access to business networks, which contribute significantly to a startup’s post-funding growth. Studies show that VC-backed firms experience significantly higher employment growth and innovation compared to non-VC-backed firms with similar characteristics This indicates that the expertise and guidance provided by venture capitalists play a crucial role in accelerating the growth of their portfolio companies. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 9 / 24 The Impact of Venture Capital on Firm Growth Assortative Matching: The relationship between entrepreneurs and venture capitalists is characterized by assortative matching, where startups with better growth and innovation prospects are more likely to be funded by more experienced and capable venture capitalists. This synergistic relationship leads to better outcomes for startups, as evidenced by the superior performance of firms backed by high-quality venture capitalists, even after controlling for initial funding levels. By targeting high-growth and innovative firms, venture capital foster the emergence of ”superstar” firms. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 10 / 24 Question 4: R&D Investment, Productivity & Growth Explain how investment in R&D contribute to firm growth, while distinguishing between product and process innovation and supporting your analysis using relevant economic graphs and data. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 11 / 24 Question 5: Learning-by-Doing Define the learning-by-doing hypothesis. Explore some of the implications of the hypothesis for the growth of small firms as opposed to large firms. How may learning by doing give rise to the rise of superstar firms? Reza Salehnejad (AMBS) Economic Analysis II November, 2024 12 / 24 Key Themes: Learning-By-Doing Graph Learning by doing Forces firm’s AC curve down AC AC Lower AC at all output level AC1 A major source of first mover AC2 advantage AC3 A key driver of cost leadership Creates entry barrier A source of industry path- dependence Cum Q Q Learning by doing & Firm growth Through cost leadership, Learning by doing Learning by doing higher market share, and Similar to R&D requires investment Partially explains the economies of scale Properly designed incentive negative relationship system between firm age and firm Low prices or zero profit growth margins at the start Learning by doing A firm must create profit margin by achieving Effectively, learning by doing learning by doing, not by charging higher prices should be accompanied by demand creations strategies. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 13 / 24 Question 6: The Critical Role of Demand How do market frictions affect firm growth trajectories? What are the various channels through which demand and demand creation impact firm productivity? Discuss known demand-sided growth strategies. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 14 / 24 Market Frictions & Demand Creation While traditional theories focus on productivity and price differences, they often overlook the significant impact of market frictions on a firm’s ability to scale up and achieve dominance. Market Frictions: Consumers face significant challenges in finding prices, discovering products, evaluating quality, and making purchasing decisions. These frictions, including search costs, information asymmetry, and preference uncertainty, reduce the impact of price differences and slow down demand growth. This, in turn, limits firms’ ability to exploit economies of scale and achieve the virtuous cycles that drive firm growth. Achieving high productivity requires sufficient demand, which enables firms to benefit from learning curves, economies of scale, specialization, and attract resources for R&D and talent acquisition. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 15 / 24 Demand, Demand-Side Strategies & Firm Productivity Increased demand and demand creation activities can lead to higher firm productivity through three main channels: Spillover Channel: Demand increases allow firms to utilise resources more efficiently. For example, higher demand could allow a firm to invest in automation, which might only be cost-effective at scale. This is similar to how R&D spending can boost productivity by improving the use of existing production technologies. Demand-side investment can similarly drive productivity by making it feasible to invest in and efficiently use supply-side production factors, further encouraging investment in these factors. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 16 / 24 Demand, Demand-Side Strategies & Firm Productivity Scale Channel: Demand creation activities, such as advertising and branding, can help firms gain market share. This allows them to take advantage of economies of scale, dynamic scale economies (learning-by-doing), and specialisation, all of which improve productivity. These advantages can then trigger the winner-take-most mechanisms associated with superstar firms. In other words, demand-side investment is crucial for starting the processes that can lead to superstar status. Profitability Channel: Firms with strong brands tend to be more profitable due to higher brand awareness, product consideration, and a reputation for quality. Brand loyalty can prolong these benefits. Increased profitability allows firms to further invest in things that improve productivity, like IT, technology, human capital, and skilled management. In summary, the sources argue that demand and demand creation are crucial for driving firm productivity. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 17 / 24 Question 7: Tesla An open market space Critical initial decisions Knowledge accumulation strategy Smart scalability Scale and scope complementarity Smart market entry strategy & Branding Reza Salehnejad (AMBS) Economic Analysis II November, 2024 18 / 24 Question 8: Xiaomi’s Growth Strategy How did Xiaomi’s strategic coalescence drove explosive growth? Reza Salehnejad (AMBS) Economic Analysis II November, 2024 19 / 24 Strategic Coalescence (Growing Together!) Xiaomi’s strategic coalescence involves deeply connecting with both demand and supply-side stakeholders, creating tangible benefits for everyone involved, and stimulating substantial market expansion. Xiaomi’s approach involved focusing on a few key aspects: Coalescence with Consumers Coalescence with Partners Reza Salehnejad (AMBS) Economic Analysis II November, 2024 20 / 24 Coalescence with Consumers Entering the Chinese smartphone market, Xiaomi differentiated itself by offering a free, customisable Android-based operating system (MIUI). Xiaomi fostered an online community of tech-savvy users to gather feedback and understand their preferences. They released weekly OS updates, promptly addressed user suggestions, and fostered a collaborative development process. This approach enhanced brand awareness and prepared the market for Xiaomi’s phones without traditional advertising. When Xiaomi launched its first phone, it adopted a direct-to-consumer sales model, bypassing intermediaries and offering an unbeatable price-to-feature ratio. This strategy resulted in high demand and rapid growth. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 21 / 24 Coalescence with Partners Xiaomi leveraged its smartphones as a central control hub for various smart home products. They partnered with companies to rapidly expand their IoT offerings. Offering a diverse range of products, including non-smartphone items with higher margins, made offline stores more profitable. It also attracted a wider customer base, creating opportunities for cross-selling. Xiaomi used online sales data to optimise product selection and placement in offline stores. Offline stores provided opportunities for product demonstrations, which could lead to immediate or online purchases. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 22 / 24 Question 9: External Factors Studies of firm productivity emphasize both within-firm and environmental (structural) drivers of productivity. Explain the mechanisms through which environmental factors drive firm productivity. Ideally, you need to refer to historical evidence to support your answer. Reza Salehnejad (AMBS) Economic Analysis II November, 2024 23 / 24 The Effect of External Factors on Organic Growth Environmental Factors Driving Firm Productivity Competition Deregulation/Proper Regulation Flexible Input Markets Mechanisms of Influence Productivity Spillovers Darwinian Selection Within-Firm Efficiency Reza Salehnejad (AMBS) Economic Analysis II November, 2024 24 / 24