Introduction to Business and Economics 2019 PDF

Bettina Fuhrmann Introduction to Business and Economics WU Bachelor Program Business and Economics – Study Material for the Entrance Exam Foreword and acknowledgements This script has been written for students who are interested in the English WU bachelor study programme Business and Economics an...

Bettina Fuhrmann Introduction to Business and Economics WU Bachelor Program Business and Economics – Study Material for the Entrance Exam Foreword and acknowledgements This script has been written for students who are interested in the English WU bachelor study programme Business and Economics and want to take the entry exam. The content of this script has been taken from the book Fuhrmann, Bettina: Introduction to Business and Economics. Verlag Jugend & Volk, Wien, 2019. It is the aim of this book to explain some basic concepts of business and economics and their interrelationships to those who are interested but have little previous knowledge of business matters and economic issues. As both business studies and economics are comprehensive, multifaceted and interdisciplinary scientific fields, a short introduction can only cover selected topics. Nevertheless, it is the intention of this short introduction to provide a solid basis on which to build more knowledge as well as to spark an enduring interest in business and economics and motivate readers to learn more. Such a textbook – no matter how many pages it has – always profits from feedback from other business teachers who are experts in their respective fields. I consider myself very lucky to have colleagues who have done so and contributed to the development of the text. Therefore, I would like to thank (in alphabetical order) Nora Cechovsky, Jesus Crespo Cuaresma, Ingrid Dobrovits, Eva Eberhartinger, Richard Fortmüller, Gerhard Geissler, Edith Littich, Harald Oberhofer, Rupert Sausgruber, Christiane Schopf, Gerhard Speckbacher, Rosanna Steininger, Barbara Stöttinger and Julia Szoncsitz for their valuable comments on the manuscript. I would also like to thank my family for letting me work on the book not only during countless evenings but also on weekends. As it is my firm belief that economic knowledge is of utmost importance to each and every person regardless of his or her age, gender, or personal background, I dedicate the book to all young learners who should understand – the sooner the better – that they are all an active part of the economy and there is no opting out of economic decisions. Bettina Fuhrmann Director of the Institute for Business Education Vienna University of Economics and Business Vienna, 2019 2 I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S Contents 1. Introduction to business matters 4 2. Basic economic concepts 7 2.1 Being part of the economy 2.2 Scarcity of resources and opportunity cost 2.3 Economics is the study of economic decisions 2.4 Exchanging goods and services creates a circular flow and division of labour 2.5 Different economic systems 2.6 Supply and demand: households, businesses and the government meet in the market 2.7 Competition in the market 3. Focus on different types of businesses 3.1 3.2 3.3 3.4 3.5 3.6 Businesses combine different factors of production Businesses operate in the primary, secondary and/or tertiary sector Businesses can be profit-oriented or not-for-profit Businesses come “in all sizes”: large and small Businesses may be local, national or international Businesses operate in an environment – stakeholders are important 4. Forms of business ownership and sources of finance 4.1 4.2 4.3 4.4 4.5 4.6 Sole proprietorship / sole traders Partnership Corporations Summary: Overview of forms of business ownership Overview of sources of finance The choice of the source of finance 5. Marketing 5.1 5.2 5.3 5.4 5.5 5.6 5.7 What a product is Objectives of marketing Product orientation versus market orientation The need for more responsibility and sustainability Market research Market segmentation and targeting strategies The marketing mix 6. Accounting – keeping record of business transactions 6.1 6.2 6.3 6.4 6.5 What a balance sheet is Other components of the financial statement of a business What can be learnt from reading a balance sheet and an income statement Use of these accounts – types of accounting Analysis of financial statements 7 7 8 8 10 11 14 15 15 15 16 17 17 18 21 22 23 23 28 29 29 30 31 31 32 33 33 37 39 50 50 52 55 58 59 … to be continued in the book 7. Personnel management – because people matter 8. Writing a business plan 9. Case study I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 3 Basic economic concepts 1 Introduction to business matters Over the past few years Tina has noticed that quite a lot of people buy new computers even though their old ones are still working. At the same time other people are perfectly happy with a used computer as long as it works. They do not need to have the latest model, they are just interested in having access to the Internet and the computer programs that they want to use. What is more, many people need help to get started with their new computer, and some also need help later on with new releases of software, data storage and security issues. At school and also later during their university studies, Tina and her former classmate Steve specialised in computer science and in business. They have always tried to help their families and friends with any computer issues. And as more and more friends of their friends as well as neighbours and acquaintances of their families have asked for help, they have considered starting a business that offers a wide range of professional computer services. A business is an entity that offers goods and/or services to customers. Businesses do not produce primarily for their own needs or work exclusively for their families’ and friends’ needs, but for someone else: for their customers. Businesses usually charge a price for their goods and services so that they get something in return. Exchanging goods and services against money or other means of payment (or exchange) is a main characteristic of the economy. Tina and Steve consider the following idea: buying used computers at a low price, checking and repairing them (if necessary), and adjusting/modifying them to the needs and wishes of their customers. By doing so, Tina and Steve are able to offer ready-to-use computers at an affordable price and create value for their customers. They also consider offering additional services such as setting up the computer at the user’s home, installing software, connecting the computer to the Internet, explaining how to use the computer etc. Another idea that comes to their minds is offering online help for problems that might occur. Customers facing a problem with their computer would be supported within 24 hours. Tina and Steve are even considering developing tailor-made software for their customers. With so many ideas, Tina and Steve are convinced that they can start a profitable business. That is exactly what they want to do as they need to earn money to make a living. 6 I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S Alternatively, Tina and Steve could easily find jobs that they are interested in because they both have a profound knowledge of business and computer science. During their studies both of them worked for AT&S, the Austrian company Austria Technologie & Systemtechnik AG, for a couple of months and they liked that very much. AT&S (https://ats.net/de/) is a manufacturer of high-end printed circuit boards and of new technologies such as IC substrates, mSAP and advanced packaging. It is located in Styria with some production sites in Asia and ranks among the globally leading companies in that field. In Europe, AT&S is the market leader, with revenue of about €990 million and almost 10,000 employees. However, at the moment, they both prefer the idea of being self-employed, generating their own ideas, creating something new and being their own bosses. They prefer to become entrepreneurs who have developed an idea, solve problems and create value for their customers, take a risk and make sensible economic decisions. They consider further aspects about founding their business. They are ready to work long hours and invest their savings in the business. They have found a business location that they consider appropriate, where they could rent two rooms in an office building for meeting with customers, working and developing software, storing the computers and other equipment. Additionally, they would need a car or – even better – a small van that they would use for transporting the computers between their customers and their office. Tina’s car, which she does not really use very often, could be used for that purpose, at least for the first few months. Yet, they know from what they have learned during their business studies that there are a few more questions to be considered. The following chapters cover the basic knowledge that is needed for answering these questions. Important questions to be considered before setting up a business Questions Which people and organisations have an interest in the business and/or are influenced by Tina’s and Steve’s business activity? covered in chapter Chapter 2 Basic economic concepts How does Tina’s and Steve’s business influence the environment and the economy? What kind of business will Tina’s and Steve’s business be? Chapter 3 Focus on different kinds of businesses Tina and Steve work as a team, so which legal form should their business have? Do Tina and Steve have enough funds to finance their business? What sources of finance could and should they use? Chapter 4 Forms of business ownership and sources of finance As they will have bills to pay or might have to repay a loan, how can they make sure that they have the funds for that and who will be liable for these payments? I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 7 Basic economic concepts What exactly do their potential customers want and need, and how can these needs be addressed? Will there be (continuous) demand for what they want to offer? Chapter 5 Marketing How many people could potentially be interested in their offer (market potential), and are there any competitors in the market? How much would people be willing to pay for their products and services and in which way would this price be affected if the market changed? How can a business communicate its offer to its potential customers? How will Tina and Steve know that their business is thriving? How will they know if their financial situation is solid? How will they know if their business not only generates profit but also turns profits into cash? Why are skilled and talented people so important for a business? What are the tasks of personnel management and how can employees be motivated? What is a business plan and why is it written? What is the structure and the content of a business plan? Summary and application of the learning content Chapter 6 Accounting – keeping record of business transactions Chapter 7 Personnel management – because people matter Chapter 8 Writing a business plan Chapter 9 Case study As Tina and Steve are thrilled about their business idea, they cannot wait to find answers to all these questions. 8 I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 2 Basic economic concepts Before going into details about what a business is and how it is run, it is necessary to understand the business environment, and the economy that it becomes a part of. It is also important to understand some basic economic concepts that have an influence on the economic decisions not only of businesses but also of individuals, such as what to offer (to sell) and what to purchase, how to manage the available resources and how to finance the expenditures. 2.1 Being part of the economy By running a business, Tina and Steve are an active part of the economy as entrepreneurs. Businesses provide goods like computers and services like installing software for people who need these goods and services to satisfy their needs. Their needs might include having a computer as well as getting technical support. Not only individuals, but also businesses have needs: manufacturers of smartphones, tablets and laptops might need the printed circuit boards (PCBs) that are produced by AT&S. In turn, AT&S needs raw materials and a workforce to produce these PCBs. And individuals might also exchange goods and services with each other, like selling a house, an apartment or a used car, or exchanging vegetables or flowers from the garden and getting a bottle of wine in return. In the economy, people and businesses exchange goods and services to fulfil their needs and wants. Therefore, Tina and Steve were part of the economy a long time before starting their business. As individuals, they have been part of private households and have bought goods and services from a wide range of businesses. Like thousands of other households, they need food, a home to live in, medical care, a car and/or other kinds of transportation, they want to do sports or go to the cinema, to a café or a restaurant. Businesses offer the goods and services that people (as part of private households or other businesses) need and/or want. ∎ ∎ ∎ Exchanging would be much easier if all that we want or need is available in abundance, but that is not the case. Resources are scarce and need to be managed. This is why we all need to economise. No one is able to opt out of making economic decisions. 2.2 Scarcity of resources and opportunity cost Both households and businesses only have limited resources to pursue their goals: businesses have a certain number of machines and tools and a limited amount of material and financial resources to produce their goods and provide their services. Likewise, households only have a certain income that they are able to spend on purchasing goods and services, with maybe a part of that income left for saving. Resources are always scarce, and this scarcity of resources forces businesses as well as individuals to make decisions on how to use those limited resources: what and how to produce, what to buy, how much to spend. It is a basic economic problem of households, businesses and the government to decide how to use their limited resources and to make choices when allocating these scarce resources between different options. Tina and Steve can either found their own business or they can take jobs at another business and become employed. If they earned 35,000 euros I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 9 Basic economic concepts per year in such a job, this 35,000 euros would be their opportunity cost per person if they decided to set up their own business. If they took these jobs, they would also have opportunity cost: the amount of money that they could have earned with their business. Of course, it would be difficult to tell how much that could have been. Opportunity cost is the (financial) benefit of the (next best) alternative that is lost or given up in order to choose or achieve something else. 2.3 Economics as the study of economic decisions Economics is the study of how individuals (as part of private households) and businesses make decisions to satisfy their needs and wants with limited resources. It comprises a number of scientific fields and branches, two of which are microeconomics and macroeconomics. Microeconomics focuses on the behaviour and decisions of individual households and businesses and how they interact. A question in microeconomics could focus on the change in demand of electric cars if buyers of electric cars receive a bonus. In contrast, macroeconomics looks at the bigger picture and deals with questions concerning the overall economy (of one country for example) and aggregate quantities. Among other phenomena, it studies economic growth, unemployment, interest rates, price levels and inflation. As a science, economics strives to explain the observed phenomena and also to make predictions, both based on various theories. 2.4 Exchanging creates a circular flow and division of labour While households mainly offer labour and receive wages, businesses offer goods and services that are bought by households and other businesses and receive money for what they sell (see figure 1). This is how a circular flow of goods, services and money is created. As money is used as a means of exchange that is widely used and accepted, these exchanges can be carried out relatively easily. Without money, people would have to barter, which is much more complicated. If you want to acquire a good from another person, but do not have what this person wants in return, there will be no exchange. Money allows for a ∎ ∎ ∎ flexibility of exchange (first function: medium of exchange). It also allows us to express the value of things (second function: unit of account) and to store value over time (third function: store of value). Money fulfils these functions best if its value remains pretty stable over time. However, if there is a general rise in prices of goods and services, you can only buy a lower amount of goods and services, which means that the purchasing power of money (i.e. its value) declines. Price indexes allow us to measure the extent of this general increase in prices, a phenomenon that is also called inflation. Low inflation rates can be tolerated. The European Central Bank considers an inflation rate of slightly below 2% per year most beneficial to the economy. But if inflation rates are considerably higher, the purchasing power of money decreases considerably. As the amount of goods and services that can be bought for a certain amount of money continuously decreases, people lose their trust in money and try to get rid of it. 10 I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S Goods , se ents aym Government rvi (public authorities) ce sa Ta ser vi Goods, s xe ies Ta s xe id bs ce su s, t an p er sf nd r In the circular flow of the economy (see figure 1), public authorities (mainly governments) also play an important role. They levy taxes from households and businesses and use the money to provide goods, transfer payments and subsidies. Such goods as infrastructure (e.g. streets and street lights) and services like national defence and public security (e.g. police) need to be provided by governments and financed by taxation. There is demand for these goods, but private businesses would not want to supply them as “free riders” (people who do not pay for a good or service) cannot be excluded from enjoying them. In many – but not all – countries health care and education are also provided (at least to a large extent) by public authorities. Goods and services Payments Private households Businesses Labour Wages Figure 1. The circular flow of goods, services and money within the economy Division of labour and specialisation Without exchange of goods and services, individuals would have to produce everything they need themselves. That would be very difficult, time-consuming and inefficient because they would have to spend time on performing tasks that they lack the skills for. Exchanging goods and services allows for the division of labour and therefore specialisation. Individuals and businesses can concentrate on what they can do best. This explains the wide variety of jobs and of businesses. Using a widely accepted means of exchange like money facilitates the exchanges. Specialisation can be found on many levels: ∎ ∎ Within households, for example where individuals can concentrate on what they can do best or what they like doing (like one individual does the shopping, the other one the cooking). The same principle applies to businesses: within businesses, some people concentrate on production, others on procurement, some others on sales, on recording all I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 11 Basic economic concepts ∎ ∎ financial transactions or on managing human resources. Accordingly, these (different) tasks of a business are often summarised in different departments of a business: procurement, production, sales department, marketing, finance and accounting. Specialisation can also be found between businesses as every business focuses on a special range of products: some offer all kinds of furniture, others just beds and couches, some others just produce kitchens. These businesses operate on the same level of production. But specialisation can also be based on division of labour between businesses on different levels of production (first level: production of wood and iron, second level: production of boards and nails, third level: production of tables, final level: selling them) or in different sectors of the economy (see chapter 3). Specialisation can also be found on an international level, as countries differ in climate, natural resources, geographical position and many other characteristics. Due to very different characteristics, countries also differ in their conditions for different industries (industry being a number of businesses that produce or sell the same product) and different business functions. AT&S for example has production sites in Europe as well as in Asia (China, India and South Korea). While production in Europe is highly diversified and relatively low in volume, production in Asia reaches a much higher volume but has a lower product diversity. This kind of division of labour can be explained by differences in terms of know-how of the workforce, labour costs, availability of other resources and the legal framework in different countries. While division of labour has many advantages, it also has some disadvantages that need to be considered: for very specialised workers, work may become boring over time. Being specialised also means less flexibility as it is hard to develop other skills or develop competencies in other fields. A specialised business may be brilliant in that field, but if – for some reason – that specialisation is not needed anymore, the business is at risk and people could lose their jobs. 2.5 Different economic systems The role of governments described above is mainly true for the governments in some sort of market economy. While in market economies individuals and businesses are – more or less – allowed to make many of their own economic decisions, in planned economic systems the governments play a dominant role. They (mainly or partly) decide which goods are produced and which services are offered (at which prices). Furthermore, they (mainly or partly) control the resources and the means of production. People have a limited choice of which job to do and which products to buy. In most countries of the world, economies can be characterised as some kind of market economy. In some of these countries, the governments play a minor role by only providing the legal framework and not influencing the economy much, so their economic system comes close to what is called a “free market economy”. In many other countries, the government plays a more important role by influencing the economy to a somewhat higher extent, by supporting the poor and protecting the environment for example. These systems are called “social market economies” or “eco-social market economies”. Over the past decades, a lot of former communist countries that used to have planned economic systems have adopted the main principles of the market economy. Many Central and Eastern European Countries (CEE), China and former Soviet countries are examples of such a transformation. 12 I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 2.6 Supply and demand: Households, businesses and the government meet in the market In a market economy, goods and services are offered and sold on/at markets. Buyers and sellers meet to communicate the conditions of exchanging goods and services and thus form a market. A market can be an actual place, like a flower market in the city of Rome or a flea market in a small village, but it can also be a virtual place like a market on the Internet (e.g. eBay, Amazon). Buying and selling take place in shops, but also on the phone. Therefore, there are many different markets, also depending on what is offered: consumer goods markets, labour markets (supply and demand for work), housing markets, money markets, capital markets, commodity markets (supply and demand for raw materials). 2.6.1 The law of supply Supply (of a certain good or service) is the quantity of that good or service that is available for purchase. Basically, this quantity mainly depends on the businesses’ production capacities and the available resources, but also on the price that can be charged for the good or the service. The higher this price is, the higher the supply will be. All other things held constant (“ceteris paribus”), this relationship is true for most goods and services in the economy (law of supply). In Tina’s and Steve’s case, the quantity of hours that they (as well as other providers of similar computer support services) are willing to work depends on the price they can charge and that will be paid. It is tiring work and the providers of this service need to be very skilled. If the price is low, let’s say below 30 euros per hour for example, no provider would offer that service. The opportunity cost would be too high: as the providers are very skilled, they could earn more money by doing something else (that is also less tiring), so they would leave this market and offer another kind of service. The higher the price, the higher the number of hours that would be offered. More potential providers would enter the market and would be willing to offer a higher number of hours of their service. The shape of the supply curve can also be explained by the concept of increasing marginal costs faced by many industries and businesses. Marginal cost is the cost of producing an additional unit of a good or by providing an additional unit of a service. As output increases and exceeds a certain level it will become more and more costly to produce; businesses need to build higher capacities (machinery, personnel) so marginal costs would rise. Only Supply per week 250 Price 200 150 100 50 0 0 5 10 15 20 25 30 Quantity I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 35 40 45 Figure 2. The supply curve (price in euros, quantity in 1,000 hours) 13 Basic economic concepts if the price level increases and exceeds (or at least equals) marginal costs would businesses be willing to produce and supply a higher amount. Figure 2 shows the relationship between prices and supply in the market for computer support services (e.g. within a country). 2.6.2 The law of demand Demand, on the other hand, is the quantity of a good or service that customers are willing and able to buy. Usually the higher the price is, the lower demand will be. The more Tina and Steve as well as other providers charge for their technical computer support service per hour, the more demand will decrease (because more and more people cannot afford such high prices or are not willing to pay such high prices for that service and will instead look for other ways to get help with their computer problems). People’s willingness to pay a certain price is related to the utility or the level of satisfaction the people get from consuming the service. Figure 3 gives you an idea of how many hours of technical support would be demanded in the market, depending on the price. Demand per week 250 Price 200 150 100 50 0 0 10 20 30 40 50 Quantity 60 70 80 90 100 Figure 3. The demand curve (price in euros, quantity in 1,000 hours) The graph in figure 3 shows that the quantity demanded decreases as the price rises. Accordingly, the quantity demanded (the quantity that people are willing and able to buy) increases as the price falls. Therefore, the quantity demanded is negatively or inversely related to the price. All other things equal (“ceteris paribus”), this relationship can be found with almost all goods and services in the economy, so that it is also called the law of demand. 2.6.3 The market equilibrium If we have a look at both curves, we can see that they intersect at a certain point, at the price of 150 euros. At this point, the quantity of hours that is demanded in the market equals the quantity of hours that is supplied. Assuming that these curves represent supply and demand in the whole market for computer support services, this price would also be called the market price or equilibrium price (because supply equals demand). At the price of 150 euros per hour demand and supply balance each other out. As the quantity supplied equals the quantity demanded, there is neither a surplus (higher supply than demand) nor a shortage (higher demand than supply). At a higher price, demand would be lower than supply and vice versa. 14 I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S Supply and demand 250 Price 200 150 100 50 0 0 10 20 30 40 50 60 70 Quantity 80 90 100 Figure 4. Supply and demand intersect at the market price (price in euros, quantity in 1,000 hours) In the real world, other factors than price also affect demand and supply. Demand is also affected by: ∎ ∎ ∎ ∎ Changes in income: If income increases, people can afford more (and more expensive) computer services and – all other things held constant – demand would increase (so the demand curve would shift to the right). Similarly, if income decreased, people would not be able to spend so much money on technical support anymore, and consequently, demand would decrease (and the demand curve would shift to the left). Changes in consumer preferences: More and more people might want to have additional technical support, so demand would increase. In a different scenario, people could possibly like to have new and faster computers, so demand for used computers would decrease (regardless of the price). Complementary goods: If an additional service is offered that is related to the computer support service and that people are highly interested in, demand for computer services would be very likely to increase. The availability of substitute goods: If people found a service that perfectly substitutes computer support services, the demand for computer support service offers would also decrease. This effect will also be discussed in chapter 5, Marketing. Supply is also affected by: ∎ ∎ ∎ ∎ Number of suppliers: The more profitable a market is considered to be, the more suppliers will enter this market. As the number of suppliers increases, supply will increase (the supply curve would shift to the right), until supply is so high that prices fall again and no more additional suppliers enter the market. Technological changes: These might enable more people to provide computer services and enter the market. Changes in resource prices: If the costs for offering the service decreased but prices for the services stayed the same, more providers would be willinwg to enter the market. Price expectations: If providers think that prices in the computer market could fall, they will probably think of some other field of business to work in and reduce their supply in their original field of business. I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 15 Basic economic concepts Supply and demand for money Please note that the laws of supply and demand also help to understand one of the main causes of inflation. If the quantity of money within a country is increased (in order to stimulate the economy), people and businesses are able to buy more and to invest, so demand for goods and services usually rises. If the quantity of available goods and services in this country remains the same and does not increase accordingly, then the prices for goods and services will rise. “Too many dollars chasing too few goods” expresses very well what inflation is about. It is by increasing the price for money, i.e. the interest rates, that inflation can be fought. If it is more expensive to borrow money, people and businesses tend to spend less, demand for goods and services decreases again and so do their prices. 2.7 Competition in the market The level of competition in a market is mainly influenced by the number of suppliers and the availability of substitute goods. If there is just one supplier, the market situation is called a monopoly. Monopolies are rare in a market economy but there might be goods and services that are only provided by one business (like the railway in some countries). Some businesses might not be the sole suppliers in the whole market, but they might be the only supplier within a certain area, which also makes them a kind of monopolist. The owners of a ski hut might be in a monopoly-like situation if they are the only ones to offer food and beverages on a particular mountain. A theatre bar is in a similar situation. Tina and Steve could find themselves in such a situation if they are the only ones that offer such a service within a radius of 50 km for example. If there are a few suppliers, the market form is called an oligopoly. Each supplier has a relatively large share of the market (e.g. telecom companies, car manufacturers). Competition can be strong, because as soon as one supplier changes the product or the price, its competitors are very likely to react in order to maintain their share of the market. Alternatively, suppliers could try to negotiate their terms of sale in order to prevent such harmful competition. Such agreements – also called a cartel – are usually not considered legal. In general, laws support competition in a market because it is considered beneficial for customers. Perfect competition can (theoretically) be found in markets with so many suppliers and buyers that no single individual or business can possibly influence the price. Considering perfect competition, in economics we also assume the following (theoretical) prerequisites: ∎ ∎ ∎ All market players (buyers and sellers) must have access to all information at all times. There must not be any barriers to enter or exit the market. There must not be any (personal) preferences – i.e. goods, as mentioned, must be replaceable. In real life, perfect competition is rarely found but, nevertheless, some markets come close to the concept of perfect competition. These are markets for goods and/or services that are almost identical (regardless of the supplier), e.g. agricultural markets, or that can be standardised. Even if the number of suppliers is not so high, competition can be almost “perfect” if competition among suppliers is especially fierce. 16 I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 3 Focus on different types of businesses Private households come in many different forms – large families, singles, couples, with or without children – and so do businesses. The large variety of businesses is due to the fact that they differ in the factors of production that they combine, in the sector(s) they operate in and in size. But they all need to consider their stakeholders around them and the environment. 3.1 Businesses combine different factors of production As mentioned earlier in the introduction, a business is an entity that offers goods and/or services to customers. In order to do so, it combines different factors of production, the resources used to create goods and services. The most important factors are ∎ ∎ ∎ ∎ ∎ labour (all human resources), land (all natural resources), capital (resources like machinery, plant, vehicles, financial resources), and entrepreneurship (which brings land, labour and capital together) as well as knowledge and technology. Depending on the factors that are dominant for the production process, a wide range of businesses can be found. Tina and Steve are mainly combining their own knowledge and skills, labour, technology and some capital as well as entrepreneurship. AT&S combines all factors of production. A winemaker with large vineyards combines land, labour, capital and entrepreneurship, but his business might also be dependent on his knowledge, experience and some technology. 3.2 Businesses operate in the primary, secondary and/or tertiary sector Depending on what a business does, it contributes to one (or more) of three sectors of the economy. The three-sector model differentiates between three sectors of activity: The primary sector refers to the extraction of raw materials from the earth. It mainly comprises farming, fishing, mining and forestry. Emerging countries (which are economically less developed) usually depend largely on the primary sector. Businesses of the secondary sector transform raw materials into goods (manufacturing). Such businesses produce cars, ships, machinery, printed circuit boards and IC substrates (like AT&S), computers, clothes etc. I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 17 Focus on different types of businesses The tertiary sector comprises the service industry, like distribution, banking, insurance, coaching etc. Tina and Steve offer services: they trade goods, develop software and provide technical support. The more the economic development of a country advances, the more important the third sector becomes. In economically highly developed countries, like EU countries with a high gross domestic product (GDP) per capita (indicating a high standard of living), the tertiary sector usually accounts for more than 70% of the output of the economy, while the primary sector – as important as it may be for providing food – only accounts for a small percentage of the output of the economy. Please note that GDP is the total monetary value of final goods and services that are produced within a country’s borders in a certain time period (usually a year). Therefore, it is considered to measure the overall economic activity of a country. GDP is also used as an indicator for economic growth: if GDP (adjusted for inflation) increases over time, the economy is growing. However, the use of GDP is not undisputed. Critics say that not all sources of income are taken into account. What is more, GDP does not tell anything about the quality and/or sustainability of growth, nor is it a perfect indicator of economic wellbeing in a country. For example, GDP would also increase after ecological disasters that require action to rebuild infrastructure and to mitigate the damage. However, GDP is usually correlated to some indicators of well-being like health status and happiness. 3.3 Businesses can be profit-oriented or not-for-profit Most businesses aim to operate for a longer time period. In order to do so and to thrive over time, most businesses aim to make a profit, i.e. they intend to have higher revenues than costs and expenses. Profits are important to the business itself because they can be reinvested in the business, which enhances the durability and sustainability of the business. Of course, profits are also important to the owners and investors because the profits are their reward for the risk they have taken. However, there are also businesses (or organisations) that are not-for-profit and mainly aim to cover their costs. Nevertheless, they also need to achieve a certain level of revenues (or in many cases: donations) in order to be able to offer their goods and services. Any profit they make is also beneficial to the organisation, because it can be reinvested and used to enhance the services for customers or to engage in more projects. The Red Cross, the World Wildlife Fund or Greenpeace are examples of such non-profit organisations (NPOs). 18 I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 3.4 Businesses come “in all sizes”, large and small There is an enormous variety of businesses: micro, small and medium enterprises (MSME or just SME) as well as large businesses. About 99% of all businesses in the EU are SMEs. The European Commission differentiates between these types of businesses (see http:// ec.europa.eu) as presented in table 1. Company category Staff headcount Turnover OR Balance sheet total Micro < 10 ≤ €2 m ≤ €2 m Small < 50 ≤ €10 m ≤ €10 m < 250 ≤ €50 m ≤ €43 m Medium-sized Table 1. Size categories of businesses The definition of an SME is important for access to finance and EU support programmes targeted specifically at these enterprises. Tina and Steve have a micro company; even if they hire two assistants, they are still a micro company. AT&S on the other hand, with about 10,000 employees, is a large company. The size of a business is also relevant in terms of legal requirements for their accounting (see chapter 6, Accounting). In many countries, small businesses are allowed to use simpler accounting methods in order to calculate their profits or losses. 3.5 Businesses may be local, national or international A local (or regional) business operates in a small, limited area. Most customers live very close to the business. They do not serve a national or international market. Tina’s and Steve’s business would be such a local business, at least at the beginning. The most important challenge of (small) local businesses is to have sufficient financial funds and to acquire a substantial number of customers. Many business owners face the difficulties of undercapitalisation: their own funds are limited and it is very hard for them to access additional funding. A national business serves the home market (the market within a country), but not the international market. An insurance company or a bakery that operates all over Austria, but not abroad, is a national business. Like a local business, it has to choose a suitable location. Additionally, it has to decide how to deliver its goods and services to other places within the country. The supply chain is much longer. International (or multinational) businesses make and/or sell their goods and services in more than one country. As the home market might be limited and too small for some companies, they strive to serve a larger market. A larger, international market brings along a number of challenges: an even longer supply chain, different legal and economic systems, different cultures and languages, maybe also different currencies. As the number of multinational businesses has increased over time, the world has become globalised and we have experienced globalisation. AT&S is an international business that has production plants in Asian countries as well as in Austria and that sells its goods to other businesses all over the world. I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 19 Focus on different types of businesses 3.6 Businesses operate in an environment – stakeholders are important There is one thing that all businesses have in common: they are always integrated into an environment in which they operate. Therefore, they deal with many other people and/or businesses and need to consider their interests as well. Everyone that is (potentially) affected by the activities of a business and/or has an interest in what a business does is a stakeholder. Due to globalisation, the world has become a smaller place and the number of stakeholders has grown considerably. Furthermore, people are more environmentally conscious and expect businesses to preserve and protect the environment. The most important stakeholders of a business are shown in figure 5. Communities (local, national, international) Owners Suppliers Managers BUSINESS Customers Employees Government Figure 5. Stakeholders of a business The owners of a business are stakeholders because they have invested their money in the business and want their investment to pay off. They want to make a profit in order to get something in return for the risk they have taken. They also profit from the increase in value of a business if the business operates successfully on the market. This increase is usually reflected in the price of shares of this business. It can be earned by selling the shares or the whole business (for example, the company Runtastic GmbH was bought by Adidas for 220 million euros). Making a profit may be one, but does not have to be the only goal of the owner(s) of a business. Solving a problem, contributing to a solution to a problem that customers have (such as computer problems), and making a contribution to the welfare of society may also be important. Tina and Steve create value for their customers and they also help preserve the environment by repairing and setting up used computers and – consequently – reducing waste. 20 I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S Managers (who can, but do not necessarily have to be owners) as well as employees are stakeholders because they depend on the business. Working for the business is their source of income, so job security is important. What is more, many managers and employees identify themselves with their tasks and their contribution to the business. And just as they depend on the business, the business depends on them as well. Only if owners, managers and employees share the values and objectives can a business succeed not only in the short run, but also in the long run. Figure 6 illustrates the interdependencies of employees, managers and the business in the case of AT&S. Figure 6. Interdependencies of people, values, objectives and vision (source: AT&S annual report 2017/18) Suppliers are important to a business and its production. Timely deliveries of good quality and the correct quantity of supplies needed for production are crucial. If a supplier fails, a business cannot produce its goods or services. In return, suppliers expect to get paid and hope for more orders in the future. If a business fails, suppliers may also get into trouble. A similar mutual dependency exists between a business and its customers. Local, national and international communities as well as the government also depend on a business and are affected by its activities. I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 21 Focus on different types of businesses 14/15 15/16 16/17 17/18 14/15 15/16 16/17 17/18 0.11 0.15 0.13 0.14 12.12 in kg per € GVA 15.23 in kg CO2 per € GVA 12.27 in kg CO2 per € GVA 12.71 Total waste amount (intensity) 1.24 Total water withdrawal (intensity) 1.56 Carbon footprint (intensity) 1.24 0.94 Finally – and most importantly – businesses also need to act responsibly with the environment and the natural resources that they use. It is not sufficient only to claim to be environmentally friendly and to care about the environment (to “green wash” the business activities), but it takes concrete activities and proven results. More and more businesses report their activities on their websites and in their annual reports, as the example of AT&S in figure 7 shows. 14/15 15/16 16/17 17/18 Non-hazardous waste hazardous waste Figure 7. The impact of AT&S activities on the environment (source: annual report 2017/18) There are many factors that influence the success of a business. Considering the stakeholders and their (conflicting) interests is one of these factors. Other important factors include a suitable legal structure and a solid financial structure of the business, awareness of the market and changes in the market, awareness of costs and profitability. The following chapters deal with these topics. 22 I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 4 Forms of business ownership and sources of finance As soon as businesses are set up and exchange goods and services with customers, the customers might wonder who – from a legal point of view – they are actually dealing with: the business itself or the people who founded and/or who run it. The answer to this question is of particular interest in the case of closing a contract, investing in the business or legal troubles: who owns the business? Who runs it? Who is the contracting party and who is to be sued in a litigation? Is the business a legal entity of its own or is the business completely identical with the owner(s) of the business? The answer depends on the legal structure that has been chosen for the business, something that has implications for a number of important questions: ∎ ∎ ∎ ∎ Who owns the business? Is this a single person or more than one? Please note that a business can also be owned by another business. Does the owner / do the owners also run the business? Or is (are) there (a) different person(s) who manage(s) the business? Who is liable for the debts and obligations of the business? And is this liability limited or unlimited? How can financial resources be raised for the business? These questions are not only important for those who do business with a company. They are also of utmost importance for the founders and owners of a company. Some owners might be interested in running the business themselves and fulfil important management tasks such as developing objectives for the business, identifying measures to achieve them, planning and organising business activities as well as monitoring and steering the business. Others just wish to invest their money and own (a part of) the business but want other people to run the business and make the management decisions. Finance is important because businesses need money for their activities. In the beginning, money is needed to get started, to meet all initial expenditures like buying assets (equipment, machinery, vehicles and inventory for example) and covering the expenses like paying the rent, energy and insurance. Most of these costs occur repeatedly. Depending on their legal structure, some businesses have to meet capital requirements. Later, businesses need money to keep going and – possibly – to expand and grow. Money flowing in from sales can be used for that purpose but will possibly not be sufficient and will not always be available right at the moment and in the amount that is needed for financing all expenditures. Businesses usually need some additional sources of finance. The legal structure of a business has an impact on its financial options. Therefore, businesses often change their legal structure in order to gain access to further financial options. Although the different forms of legal structure as well as their denomination vary among countries, the basic forms of legal structure are quite similar in many countries of the world. I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 23 Forms of business ownership and sources of finance 4.1 Sole proprietorship / sole traders A sole proprietorship is a business that is owned by one person who also manages and runs the business. It is easy to establish – especially for small businesses – because there are no financial requirements to start this kind of business. The business is not a legal entity of its own, so the profits are directly reported on the business owner’s personal income tax statement. This means that the owner pays tax on the profits that are earned from the business. The management of the business largely depends on the sole proprietor. On the one hand, he/she can make all management decisions and does not necessarily have to consider other opinions. On the other, continuity problems may occur if the sole proprietor wants to retire or suffers a (long-term) illness. If the sole proprietor needs support, he/she can hire personnel. However, it will always be his/her task to make the most important management decisions and take all the risk. Available financial funds for sole proprietors Financial funds of the business mainly depend on the financial capabilities of the sole proprietor. If he/she lacks financial funds, it will be very difficult to set up the business. Most sole proprietors invest their own savings in their business. If they need some extra money, they can try to get it from investors and/or from banks. The owner’s investment and financial funds from other investors and creditors are external sources of finance. Banks and other financial institutions offer different kinds of credit, short-term (duration less than a year) as well as long-term. The creditor, e.g. the bank, provides money for a certain time period which needs to be repaid according to the agreement, usually with a rate of return (the interest). Creditors usually ask for assets that can serve as collateral, especially for long-term credit. Especially long-term bank loans are often based on land and property as collateral (mortgage). The most common forms of short-term credit are a bank overdraft and trade credit. A bank overdraft is a very flexible instrument, because once the bank account has been opened, the sole proprietor can withdraw money from the account when it is needed. Interest is only paid when the account is overdrawn. Trade credit is based on an agreement with the supplier. Usually a business does not have to pay all purchases immediately but is provided a trade credit period. All kinds of credit – short-term as well as long-term – are liabilities for the sole proprietor. The sole proprietor is liable for all debts and obligations so his/her private assets are also at stake if the business fails and debts need to be repaid and/or the private assets served as collateral. As soon as the business starts operating and generates revenues, internal sources of finance can possibly be used. If revenues exceed expenses, the business makes a profit that can be retained and reinvested in the business (unless the profit is taken by the sole proprietor). Another option is the sale of assets that are not needed anymore. Internal sources of finance are very important to a business because no financial charges (e.g. interest) have to be paid for this sort of funds. A sole proprietorship is not the appropriate legal structure for Tina and Steve. They want to share the tasks and the risk and have equal rights and responsibilities. Their idea of their own business is best realised as a partnership. 24 I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 4.2 Partnership If two or more persons jointly found a business, this business is called a partnership. They need to set up a partnership agreement in order to settle the rights and responsibilities as well as the division of profits and losses. In a general partnership all partners have equal rights, liabilities and responsibilities. They can share the tasks and specialise. In difficult situations they can exchange their ideas and (maybe) make better decisions. In Austria, this form of business ownership is called “Offene Gesellschaft”, or “OG” in short. Tina and Steve’s business is located in Austria and they choose to found such an “Offene Gesellschaft”, because they intend to be equally involved in the management of the business and share the financial risk. Its firm name is T&S Computer Services OG. They will (have to) set up a partnership agreement in which they specify each partner’s percentage of ownership, the division of profit and loss, terms of the partnership, rights and responsibilities, decision making and resolving disputes, and other details of the partnership. Available financial funds for partnerships In general, the financial aspects of partnerships are similar to those of sole proprietors. However, two (or more) partners should possibly be able to invest more savings and raise more financial funds than a sole proprietor. It also seems plausible that they can offer more (private) assets as collateral for getting a loan. Each of the partners is solely liable for all debts of the business (unlimited liability). In a limited partnership there is at least one partner who is not involved in the management of the business and this person’s liability is limited to the amount of money that he or she has contributed to the business. This form of business ownership is called “Kommanditgesellschaft”, or “KG” in short, in Austria. 4.3 Corporations Corporations are businesses that are legal entities of their own, which means that they have the same rights and obligations as people: legal persons can – just like natural persons – own land and property, hire people, close contracts, sue and be sued. The people who found the corporation and own a share of the business need not be involved in the management of the business, and the managers need not own a share of the business. Corporations are more difficult to set up, but the shareholders’ liability is usually limited to the amount of money they invested when buying the shares. 4.3.1 Shareholders are not (necessarily) managers of the business So if shareholders only provide the money for share capital but are neither obliged nor entitled to manage the company, who does? The corporation is managed by the board of directors, persons who are elected by the shareholders to make all major business decisions and to represent the shareholders. The highest-ranking manager of this board is called the Chief Executive Officer (CEO). Other board members are the Chief Financial Officer (CFO), Chief Operating Officer (COO), Chief Information Officer (CIO) or Chief Marketing Officer (CMO). The board of directors of AT&S consists of three persons with different tasks and responsibilities (see below). I N T R O D U C T I O N TO B U S I N E S S A N D E C O N O M I C S 25 Forms of business ownership and sources of finance a) Andreas Gerstenmayer is Chairman of the Management Board (CEO) and responsible for ∎ ∎ Sales/marketing Investor Relations/Public Relations/ Internal Communication ∎ ∎ ∎ Purchasing Business Development Strategy Compliance b) Monika Stoisser-Göhring is Deputy Chairwoman of the Management Board and as SFO responsible for ∎ ∎ ∎ Finance and Accounting Controlling Human Resources incl. CSR ∎ ∎ Legal & Internal Audit IT & Tools ∎ ∎ ∎ ∎ Quality Management Business Process Excellence Environment & Sustainability Safety c) Heinz Moitzi is COO and responsible for: ∎ ∎ ∎ ∎ ∎ Research & Development (R&D) Maintenance Production Quality Assurance Supply and Disposal Source: AT&S annual report 2017/18. The board of directors of AT&S, p. 11. 4.3.2 Available financial funds for corporations Corporations usually have more options to raise financial funds than sole proprietors and partnerships. Their financial funds mainly comprise share capital as well as loans and credit. Share capital The capital of a corporation is divided into shares, which is why it is called share capital. If share capital equals 1,000,000 euros and is divided by 100,000 shares, each share (also called stock) represents 10 euros or 0.001 per cent of the share capital. Persons who buy shares become shareholders. Shares can be bought either at the time they are initially issued by the corporation or later on from some other shareholder who sells his shares. If all 100,000 shares are actually sold, the corporation gains 1,000,000 euros as share capital. This example shows that huge amounts of money can be raised from the sale of shares. The share capital of AT&S for example equals 141,846,000 euros. Share capital is usually not redeemed by the company. It is long-term capital or even permanent capital. A corporation’s stock can but does not have to be listed on a stock market or stock exchange. A stock exchange is a financial market, regulated by the authorities, where shares and other securities (e.g. bonds) can be easily bought and sold by lots of people and businesses. The corporations that want their shares to be listed have to comply with certain