Business Growth (Cambridge International IGCSE Business)

Why grow a business

Why grow a business?

• Many firms start small and will grow into large companies or even multi-national corporations

  • For example, Amazon and Dell both started in entrepreneurs' garages

Reasons why businesses grow

• The owner's or manager's desire to run a large business & continually seek to grow it
• The owner's desire for higher levels of market share and profitability
• The desire for stronger market power (monopoly) over its customers and suppliers
• The desire to reduce costs by benefiting from lower unit costs as output increases
• Growth provides opportunities for product diversification
• Larger firms often have easier access to finance

Internal business growth

Spec point — how and why businesses can grow internally, e.g. develop new products, develop new markets

• Internal growth that is driven by organic expansion using reinvested profits or loans

• It is usually achieved by:

  • Gaining a greater market share
  • Product or market diversification
  • Opening new outlets
  • International expansion (new markets)
  • Investing in new technology or production machinery

Examples of internal growth

• Product diversification opens up new revenue streams for a business

  • Firms may spend money on research and development or innovation *to existing products to help create a new revenue stream

• Firms often grow internally to the point where they are in a financial position to integrate(merge or buy) with others

Evaluating internal growth

External business growth

Spec point — how and why businesses can grow internally, e.g. develop new products, develop new markets

• External business growth is when a business expands by joining with or buying other businesses rather than growing on its own

  • A merger occurs when two or more companies combine to form a new company

    • The original companies cease to exist and their assets and liabilities are transferred to the newly created entity

  • A takeover occurs when one company purchases another company, often against its will

    • The acquiring company buys a controlling stake in the target company's shares (>50%) and gains control of its operations

Vertical integration

• Vertical integration refers to the merger or takeover of another firm in the supply chain or different stage of the production process

  • Forward vertical integration involves a merger with or takeover of a firm further forward in the supply chain

    • For example, a dairy farmer merges with an ice cream manufacturer

  • Backward vertical integration involves a merger with or takeover of a firm further backwards in the supply chain

    • For example, an ice cream retailer takes over an ice cream manufacturer

A firm can grow through forward or backward vertical integration, merging with or taking over another business in the supply chain

Evaluating vertical integration

Horizontal integration

• Horizontal integration is the merger or takeover of a firm at the same stage of the production process

  • For example, an ice cream manufacturer merges with another ice cream manufacturer

Evaluating horizontal integration

Exam Hint Don’t just state methods of growth (internal or external) – make sure you can explain their advantages and disadvantages, as questions often test your ability to judge which method is most suitable in a given situation

Problems of business growth

• In some cases, growing the size of a business can fail to improve its profitability and can lead to cash flow and coordination problems

Problems and solutions of business growth

Businesses are often faced with a range of challenges when they grow

Poor communication

• Longer chains of command and wider spans of control for managers may lead to slower decision-making times and inefficiency

Solution

• Use the latest communication technologies, such as instant video calls, to improve communication between managers and workers
• Decentralisation may help to delegate decision-making

Larger firms are often harder to control

• As a business grows in size, it can experience diseconomies of scale such as poor co-ordination of resources

Solution

• Operate as a series of smaller units which allows local or functional area managers to have more control
• Increase delegation in order to empower workers and get jobs done more quickly

High costs and cashflow problems

• Expansion can be very expensive as it may involve developing a new product range or buying a new factory

  • High costs in the short/medium term means the business may need additional finance to avoid cashflow problems

Solution

• Grow slowly using profits rather than loans to fund gradual and less risky expansion
• Manage cash flow carefully, making use of retained profits and short-term borrowing to counter cash flow shortfalls

Difficulties of mergers and acquisitions

• A culture clash may occur if a merger or acquisition takes place between two different firms due to different management styles

Solution

• Ensure good communication so employees are less likely to be resistant to change
• Take time to carefully negotiate and plan mergers/acquisitions to reduce 'teething problems'