The Growth of Firms

Quick revise

Growth is often a key objective of firms

Business grow for a number of reasons including:

  • To increase profits
  • To decrease costs
  • To dominate the market
  • To reduce risk
  • To fulfil objectives of management
Internal and External Growth
  • Businesses can choose to grow internally by selling more of their products or externally by acquiring / merging with another firm
  • Internal growth is often referred to as organic growth
  • Internal growth is slower
External Growth - Takeovers
  • Takeovers are where one firm gains control of another firm
  • The amount a firm pays to takeover another firm is dependent on its perceived value
  • Attacker firms often pay a premium to shareholders in order to secure their shares
  • Bids can be hostile or welcome
  • Hostile bids have a greater degree of risk
Mergers

Mergers occur when at least two firms join together to form one organisation. Mergers and takeovers can take the following forms:

  • Horizontal – firms join together who are at the same stage in the production process
  • Vertical – firms join together who are at different stages in the production process
  • Conglomerate – firms in different markets join together
Management Buyouts
  • Where managers in a business take it over by buying a controlling interest in its shares
  • Managers may do this as they think they can turn the business around, or if shareholders lose interest in a particular part of the business
  • Managers often need to borrow money to finance MBOs
  • MBOs are risky however if successful they allow managers to reap plenty of rewards
Why do Firms Merge?

Mergers and takeovers are ways for businesses to grow. Firms decide to merge / take over due to synergy.

Synergy is where the performance of the new firm is greater than the performance of the separate firms. Synergy is created by shared resources, ideas and skills.

Outsourcing

Outsourcing allows a business to contract out some of their operations to a third party to perform. Outsourcing of production overseas has allowed businesses to reduce their costs e.g. call centres locating overseas in lower wage countries.

Outsourcing has been driven by technological change, pressure on profit and costs and an increase in the level of competition

Joint Ventures

Joint ventures occur when two businesses set up a third business together to develop a new product, enter a new market etc. Joint ventures are set up to achieve a specific objective or project for both parties.

There are benefits for both parties from these relationships e.g.  Sony and Ericsson enjoyed a joint venture where they worked together to develop mobile phones.