Business Growth (AQA A-Level Business): Revision Notes
📚Revision Notes
Business growth
Introduction to business growth
Businesses often pursue growth strategies to access the rewards that come with operating on a larger scale. When we talk about business growth, we're referring to increases in key measures of business size.
Note
Business size can be measured in several ways:
- Revenue (total sales income)
- Profit (money left after costs are deducted)
- Market share (percentage of total market sales)
- Number of employees
- Assets (things the business owns)
Growth can happen in two main ways: organic growth (expanding from within, such as opening new stores or launching new products) or external growth (expanding through mergers, acquisitions, or takeovers).
Why large businesses tend to be more stable
Large businesses generally enjoy several advantages over their smaller competitors:
Higher sales and profit potential
When a business increases its sales volume, this typically leads to higher revenue. More sales usually mean bigger profits, which can then be reinvested back into the business to stimulate further growth. This creates a positive cycle where growth funds more growth.
Greater market influence
Having a bigger market share gives a business more influence over its market. When you control a high market share, you gain the power to control prices to some extent. This market power makes the business more stable and less vulnerable to competitors' actions.
Cost advantages
Larger businesses benefit from economies of scale and economies of scope, which result in lower unit costs. This means they can produce each item more cheaply than smaller rivals, giving them a significant competitive advantage.
Product diversification
Bigger businesses often maintain a range of products or services. This diversification helps them cope better if the market changes. If one product performs poorly, other products can compensate, spreading the risk.
Economies of scale
Important
Economies of scale occur when the cost of producing each individual item (the unit cost) decreases as the scale of production increases. In simple terms: the bigger you get, the cheaper each unit becomes.
Internal economies of scale improve efficiency within a single firm. There are four main types:
Technical economies
Technical economies relate directly to the production process. When producing large volumes, businesses can use more efficient production methods.
Large businesses can afford to invest in better, more advanced machinery and equipment. This improved technology often means they need fewer staff to operate it, and wage costs fall.
Example
Worked Example: Technical Economies in Manufacturing
A car manufacturer producing 100,000 cars per year can justify buying expensive robotic assembly equipment that costs $10 million. This reduces the cost per car by $500.
- Cost per car with robots: $500 saving × 100,000 cars = $50 million total savings
- A small manufacturer producing only 1,000 cars cannot afford this investment
- The savings wouldn't justify the $10 million cost for low volumes
Managerial economies
Large businesses can employ managers with specialist skills to oversee specific departments. These specialists can oversee plans and strategies more effectively, resulting in work being completed more quickly and efficiently.
For instance, a large retail chain might employ separate specialists for human resources, marketing, logistics, and finance, whereas a small retailer might have one person trying to manage all these areas.
Purchasing economies
Purchasing economies relate to discounts when buying supplies. Big businesses can negotiate substantial discounts when buying supplies in large quantities. They typically receive bigger discounts and longer credit periods (time to pay) than smaller competitors. They can also borrow money at lower interest rates because banks see them as less risky.
Note
A supermarket chain like Tesco can negotiate much better prices from suppliers than an independent corner shop because of the huge volumes it purchases. This purchasing power directly translates into lower costs per unit sold.
Marketing economies
Marketing costs are usually fixed expenses—they don't change based on how many units you sell. A business with large output can spread these fixed costs over more units sold. Additionally, a large business can afford more effective forms of advertising, such as television adverts, which might be too expensive for smaller businesses.
For example, producing a TV advert might cost $100,000 whether you sell 1,000 or 1,000,000 products, so the cost per unit is much lower for the high-volume seller.
External economies of scale
Note
External economies of scale benefit an entire industry or geographical area, not just one business. They occur when industries become concentrated in small geographical areas.
Supplier availability
Having numerous suppliers to choose from in your area provides economies of scale. When firms can locate near many suppliers, they benefit from increased choice, which tends to increase quality and reduce prices. Competition between local suppliers keeps costs down and standards high.
Skilled labour supply
A good local skilled labour supply makes an entire industry more efficient. This matters most in industries where training is expensive or takes considerable time.
For example, software development firms in California's Silicon Valley benefit because many qualified workers already live within driving distance. These firms don't need to spend as much on training or relocating workers, and they can fill vacancies more quickly.
The experience curve
Important
The experience curve demonstrates that the more you do something, the better you get at it. As a business grows and increases its sales volume, it begins to produce more products. Workers become more experienced and more efficient at making the products, causing the cost per unit to decrease.
Several factors drive this cost reduction:
Learning from repetition
The production of any goods or services follows the experience curve pattern. As total units produced by a business increases, the cost per unit decreases at a constant rate. For instance, if total units produced double, the cost per unit might decrease by 20%.
Improved worker productivity
As workers gain more practice and experience at making products, they become more productive. This isn't just about working faster—experienced workers also make fewer mistakes and waste less time.
Increased efficiency
Efficiency increases as total units produced increases because workers develop better methods. They discover ways to waste fewer materials, take less time, and become better at using technology and machines. These improvements accumulate over time, continuously reducing costs.
Economies of scope
Note
Economies of scope occur when it's cheaper for one business to produce many products than it would be for many businesses to produce one product each. In other words: more variety is cheaper when produced together.
Resource sharing
A business that already has people and infrastructure in place will be more efficient at producing an additional product than a new business starting from scratch. They can expand their production department without having to build everything from the ground up, so unit costs decrease.
Brand loyalty benefits
Existing businesses benefit from brand loyalty—customers already know the company's brand, so they're more likely to buy other products from the same company. This reduces marketing costs for new products.
Competitive advantages
Economies of scope allow businesses to charge lower prices due to lower unit costs. This gives them a competitive advantage over rivals and can potentially force competitors out of the market.
Example
Worked Example: Amazon's Economies of Scope
Amazon originally sold only books but expanded into electronics, clothing, and cloud computing services. It could do this more cheaply than separate businesses starting in each sector because it already had:
- Existing warehouses and storage facilities
- Established delivery networks
- Proven technology platforms
- Large existing customer base
By leveraging these existing resources, Amazon's unit costs for new product lines were significantly lower than if separate companies had to build everything from scratch.
Diseconomies of scale
Important
While growth brings many benefits, diseconomies of scale show that being bigger can be bad news too. Diseconomies of scale cause unit costs to increase as the scale of production increases. They occur because large firms become harder to manage than small ones.
Coordination challenges
Keeping all departments working towards the same objectives becomes difficult in large organizations. Poor coordination makes a business less efficient. In a big firm, it's harder to coordinate activities between different departments, leading to wasted effort and duplicated work.
Communication difficulties
Communication becomes harder in large businesses. It can be slow and difficult to get messages to the right people, especially with long chains of command. The amount of information circulating in a business can increase faster than the business actually grows, creating confusion and delays.
Note
Messages might get distorted as they pass through multiple management layers, like a game of telephone. By the time information reaches the right person, it may be late or inaccurate.
Motivation problems
Motivating people in a large firm presents challenges. In a small firm, managers maintain close contact with staff, making it easier for people to feel they're working towards same aims. When people don't feel they belong and see no point in their work, they become demotivated. Demotivated workers are less productive, which increases costs.
Management solutions
Problems with management cause diseconomies of scale. However, strong leadership, delegation and decentralisation can help prevent diseconomies of scale and keep costs down. Giving managers at lower levels more authority can improve decision-making speed and employee motivation.
Scale of the problem
The larger a business grows, the more severe these problems become. What worked for managing 50 employees won't work for managing 5,000 employees.
Retrenchment
Note
Retrenchment means businesses may become smaller—essentially strategic shrinking. It may be necessary for a business to remain profitable. The need for retrenchment often arises from diseconomies of scale, declining markets, economic recession or improved competitor performance.
Methods of retrenchment
Retrenchment requires businesses to downsize in certain areas. This can be achieved through several approaches:
Cutting jobs: If sales are decreasing, a business must decrease its wage bill by cutting jobs. This is often the quickest way to reduce costs but can be painful for affected employees.
Reducing output: If a business is selling fewer units, it needs to reduce its output and capacity. This might involve closing production lines or factories.
Withdrawing from markets: Businesses might choose to stop selling products in less profitable markets. This allows them to focus resources on their most successful areas.
Splitting the business up (demerging): Sometimes it's easier to manage and control smaller business units, so a large business might split up into smaller ones and focus on making each one profitable. This reverses previous growth through acquisition.
Impact on workers
Important
Retrenchment significantly affects workers. If done through lots of little steps over a long time, workers may not be too badly affected as the changes are gradual and some may leave naturally.
However, if a business must retrench quickly (for example, during a recession), the impact on workers is significant. Quick retrenchment can lead to decreased productivity, which might make the problem worse rather than better. Workers who survive job cuts may feel insecure and less motivated.
When retrenchment is necessary
While growth is generally seen as positive, there are times when becoming smaller is the smarter strategic choice. Businesses must be honest about when they've grown too large or entered unprofitable areas. Timely retrenchment can save a struggling business and protect remaining jobs.
Remember!
Summary
Key Points to Remember:
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Business growth brings multiple advantages including higher profits, greater market influence, lower unit costs through economies of scale and scope, and better stability through diversification.
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Economies of scale (technical, managerial, purchasing, and marketing) reduce unit costs as production increases, while external economies benefit entire industries concentrated in specific areas.
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The experience curve shows that increased production volume leads to lower costs per unit as workers become more experienced and efficient—practice really does make perfect (and cheaper).
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Diseconomies of scale can occur when businesses become too large, creating management, communication, coordination, and motivation problems that increase unit costs rather than decrease them.
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Retrenchment is sometimes necessary for survival—businesses may need to downsize through job cuts, output reduction, market withdrawal, or demerging to return to profitability.