Product, Distribution &

Money

Edited: Matthew Martell

Version: v1.2

Date: August 9, 2020

Authors: Lawrence J. Gitman, Carl McDaniel, Amit Shah, Monique Reece, Linda
Koffel, Bethann Talsma, James C. Hyatt

Publisher/website: OpenStax

Book title: Introduction to Business

Publication date: Sep 19, 2018

Location: Houston, Texas

Book URL: https://openstax.org/books/introduction-business/pages/1-

introduction

License:

by OpenStax is licensed underCreative Commons Attribution License v4.0

© Jan 21, 2020 OpenStax. Textbook content produced by OpenStax is licensed under a Creative
Commons Attribution License 4.0 license. The OpenStax name, OpenStax logo, OpenStax book
covers, OpenStax CNX name, and OpenStax CNX logo are not subject to the Creative Commons
license and may not be reproduced without the prior and express written consent of Rice
University.

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Learning Outcomes
11.7 What is the marketing concept and relationship-building?
11.7 How do organizations create new products?
11.8 What are the stages of the product life cycle?
12.1 What is the nature and function of distribution (place)?
12.4 How can supply-chain management increase efficiency and customer satisfaction?
12.2 What is wholesaling, and what are the types of wholesalers?
14.1 Why are financial reports and accounting information important, and who uses them?
14.5 How does the income statement report a firm’s profitability?
16.3 What are the main sources and costs of unsecured and secured short-term financing?
16.4 What are the key differences between debt and equity, and what are the major types and features
of long-term debt?
16.5 When and how do firms issue equity, and what are the costs?
10.1 Why is production and operations management important in both manufacturing and service
firms?
10.2 What types of production processes do manufacturers and service firms use?
10.3 How do organizations decide where to put their production facilities? What choices must be made
in designing the facility?

In this chapter
Marketing Distribution Business Activity
Cycle

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Creating Products That Deliver Value
How do organizations create new products?
New products pump life into company sales, enabling the firm not only to survive but also to grow.
Companies like Allegheny Ludlum (steel), Dow (chemicals), Samsung (electronics), Campbell Soup (foods),
and Stryker (medical products) get most of their profits from new products. Companies that lead their
industries in profitability and sales growth get a large percentage of their revenues from products
developed within the last five years. A recent McKinsey survey found that 94 percent of top executives
believed that their companies’ innovation approach and process needed to be updated, signaling how
important new products are as the lifeblood of a company.

Businesses have several different terms for new products, depending on how the product fits into a
company’s existing product line. When a firm introduces a product that has a new brand name and is in a
product category new to the organization, it is classified as a new product.

A new flavor, size, or model using an existing brand name in an existing category is called a line extension.
Diet Cherry Coke and caffeine-free Coke are line extensions. The strategy of expanding the line by adding
new models has enabled companies like Seiko (watches), Kraft (cheeses), Oscar Mayer (lunch meats), and
Sony (consumer electronics) to tie up a large amount of shelf space and brand recognition in a product
category. Services companies can often introduce and adapt their products faster than companies that
manufacture goods because service delivery can be more flexible and changes can often be made
immediately. Due to this, customers often expect and require immediate improvements to services.

How New Products Are Developed

Developing new products is both costly and risky, especially for companies that sell products that are
goods. New-product failure rates for household and grocery products can approach 80 percent. Overall,
companies report that only 3 percent of their products exceed their initial sales targets in Year 1. Even
companies such as Facebook, which launched Facebook Home in 2013 at an initial price of $99 per year,
have experienced new product failures.

Figure 1 - Product Development

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Industrial goods failure rates tend to be lower than those for consumer goods. To increase their chances
for success, most firms use the following product development process, which is summarized in Figure 1.

The Role of the Product Manager

When a new product enters the marketplace in large organizations, it is often placed under the control of
a product or brand manager. A product manager develops and implements a complete strategy and
marketing program for a specific product or brand of product. Some companies may have numerous
brands of the same type of product, such as many versions of laundry soap, each with different target
markets, brand names, and attributes. Product management first appeared at Procter & Gamble in 1929.
A new company soap, Camay, was not doing well, so a young Procter & Gamble executive was assigned
to devote his exclusive attention to developing and promoting this product. He was successful, and the
company soon added other product managers. Since then, many firms, especially consumer products
companies, have set up product management organizations.

The Product Life Cycle

What are the stages of the product life cycle?
Product managers create marketing mixes for their products as they move through the life cycle. The
product life cycle is a pattern of sales and profits over time for a product (Ivory dishwashing liquid) or a
product category (liquid detergents). The beginning introduces the product to the market and the end
simply tries to maximize revenue at a minimal cost until it is no longer demanded. As the product moves
through the stages of the life cycle, the firm must keep revising the marketing mix to stay competitive and
meet the needs of target customers.

Figure 2 - Product Life Cycle

The Product Life Cycle as a Management Tool

The product life cycle may be used in planning. Marketers who understand the cycle concept are better
able to forecast future sales and plan new marketing strategies. Figure 3 is a brief summary of strategic
needs at various stages of the product life cycle. Marketers must be sure that a product has moved from
one stage to the next before changing its marketing strategy. A temporary sales decline should not be
interpreted as a sign that the product is dying. Pulling back marketing support can become a self-fulfilling
prophecy that brings about the early death of a healthy product. Figure 4 identifies strategies that can be
used during the different stages of the product life cycle.

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 Stage
Introduction
Product will face many
obstacles and focus is on
developing a market for
the product if a new
market or gaining
market share if entering
existing market.
Growth
If a product survives the
first stage sales will
begin to growrate,
profits are healthy, and
many competitors enter
the market.
Large companies may
start to acquire small
pioneering firms that
have reached this stage.
Maturity
After the growth stage,
sales continue to
mount—but at a
decreasing rate. Most
products that have been
on the market for a long
time are in this stage.
Decline
The rate of decline is
governed by two factors:
the rate of change in
consumer tastes and the
rate at which new
products enter the
market.
Figure 3 - Characteristics of the product life cycle
Characteristics Profit and Sales
Competition may be light, the introductory Usually operating a
stage usually features frequent product breakeven or a loss while
modifications, limited distribution, and heavy market is being created.
promotion of the idea, not necessarily the Production & marketing
brand. The failure rate is high. costs are high due to low
The Internet of Things (IOT) and associated volume
devices is just starting to find a market, but
has not gained widespread consumer
acceptance yet.
Typically see aggressive brand advertising Sales are growing at an
and communicating the differences between increasing rate, profits are
brands. growing.
Distribution becomes a major key to success Price reductions result
and manufacturers scramble to find dealers from increased
and distributors. Without adequate competition and costs are
distribution, it is impossible to establish a reduced due to
strong market position. economies of scale.
Smartphones are starting to approach the Product development
peak of the growth phase. costs have likely been
recovered.
Most marketing strategies are designed for Sales growth slowing,
mature products. One such strategy is to profits have peaked or
bring out several variations of a basic showing signs of decline
product (line extension). Kool-Aid, for
instance, was originally offered in six flavors.
Today there are more than 50.
Sometimes companies can improve a Sales and profits declining
product by implementing changes to the
product, such as new ingredients or new
services. If the changes are accepted by
customers, it can lead to a product moving
out of the decline stage and back into the
introduction stage.
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 Strategies for Success at Each Stage of the Product Life Cycle
Stage Introduction Growth Maturity Decline

Encourage trial, Get triers to Reduce marketing

Marketing Seek new user or
establish repurchase, expenses, used to keep
objectives users
distribution attract new users loyal users

Establish
Maintain product
Product competitive Modify product Maintain product
quality
advantage

Establish Solidify Provide additional

Eliminate trade
Distribution distribution distribution incentives to
allowances
network relationships ensure support

Eliminate most
Build brand Provide Reposition
Promotional advertising and sales
awareness information product
promotions

Set introductory
price (skimming or Reduce prices to
Pricing Maintain prices Maintain prices
penetration meet competition
pricing)
Figure 4 - Strategies for success

The Marketing Concept

As you work through the product development process it is important to consider the customer, and how
you will attract them to purchase your product.

What is the marketing concept and relationship-building?

Marketing is the process of getting the right goods or services or ideas
Key Component
to the right people at the right place, time, and price, using the right
promotion techniques and utilizing the appropriate people to provide 1. Customer Value
the customer service associated with those goods, services, or ideas. 2. Customer Satisfaction
This concept is referred to as the “right” principle and is the basis of all 3. Building Relationships
marketing strategy. We can say that marketing is finding out the needs
and wants of potential buyers (whether organizations or consumers) and then providing goods and
services that meet or exceed the expectations of those buyers. Marketing is about creating exchanges. An
exchange takes place when two parties give something of value to each other to satisfy their respective
needs or wants. In a typical exchange, a consumer trades money for a good or service. In some exchanges,
nonmonetary things are exchanged, such as when a person who volunteers for the company charity
receives a T-shirt in exchange for time spent. One common misconception is that some people see no
difference between marketing and sales. They are two different things that are both part of a company’s
strategy. Sales incorporates actually selling the company’s products or service to its customers, while
marketing is the process of communicating the value of a product or service to customers so that the
product or service sells.

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Most successful organizations have adopted the marketing concept. The marketing concept is based on
the “right” principle. The marketing concept is the use of marketing data to focus on the needs and wants
of customers in order to develop marketing strategies that not only satisfy the needs of the customers
but also the accomplish the goals of the organization. An organization uses the marketing concept when
it identifies the buyer’s needs and then produces the goods, services, or ideas that will satisfy them (using
the “right” principle). The marketing concept is oriented toward pleasing customers (be those customers
organizations or consumers) by offering value. Specifically, the marketing concept involves the following:

• Focusing on the needs and wants of the customers so the organization can distinguish its
product(s) from competitors’ offerings. Products can be goods, services, or ideas.
Combine
• Integrating all of the organization’s activities, including production and promotion, to satisfy these
wants and needs
• Achieving long-term goals for the organization by satisfying customer wants and needs legally and
responsibly

Today, companies of every size in all industries are applying the marketing concept. Enterprise Rent-A-Car
found that its customers didn’t want to have to drive to its offices. Therefore, Enterprise began delivering
vehicles to customers’ homes or places of work. Disney found that some of its patrons really disliked
waiting in lines. In response, Disney began offering FastPass at a premium price, which allows patrons to
avoid standing in long lines waiting for attractions. One important key to understanding the marketing
concept is to know that using the marketing concept means the product is created after market research
is used to identify the needs and wants of the customers. Products are not just created by production
departments and then marketing departments are expected to identify ways to sell them based on the
research. An organization that truly utilizes the marketing concept uses the data about potential
customers from the very inception of the product to create the best good, service, or idea possible, as
well as other marketing strategies to support it.

Customer Value
Customer value is the ratio of benefits for the customer (organization or consumer) to the sacrifice
necessary to obtain those benefits. The customer determines the value of both the benefits and the
sacrifices. Creating customer value is a core business strategy of many successful firms. Customer value is
rooted in the belief that price is not the only thing that matters. A business that focuses on the cost of
production and price to the customer will be managed as though it were providing a commodity
differentiated only by price. In contrast, businesses that provide customer value believe that many
customers will pay a premium for superior customer service or accept fewer services for a value price. It
is important not to base value on price (instead of service or quality) because customers who only value
price will buy from the competition as soon as a competitor can offer a lower price. It is much better to
use marketing strategies based on customer relationships and service, which are harder for the
competition to replicate. Southwest Airlines doesn’t offer assigned seats, meals, or in-flight movies.
Instead the budget carrier delivers what it promises: on-time departures. In “service value” surveys,
Southwest routinely beats the full-service airlines such as American Airlines, which actually provide
passengers with luxuries such as movies and food on selected long-haul flights.

Customer Satisfaction
Customer satisfaction is a theme stressed throughout this text. Customer satisfaction is the customer’s
feeling that a product has met or exceeded expectations. Expectations are often the result of
communication, especially promotion. Utilizing marketing research to identify specific expectations and

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then crafting marketing strategy to meet or exceed those expectations is a major contributor to success
for an organization. Lexus consistently wins awards for its outstanding customer satisfaction. JD Powers
surveys car owners two years after they make their purchase. Its Customer Satisfaction Survey is made up
of four measures that each describe an element of overall ownership satisfaction at two years: vehicle
quality/ reliability, vehicle appeal, ownership costs, and service satisfaction from a dealer. Lexus continues
to lead the industry and has been America’s top-ranked vehicle for five years in a row.

Building Relationships
Relationship marketing is a strategy that focuses on forging long-term partnerships with customers.
Companies build relationships with customers by offering value and providing customer satisfaction. Once
relationships are built with customers, customers tend to continue to purchase from the same company,
even if the prices of the competitors are less or if the competition offers sales promotions or incentives.
Customers (both organizations and consumers) tend to buy products from suppliers whom they trust and
feel a kinship with, regardless of offerings of unknown competitors. Companies benefit from repeat sales
and referrals that lead to increases in sales, market share, and profits. Costs fall because it is less expensive
to serve existing customers than to attract new ones. Focusing on customer retention can be a winning
tactic; studies show that increasing customer retention rates by 5 percent increases profits by anywhere
from 25 to 95 percent.

Customers also benefit from stable relationships with suppliers. Business buyers have found that
partnerships with their suppliers are essential to producing high-quality products while cutting costs.
Customers remain loyal to firms that provide them greater value and satisfaction than they expect from
competing firms.

Frequent-buyer clubs are an excellent way to build long-term relationships. All major airlines have
frequent-flyer programs. After you fly a certain number of miles, you become eligible for a free ticket.
Now, cruise lines, hotels, car rental agencies, credit-card companies, and even mortgage companies give
away “airline miles” with purchases. Consumers patronize the airline and its partners because they want
the free tickets. Thus, the program helps to create a long-term relationship with (and ongoing benefits
for) the customer. Southwest Airlines carries its loyalty program a bit further than most. Members get
birthday cards, and some even get profiled in the airline’s in-flight magazine!

The Nature and Functions of Distribution

A key aspect of any business is how the product will move through the supply chain from raw materials
to end consumer.

What is the nature and function of distribution?

Purchase
Distribution is efficiently managing the acquisition of raw materials by the factory and the movement of
products from the producer or manufacturer to business-to-business (B2B) users and consumers. It
aspects
includes many facets, such as location, hours, website presence, logistics, atmospherics, inventory
management, supply-chain management, and others. Logistics activities are usually the responsibility of
the marketing department and are part of the large series of activities included in the supply chain. A
supply chain is the system through which an organization acquires raw material, produces products, and
delivers the products and services to its customers. (Figure) illustrates a typical supply chain. Supply chain
management helps increase the efficiency of logistics service by minimizing inventory and moving goods
efficiently from producers to the ultimate users.
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On their way from producers to end users and consumers, products pass through a series of marketing
entities known as a distribution channel. We will look first at the entities that make up a distribution
channel and then examine the functions that channels serve.

Marketing Intermediaries in the Distribution Channel

Mediators
A distribution channel is made up of marketing intermediaries, or organizations that assist in moving
goods and services from producers to end users and consumers. Marketing intermediaries are in the
middle of the distribution process, between the producer and the end user. The following marketing
intermediaries most often appear in the distribution channel:

Marketing Intermediaries

Type Purpose Behavior

• Usually hired on commission by buyer or seller

Agents & Bring buyers and
• Go-between to make deals
Brokers sellers together
• Does not take possession of product

Independent
• Usually have a sales force
Industrial wholesalers that
• Will make delivers, extend credit and provide
Distributors sell to industrial
information to user
users

Buys from
• Resells finished goods to retailers, manufacturers and
manufacturer or
Wholesalers institutions (schools, hospitals)
other wholesaler
• Takes possession of product
for resale

Buys from
manufacturer or • Sells goods to end consumers and industrial users
Retailers
wholesaler for • Takes possession of product
resale
Figure 5 - Marketing Intermediaries
Figure 5 lists various marketing intermediaries. For instance, a manufacturer may sell to a wholesaler that
sells to a retailer that in turn sells to a customer. In any of these distribution systems, goods and services
are physically transferred from one organization to the next. As each takes possession of the products, it
may take legal ownership of them. The rise of e-commerce and other non-traditional channels has
decreased the number of intermediaries in order to reduce costs and develop a closer relationship with
end consumers. The following information presents a simplified version of channels, in reality they can be
quite complex and can constitute multiple types of intermediaries.

Nontraditional Channels
Often nontraditional channel arrangements help differentiate a firm’s product from the competition. For
example, manufacturers may decide to use nontraditional channels such as the internet, mail-order
channels, or infomercials to sell products instead of going through traditional retailer channels. Although
nontraditional channels may limit a brand’s coverage, they can give a producer serving a niche market a
way to gain market access and customer attention without having to establish channel intermediaries.
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Nontraditional channels can also provide another avenue of sales for larger firms. For example, a London
publisher sells short stories through vending machines in the London Underground. Instead of the
traditional book format, the stories are printed like folded maps, making them an easy-to-read alternative
for commuters. ATMs, vending machines and airline check-in kiosks, are more recently apps or websites
can be used to reach customers in new and engaging ways.

The Functions of Distribution Channels

Why do distribution channels exist? Why can’t every firm sell its products directly to the end user or
consumer? Why are go-betweens needed? Channels serve a number of functions.

Channels Reduce the Number of Transactions

Distribution can be simplified by reducing the number of steps to get a product from the producer to the
end consumer, see Figure 26and compare multiple intermediaries to a direct to consumer relationship.
Dealing with channel intermediaries frees producers from many of the details of distribution activity.
Producers are traditionally not as efficient or as enthusiastic about selling products directly to end users
as channel members are. First, producers may wish to focus on production. They may feel that they cannot
both produce and distribute in a competitive way. On the other hand, manufacturers are eager to deal
directly with giant retailers, such as Walmart, which offer huge sales opportunities to producers.

Figure 6- Example channel types

Channels Ease the Flow of Goods

Channels make distribution easier in several ways.

1. Packs products into more manageable order sizes for customers

2. Allows customers to purchases products in one place
3. Removes need for producer to source individual customers
4. Provides a storage location for goods until customers are ready to purchase
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Imagine you want to buy one package of M&M’s as a snack. Where would you go?
Mars sells about 1.1 million packages of M&M’s per day. It is not feasible for the factory to process every
single transaction orders in a day and the end consumers is unlikely to travel to one of the few factories
spread around the world to make their purchase, so Mars uses intermediaries. One such intermediary is
Costco, they purchase cases of M&M’s by the truck load and sell them by the box to retailers or consumers
if they really want 48 packages. If you want your one pack of M&M’s they will have traveled from producer
by the truckload to a wholesaler, who will then sell them by the box to a retailer who will finally sell you
individual chocolate bars.

Supply chains are infinitely complex and can take many different forms. Same or similar products can
travel through vastly different channels or process to get to the end consumer, think buying a couch at
the Brick compared to purchasing on line on Wayfair.com, same product but a vastly different shopping
experience. It is good to avoid the assumption that all products follow the same path, think about it as a
series of steps and try to understand the key intermediaries from producer to end consumer.

Using Supply Chain Management to Increase Efficiency and

Customer Satisfaction
How can supply-chain management increase efficiency and customer satisfaction?
Retailers don’t sell products they can’t deliver, and salespeople don’t (or shouldn’t) promise deliveries
they can’t make. Late deliveries and broken promises may mean the loss of a customer. Accurate order
filling and billing, timely delivery, and arrival in good condition are important to the success of the product.

The goal of supply-chain management is to create a satisfied customer by coordinating all of the activities
of the supply-chain members into a seamless process. Therefore, an important element of supply-chain
management is that it is completely customer driven. In the mass-production era, manufacturers
produced standardized products that were “pushed” through the supply channel to the consumer. In
contrast, in today’s marketplace, products are being driven by customers, who expect to receive product
configurations and services matched to their unique needs. For example, Dell builds computers according
to its customers’ precise specifications, such as the amount of memory, type of monitor, and amount of
hard-drive space. The process begins with Dell purchasing partly built laptops from contract
manufacturers. The final assembly is done in Dell factories in Ireland, Malaysia, or China, where
microprocessors, software, and other key components are added. Those finished products are then
shipped to Dell-operated distribution centers in the United States, where they are packaged with other
items and shipped to the customer.

Through the channel partnership of suppliers, manufacturers, wholesalers, and retailers along the entire
supply chain who work together toward the common goal of creating customer value, supply-chain
management allows companies to respond with the unique product configuration demanded by the
customer. Today, supply-chain management plays a dual role: first, as a communicator of customer
demand that extends from the point of sale all the way back to the supplier, and second, as a physical
flow process that engineers the timely and cost-effective movement of goods through the entire supply
pipeline.

For products that are services, the distribution channel is based primarily on location of the services, such
as where the company has its headquarters; the layout of the area in which the service is provided (for
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example, the interior of a dry cleaners’ store); alternative locations for the presentation of services, such
as an architect visiting a client’s site location; and elements of atmosphere, such as dark wooden
bookcases for bound legal volumes in an attorney’s office, which provide credibility. Services companies
also utilize the traditional entities of distribution for any actual goods they sell or supplies they must
purchase.

Role of Supply Chain Managers

Accordingly, supply-chain managers are responsible for making channel strategy decisions, coordinating
the sourcing and procurement of raw materials, scheduling production, processing orders, managing
inventory, transporting and storing supplies and finished goods, and coordinating customer-service
activities. Supply-chain managers are also responsible for the management of information that flows
through the supply chain. Coordinating the relationships between the company and its external partners,
such as vendors, carriers, and third-party companies, is also a critical function of supply-chain
management. Because supply-chain managers play such a major role in both cost control and customer
satisfaction, they are more valuable than ever.

Production and Operations Management—An Overview

Production, the creation of products and services, is an essential function in every firm. Production turns
inputs, such as natural resources, raw materials, human resources, and capital, into outputs, which are
products and services. This process is shown in (Figure). Managing this conversion process is the role of
operations management.

Why is production and operations management important in both manufacturing and service
firms?
The goal of customer satisfaction is an important part of effective production and operations. In the past,
the manufacturing function in most companies was inwardly focused. Manufacturing had little contact
with customers and didn’t always understand their needs and desires. In the 1980s, many industries, such
as automotive, steel, and electronics, lost customers to foreign competitors because their production
systems could not provide the quality customers demanded. As a result, companies both large and small,
consider a focus on quality to be a central component of effective operations management.

Stronger links between marketing and manufacturing also encourage production managers to be more
outwardly focused and to consider decisions in light of their effect on customer satisfaction. Service
companies find that making operating decisions with customer satisfaction in mind can be a competitive
advantage.

Operations managers, the people charged with managing and supervising the conversion process, play a
vital role in today’s firm. They control about three-fourths of a firm’s assets, including inventories, wages,
and benefits. They also work closely with other major divisions of the firm, such as marketing, finance,
accounting, and human resources, to ensure that the firm produces its goods profitably and satisfies its
customers. Marketing personnel help them decide which products to make or which services to offer.
Accounting and human resources help them face the challenge of combining people and resources to
produce high-quality goods on time and at reasonable cost. They are involved in the development and
design of goods and determine what production processes will be most effective.

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Production and operations management involve three main types of decisions, typically made at three
different stages:

1. Production planning. The first decisions facing operations managers come at the planning
stage. At this stage, managers decide where, when, and how production will occur. They
determine site locations and obtain the necessary resources.
2. Production control. At this stage, the decision-making process focuses on controlling
quality and costs, scheduling, and the actual day-to-day operations of running a factory or
service facility.
3. Improving production and operations. The final stage of operations management focuses
on developing more efficient methods of producing the firm’s goods or services.

All three decisions are ongoing and may occur simultaneously. In the following sections, we will take a
closer look at the decisions and considerations firms face in each stage of production and operations
management.

Gearing Up: Production Planning

An important part of operations management is production planning. Production planning allows the firm
to consider the competitive environment and its own strategic goals to find the best production methods.
Good production planning has to balance goals that may conflict, such as providing high-quality service
while keeping operating costs low, or keeping profits high while maintaining adequate inventories of
finished products. Sometimes accomplishing all these goals is difficult.

Production planning involves three phases. Long-term planning has a time frame of three to five years. It
focuses on which goods to produce, how many to produce, and where they should be produced. Medium-
term planning decisions cover about two years. They concern the layout of factory or service facilities,
where and how to obtain the resources needed for production, and labor issues. Short-term planning,
within a one-year time frame, converts these broader goals into specific production plans and materials
management strategies.

Four important decisions must be made in production planning. They involve the type of production
process that will be used, site selection, facility layout, and resource planning.

The Production Process: How Do We Make It?

What types of production processes do manufacturers and service firms use?
In production planning, the first decision involves which type of production process—the way a good or
service is created—best fits with company goals and customer demand. An important consideration is the
type of good or service being produced, because different goods may require different production
processes. In general, there are three types of production: mass production, mass customization, and
customization. In addition to production type, operations managers also classify production processes in
two ways: (1) how inputs are converted into outputs and (2) the timing of the process.

One for All: Mass Production

Mass production, manufacturing many identical goods at once, was a product of the Industrial Revolution.
Henry Ford’s Model-T automobile is a good example of early mass production. Each car turned out by
Ford’s factory was identical, right down to its color. If you wanted a car in any color except black, you were
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out of luck. Canned goods, over-the-counter drugs, and household appliances are other examples of goods
that are mass-produced. The emphasis in mass production is on keeping manufacturing costs low by
producing uniform products using repetitive and standardized processes. As products became more
complicated to produce, mass production also became more complex.

Just for You: Customizing Goods

In mass customization, goods are produced using mass-production techniques, but only up to a point. At
that point, the product or service is custom-tailored to the needs or desires of individual customers. For
example, American Leather, a Dallas-based furniture manufacturer, uses mass customization to produce
couches and chairs to customer specifications within 30 days. The basic frames in the furniture are the
same, but automated cutting machinery precuts the color and type of leather ordered by each customer.
Using mass-production techniques, they are then added to each frame.

Some types of service businesses also deliver customized services. Doctors, for instance, must consider
the illnesses and circumstances of each individual patient before developing a customized treatment plan.
Real estate agents may develop a customized service plan for each customer based on the type of house
the person is selling or wants to buy.

Converting Inputs to Outputs

As previously stated, production involves converting inputs (natural resources, raw materials, human
resources, capital) into outputs (products or services). In a manufacturing company, the inputs, the
production process, and the final outputs are usually obvious. Harley-Davidson, for instance, converts
steel, rubber, paint, and other inputs into motorcycles. But the production process in a service company
involves a less obvious conversion. For example, a hospital converts the knowledge and skills of its medical
personnel, along with equipment and supplies from a variety of sources, into health care services for
patients. (Figure) provides examples of the inputs and outputs used by various other businesses.

There are two basic processes for converting inputs into outputs. In process manufacturing, the basic
inputs (natural resources, raw materials) are broken down into one or more outputs (products). For
instance, bauxite (the input) is processed to extract aluminum (the output). The assembly process is just
the opposite. The basic inputs, like natural resources, raw materials, or human resources, are either
combined to create the output or transformed into the output. An airplane, for example, is created by
assembling thousands of parts, which are its raw material inputs. Steel manufacturers use heat to
transform iron and other materials into steel. In services, customers may play a role in the transformation
process. For example, a tax preparation service combines the knowledge of the tax preparer with the
client’s information about personal finances in order to complete the tax return.

Production Timing
A second consideration in choosing a production process is timing. A continuous process uses long
production runs that may last days, weeks, or months without equipment shutdowns. This is best for high-
volume, low-variety products with standardized parts, such as nails, glass, and paper. Some services also
use a continuous process. Your local electric company is an example. Per-unit costs are low, and
production is easy to schedule.

In an intermittent process, short production runs are used to make batches of different products.
Machines are shut down to change them to make different products at different times. This process is

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best for low-volume, high-variety products such as those produced by mass customization or
customization. Job shops are examples of firms using an intermittent process.

Although some service companies use continuous processes, most service firms rely on intermittent
processes. For instance, a restaurant preparing gourmet meals, a physician performing surgical
procedures, and an advertising agency developing ad campaigns for business clients all customize their
services to suit each customer. They use the intermittent process. Note that their “production runs” may
be very short—one grilled salmon or one physical exam at a time.

The Business Activity Cycle

An organization requires money to grow and be
successful. The business activity cycle represents the
three types of activities a business will undertake to
move money in and out of the business.

Financing (1st Stage): involves how an organization

obtains money from investors (equity) or borrow money
(debt). The investors and lenders are rewarded in the
form of debt payments and/or dividends.

Investing (2nd Stage): is when the organization takes the

money from stage 1 and acquires the different factors
of production so that it can operate. This often includes,
land, buildings, equipment and inventory.

Operating (3rd Stage): is the day to day operation of the

business. This involves selling the product (revenue) and
paying bills (expenses). Profit is what is left over after the expenses are paid.

The business activity cycle is a continuous loop where the business continues to grow by engaging in new
financing activities, then taking the proceeds and investing it in new assets or operating activities. This
process is managed by the financial manager.

The Role of Finance and the Financial Manager

How do finance and the financial manager affect the firm’s overall strategy?
Any organization, whether it’s a small-town bakery or General Motors, needs money to operate. To make
money, it must first spend money—on inventory and supplies, equipment and facilities, and employee
wages and salaries. Therefore, finance is critical to the success of all companies. It may not be as visible
as marketing or production, but management of a firm’s finances is just as much a key to the firm’s
success.

Financial management—the art and science of managing a firm’s money so that it can meet its goals—is
not just the responsibility of the finance department. All business decisions have financial consequences.
Managers in all departments must work closely with financial personnel. If you are a sales representative,
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for example, the company’s credit and collection policies will affect your ability to make sales. The head
of the IT department will need to justify any requests for new computer systems or employee laptops.

Revenues from sales of the firm’s products should be the chief source of funding. But money from sales
doesn’t always come in when it’s needed to pay the bills. Financial managers must track how money is
flowing into and out of the firm. They work with the firm’s other department managers to determine how
available funds will be used and how much money is needed. Then they choose the best sources to obtain
the required funding.

For example, a financial manager will track day-to-day operational data such as cash collections and
disbursements to ensure that the company has enough cash to meet its obligations. Over a longer time
horizon, the manager will thoroughly study whether and when the company should open a new
manufacturing facility. The manager will also suggest the most appropriate way to finance the project,
raise the funds, and then monitor the project’s implementation and operation.

Financial management is closely related to accounting. In most firms, both areas are the responsibility of
the vice president of finance or CFO. But the accountant’s main function is to collect and present financial
data. Financial managers use financial statements and other information prepared by accountants to
make financial decisions. Financial managers focus on cash flows, the inflows and outflows of cash. They
plan and monitor the firm’s cash flows to ensure that cash is available when needed.

The Financial Manager’s Responsibilities and Activities

Financial managers have a complex and challenging job. They analyze financial data prepared by
accountants, monitor the firm’s financial status, and prepare and implement financial plans. One day they
may be developing a better way to automate cash collections, and the next they may be analyzing a
proposed acquisition. The key activities of the financial manager are:

Financial planning and monitoring: Preparing and monitoring the financial plan, which projects revenues,
expenditures, and financing needs over a given period.
spending

Investment (spending money): Investing the firm’s funds in projects and securities that provide high
returns in relation to their risks.

Financing (raising money): Obtaining funding for the firm’s operations and investments and seeking the
best balance between debt (borrowed funds) and equity (funds raised through the sale of ownership in
the business).

The Goal of the Financial Manager

How can financial managers make wise planning, investment, and financing decisions? The main goal of
the financial manager is to maximize the value of the firm to its owners. The value of a publicly owned
corporation is measured by the share price of its stock. A private company’s value is the price at which it
could be sold.

To maximize the firm’s value, the financial manager needs to consider both short- and long-term
consequences of the firm’s actions. Maximizing profits is one approach, but it should not be the only one.
Such an approach favors making short-term gains over achieving long-term goals. What if a firm in a highly
technical and competitive industry did no research and development? In the short run, profits would be

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high because research and development is very expensive. But in the long run, the firm might lose its
ability to compete because of its lack of new products.

Financial managers constantly strive for a balance between the opportunity for profit and the potential
for loss. In finance, the opportunity for profit is termed return; the potential for loss, or the chance that
an investment will not achieve the expected level of return, is risk. A basic principle in finance is that the
higher the risk, the greater the return that is required. This widely accepted concept is called the risk-
return trade-off. Financial managers consider many risk and return factors when making investment and
financing decisions. Among them are changing patterns of market demand, interest rates, general
economic conditions, market conditions, and social issues (such as environmental effects and equal
employment opportunity policies).

Cash Management: Assuring Liquidity

Cash is the lifeblood of business. Without it, a firm could not operate. An important duty of the financial
manager is cash management, or making sure that enough cash is on hand to pay bills as they come due
and to meet unexpected expenses.

Organizations estimate their cash requirements for a specific period. Many companies keep a minimum
cash balance to cover unexpected expenses or changes in projected cash flows. The financial manager
arranges loans to cover any shortfalls.

Because cash held in checking accounts earns little, if any, interest, the financial manager tries to keep
cash balances low and to invest the surplus cash. Surpluses are invested temporarily in marketable
securities, short-term investments that are easily converted into cash. The financial manager looks for
low-risk investments that offer high returns.

In addition to seeking the right balance between cash and marketable securities, the financial manager
tries to shorten the time between the purchase of inventory or services (cash outflows) and the collection
of cash from sales (cash inflows). The three key strategies are to collect money owed to the firm (accounts
receivable) as quickly as possible, to pay money owed to others (accounts payable) as late as possible
without damaging the firm’s credit reputation, and to minimize the funds tied up in inventory.

Financing Your Firm – Stage 1

All firms require money to operate, this is provided through debt and/or equity. As the firm becomes
successful, it will generate money through sales and profit. In the initial stages, an organization can either
borrow money (debt) or sell an ownership stake in the company (equity). The financial manager must
assess different sources of financing and choose the one most likely to help maximize the firm’s value.

Debt/Loans
Debt/Loans can come in many forms and styles, for accounting purposes they are either short- or long-
term. Short-term debt is due within one year; while long-term debt has a maturity greater than one year.
Alternatively, a firm can be financed by equity (selling an ownership stake in the company).
Insurance
Secured loans requireInsurance
the borrower to pledge specific assets as collateral, or security. The secured lender
can legally take the collateral if the borrower doesn’t repay the loan. Commercial banks and commercial
finance companies are the main sources of secured short-term loans to business. Borrowers whose credit
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is not strong enough to qualify for unsecured loans use these loans. Typically, the collateral for secured
short-term loans is accounts receivable or inventory. Because accounts receivable are normally quite
liquid (easily converted to cash), they are an attractive form of collateral. The appeal of inventory—raw
materials or finished goods—as collateral depends on how easily it can be sold at a fair price.

Unsecured loans does not require the borrower to pledge any asset or collateral or security. The tend to
be given to stable and well established organization because the likelihood of non-payment is lower.

Length of loan a basic principle of finance is to match the term of the financing to the period over which
benefits are expected to be received from the associated outlay. Short-term items should be financed
with short-term funds, and long-term items should be financed with long-term funds, typically 5-20 years.

Bonds are a form of secured or unsecured debt that can trade in an open exchange. Issuers sell their
bonds to bondholders at a set price and in return bondholders will receive payments throughout the life
of the bond and/or as a lump sum when it is due to be repaid. The price of the bond can fluctuate over its
life depending how often it is traded, how the bond issuer performs and with changes in interest rates.
The types of bonds can vary greatly with the most common type providing a periodic payment (called a
coupon) with a lump sum payment at the end.

Short Term Debt Financing

Type Protection Details
• Based on firms history with lender and credit worthiness
Line of credit: Allows borrowing to a set limit. Firm must usually
Bank Loan Unsecured keep a minimum cash balance to access line of credit
Revolving credit: Generally arranged for a period of 2-5 years,
borrow as needed
• Firm pledges an asset as collateral in case they are unable to repay
Bank or
Secured the loan. If this happens, lender can take the asset to recoup the
other Loan
value of the loan
• Where a firm sells some or all of the money it is owed from
customers (Accounts Receivable) at a discount
Factoring Unsecured • Often more expensive than a bank loan due to the discount given
• More expensive, but popular because it can remove the obligation
to collect the money owed from customers
• Major source of financing for buyers
• Firm receives goods from their suppliers and promise to pay at a
Trade Credit Unsecured
later date
• Sometimes a discount is offered for paying sooner
• Provides a lower interest rate than bank loans
Commercial • Firm will sell the commercial paper to interested investors, usually
Unsecured
Paper for a term of 3-270 days
• Typically sold in multiples of $100,000.

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Equity
Common Shares represent an ownership stake in the firm. In corporations, common stockholders are the
owners and can be paid out in the form of dividends. Dividends are payments to shareholders from the
firm’s profits and must be paid once declared.

A firm obtains equity financing by selling new ownership shares. A company’s first sale of stock to the
public is called an initial public offering (IPO). An IPO often enables existing stockholders, usually
employees, family, and friends who bought the stock privately, to earn big profits on their investment.
Companies that are already public can issue and sell additional shares of common stock to raise equity
funds.

Going public has some drawbacks, for example, there is no guarantee an IPO will sell and it is expensive.
Big fees must be paid to investment bankers, brokers, attorneys, accountants, and printers. Once the
company is public, it is closely watched by regulators, stockholders, and securities analysts. The firm must

Long Term Financing Options

Type Protection Details
• Long-term debt can be secured or unsecured and will be due to be
Term Loan/
Secured or repaid sometime after one year
Mortgage
Unsecured • Interest rates and terms are negotiated between the issuer and
(Debt)
lender
• Must pay the bond holder a fixed amount based in the terms
Bonds Secured or • Trade in an open market
(Debt) Unsecured • Price of the bond will fluctuate with risk and changes interest rate
• Many special forms of bonds such as convertible/redeembable/etc…
• Equity comes in the form of an ownership stake in the company,
generally an investor will give money to the firm in exchange for
shares in the company
Common
• Common shares: 1 share = 1 vote (normally)
Shares Unsecured
• Many types of shares and ownerships structures and it can get
(Equity)
complicated very quickly
• Shares do not require repayment, but allow for share of profit in
form of dividends
• No voting rights, but have priority over common shareholders with
Preferred
dividends and bankruptcy
Shares Semi-
• Normally do not have a vote
(Hybrid) secured
• Preferred shares are more expensive compared to debt, because
they are riskier
Venture • Invest in young companies and provide funds for them to grow
Capital Unsecured • Often take a significant share of ownership due to risk
(Equity) • Typically look in industries with high growth potential

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reveal operating and financial data, product details, financing plans, and operating strategies. Providing
this information is often costly and can help competitors.

Preferred Shares are a hybrid mix of debt and stock. Preferred shares normally have a dividend that is set
when they are issued and must be paid first before common shareholders can receive dividends. In
addition, they are repaid before common shareholders in bankruptcy, but normally the shares do not
have voting rights. Preferred shares with a dividend create a financial obligation that must be at some
point in the future. It is often more expensive to finance with preferred shares than debt.

Venture capital is another source of equity capital. It is most often used by small and growing firms that
aren’t big enough to sell securities to the public. This type of financing is especially popular among high-
tech companies that need large sums of money.

Venture capitalists invest in new businesses in return for part of the ownership, sometimes as much as
60 percent. They look for new businesses with high growth potential, and they expect a high investment
return within 5 to 10 years. By getting in on the ground floor, venture capitalists buy stock at a very low

price. They earn profits by selling the stock at a much higher price when the company goes public. Venture
capitalists generally get a voice in management through seats on the board of directors. Getting venture
capital is difficult, even though there are hundreds of private venture-capital firms in this country. Most
venture capitalists finance only about 1 to 5 percent of the companies that apply.

Venture-capital investors, many of whom experienced losses during recent years from their investments
in failed dot-coms, are currently less willing to take risks on very early-stage companies with unproven
technology. As a result, other sources of venture capital, including private foundations, states, and
wealthy individuals (called angel investors), are helping start-up firms find equity capital. These private
investors are motivated by the potential to earn a high return on their investment.

Debt versus Equity Financing

Financial managers try to select the mix of long-term debt and equity that results in the best balance
between cost and risk. Say that the Boeing Company plans to spend $2 billion over the next four years to
build and equip new factories to make jet aircraft. Boeing’s top management will assess the pros and cons
of both debt and equity and then consider several possible sources of the desired form of long-term
financing.

The major advantage of debt financing is the deductibility of interest expense for income tax purposes,
which lowers its overall cost. In addition, there is no loss of ownership. The major drawback is financial
risk: the chance that the firm will be unable to make scheduled interest and principal payments. The
lender can force a borrower that fails to make scheduled debt payments into bankruptcy. Most loan
agreements have restrictions to ensure that the borrower operates efficiently.

Equity, on the other hand, is a form of permanent financing that places few restrictions on the firm. The
firm is not required to pay dividends or repay the investment. However, equity financing gives common
stockholders voting rights that provide them with a voice in management. Equity is more costly than debt.
Unlike the interest on debt, dividends to owners are not tax-deductible expenses. (Figure) summarizes
the major differences between debt and equity financing.

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 Major differences between Debt & Equity Financing
Type Debt Financing Equity Financing
• Typically have none, unless the
Say in borrower defaults on payments.
• Common stockholders have voting rights
Management • May be able to place restraints on
management in event of default.
• Equity owners have a residual claim on
• Debt holders rank ahead of equity
Claim on income (dividends are paid only after
holders. Payment of interest and
Assets and paying interest and any scheduled
principal is a contractual obligation
Income principal) and no obligation to pay
of the firm.
dividends.
Maturity
(when debt • Debt has a stated maturity and
• The company is not required to repay
needs to be requires repayment of principal by a
equity, which has no maturity date.
paid back) specified date.

Tax • Dividends are not tax-deductible and are

• Interest is a tax-deductible expense.
Treatment paid from after-tax income

Investing in the Business – Stage 2

In this stage the organization will purchase major assets and develop the infrastructure for the business
to operate. They type of assets will vary greatly depending on the organizations business model and
industry it operates in. Some business models will require very little investment at this stage, such as
website, while other will require significant investments, such as Tesla setting up a Giga factory.

Long-Term Assets
Long term assets are generally comprised of land, buildings, machinery, equipment, and information
systems. When purchased, these are called capital expenditures and the benefits realized from capital
expenditures extend beyond one year. For example, a printer’s purchase of a new printing press with a
usable life of seven years is a capital expenditure and appears as a fixed asset on the firm’s balance sheet.

Firms make capital expenditures for many reasons. The most common are to expand, to replace or renew
fixed assets, and to develop new products. Most manufacturing firms have a big investment in long-term
assets. Boeing Company, for instance, puts billions of dollars a year into airplane-manufacturing facilities.
Because capital expenditures tend to be costly and have a major effect on the firm’s future, the financial
manager uses a process called capital budgeting to analyze long-term projects and select those that offer
the best returns while maximizing the firm’s value. Decisions involving new products or the acquisition of
another business are especially important. Managers look at project costs and forecast the future benefits
the project will bring to calculate the firm’s estimated return on the investment.

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Location, Location, Location: Where Do We Make It?
How do organizations decide where to put their production facilities? What choices must be
made in designing the facility?
A big decision that managers must make early in production and operations planning is where to put the
facility, be it a factory or a service office. The facility’s location affects operating and shipping costs and,
ultimately, the price of the product or service and the company’s ability to compete. Mistakes made at
this stage can be expensive, because moving a factory or service facility once production begins is difficult
and costly. Firms must weigh a number of factors to make the right decision.

Availability of Production Inputs

As we discussed earlier, organizations need certain resources to produce products and services for sale.
Access to these resources, or inputs, is a huge consideration in site selection. Executives must assess the
availability of raw materials, parts, equipment, and available manpower for each site under consideration.
The cost of shipping raw materials and finished goods can be as much as 25 percent of a manufacturer’s
total cost, so locating a factory where these and other costs are as low as possible can make a major
contribution to a firm’s success.

Companies that use heavy or bulky raw materials, for example, may choose to be located close to their
suppliers. Mining companies want to be near ore deposits, oil refiners near oil fields, paper mills near
forests, and food processors near farms.

The availability and cost of labor are also critical to both manufacturing and service businesses, and the
unionization of local labor is another point to consider in many industries. Payroll costs can vary widely
from one location to another due to differences in the cost of living; the number of jobs available; and the
size, skills, and productivity of the local workforce. In the case of the water-bottling company, a ready pool
of relatively inexpensive labor was available due to high unemployment in the areas.

Marketing Factors
Businesses must evaluate how their facility location will affect their ability to serve their customers. For
some firms it may not be necessary to be located near customers. Instead, the firm will need to assess the
difficulty and costs of distributing its goods to customers from its chosen location. Other firms may find
that locating near customers can provide marketing advantages. When a factory or service center is close
to customers, the firm can often offer better service at a lower cost. Other firms may gain a competitive
advantage by locating their facilities so that customers can easily buy their products or services. The
location of competitors may also be a consideration. And businesses with more than one facility may need
to consider how far to spread their locations in order to maximize market coverage.

Manufacturing Environment
Another factor to consider is the manufacturing environment in a potential location. Some localities have
a strong existing manufacturing base. When a large number of manufacturers in a certain industry are
already located in an area, that area is likely to offer greater availability of resources, such as
manufacturing workers, better accessibility to suppliers and transportation, and other factors that can
increase a plant’s operating efficiency. Airbus decided to product their A220 aircraft for American
customers at an existing facility in Alabama to avoid US trade restrictions and existing infrastructure.

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 reason Imotivation
Local Incentives
Incentives offered by countries, states, or cities may also influence site selection. Tax breaks are a common
incentive. A locality may reduce the amount of taxes a firm must pay on income, real estate, utilities, or
payroll. Local governments may offer financial assistance and/or exemptions from certain regulations to
attract or keep production facilities in their area. For example, many Canadian and U.S. cities competed
to attract a second Amazon headquarters and, in addition to touting local attractions and a strong
workforce, most of them are offering a host of tax incentives. Crystal City, Virgina was chosen as the final
location with $800 million in state and local incentives being offered.

International Location Considerations

There are often sound financial reasons for considering a foreign location. Labor costs are considerably
lower in countries such as Singapore, China, India, and Mexico. Foreign countries may also have fewer
regulations governing how factories operate. A foreign location may also move production closer to new
markets. Automobile manufacturers such as Toyota, BMW, and Hyundai are among many that build plants
in the United States to reduce shipping costs and hedge against trade issues.

Designing the Facility

After the site location decision has been made, the next focus in production planning is the facility’s
layout. The goal is to determine the most efficient and effective design for the particular production
process. A manufacturer might opt for a U-shaped production line, for example, rather than a long,
straight one, to allow products and workers to move more quickly from one area to another.

Service organizations must also consider layout, but they are more concerned with how it affects
customer behavior. It may be more convenient for a hospital to place its freight elevators in the center of
the building, for example, but doing so may block the flow of patients, visitors, and medical personnel
between floors and departments.

Process Layout: This process layout arranges workflow around the production process. All workers
performing similar tasks are grouped together. Products pass from one workstation to another (but not
necessarily to every workstation). The process layout is best for firms that produce small numbers of a
wide variety of products, typically using general-purpose machines that can be changed rapidly to new
operations for different product designs.

Product Layout: Products that require a continuous or repetitive production process use the product (or
assembly-line) layout. When large quantities of a product must be processed on an ongoing basis, the
workstations or departments are arranged in a line with products moving along the line. Automotive and
candy manufacturing often use this process.

Fixed-Position Layout: Some products cannot be put on an assembly line or moved about in a plant. A
fixed-position layout lets the product stay in one place while workers and machinery move to it as needed.
Products that are impossible to move—ships, airplanes, and construction projects—are typically produced
using a fixed-position layout.

Cellular Manufacturing: A Start-to-Finish Focus

Cellular manufacturing combines some aspects of both product and fixed-position layouts. Work cells are
small, self-contained production units that include several machines and workers arranged in a compact,
sequential order. Each work cell performs all or most of the tasks necessary to complete a manufacturing

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order. The goal is to create a team environment wherein team members are involved in production from
beginning to end.

Operating the Business – Stage 3

In this stage the organization will manage revenue, expenses and purchase basic office supplies and
inventory. It is here where the organization really begins to operate, as it begins to sell products (collect
revenue), pay bills (expenses) and realize profit. Remember that profits and losses are found on the
income statement.

Inventory
An important use of funds is to buy inventory (product to sell, raw materials, etc…). The cost of inventory
includes not only the purchase price, but also ordering, handling, storage, interest, and insurance costs.

Production, marketing, and finance managers usually have differing views about inventory. Production
managers want lots of raw materials on hand to avoid production delays. Marketing managers want lots
of finished goods on hand so customer orders can be filled quickly. But financial managers want the least
inventory possible without harming production efficiency or sales. Financial managers must work closely
with production and marketing to balance these conflicting goals. Techniques for reducing the investment
in inventory are inventory management, the just-in-time system, and materials requirement planning.
Having too much inventory can result in excess storage fees, wasted products or require the organization
to borrow extra money to fund its operations.

It is important to remember that not all businesses require inventory, such as a travel agent, consultant
or other service provider.

Revenues
Now that the firm is ready to operate, it can begin to sell its product or service. Buyers will sometimes
purchase from the company on account (pay later), this is called Accounts receivable and represents sales
for which the firm has not yet been paid. It is important for the financial manager to manage this closely,
as the organization can run out of money if customers never pay.

Short-Term Expenses
To operate the business, the firm needs to pay for services, employees and other costs, these are referred
to as Short term expenses or Operating expenses. The financial manager’s goal is to manage the accounts
payable so the firm has enough cash to pay its bills and to support its accounts receivable and inventory.

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Summary of Learning Outcomes
11.7 How do organizations create new products?
To succeed, most firms must continue to design new products to satisfy changing customer demands. But
new-product development can be risky. Many new products fail. The steps in new-product development
are setting new-product goals, exploring ideas, screening ideas, developing the concept (creating a
prototype and building the marketing strategy), test-marketing, and introducing the product. When the
product enters the marketplace, it is often managed by a product manager.

11.7 What is the marketing concept and relationship-building?

Marketing includes those business activities that are designed to satisfy consumer needs and wants
through the exchange process. Marketing managers use the “right” principle—getting the right goods or
services to the right people at the right place, time, and price, using the right promotional techniques.
Today, many firms have adopted the marketing concept. The marketing concept involves identifying
consumer needs and wants and then producing products (which can be goods, services, or ideas) that will
satisfy them while making a profit. Relationship marketing entails forging long-term relationships with
customers, which can lead to repeat sales, reduced costs, and stable relationships.

11.8 What are the stages of the product life cycle?

After a product reaches the marketplace, it enters the product life cycle. This cycle typically has four
stages: introduction, growth, maturity, and decline (and possibly death). Profit margins are usually small
in the introductory phase, reach a peak at the end of the growth phase, and then decline.

Price indicates value, helps position a product in the marketplace, and is the means for earning a fair
return on investment. If a price is too high, the product won’t sell well and the firm will lose money. If the
price is too low, the firm may lose money even if the product sells well. Prices are set according to pricing
objectives.

12.1 What is the nature and function of distribution?

Distribution (place) includes the efficient managing of the acquisition of raw materials by the factory and
the movement of products from the producer or manufacturer to business-to-business users and
consumers. Place includes such activities as location selection, store layout, atmosphere and image-
building for the location, inventory, transportation, and logistics. Logistics activities are usually the
responsibility of the marketing department and are part of the large series of activities included in the
supply chain.

Distribution channels are the series of marketing entities through which goods and services pass on their
way from producers to end users. Distribution systems focus on the physical transfer of goods and services
and on their legal ownership at each stage of the distribution process. Channels reduce the number of
transactions and ease the flow of goods.

12.4 How can supply-chain management increase efficiency and customer satisfaction?
The goal of supply-chain management is to coordinate all of the activities of the supply-chain members
into a seamless process, thereby increasing customer satisfaction. Supply-chain managers have
responsibility for main channel strategy decisions, coordinating the sourcing and procurement of raw
materials, scheduling production, processing orders, managing inventory, transporting and storing
supplies and finished goods, and coordinating customer-service activities.
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12.2 What is wholesaling, and what are the types of wholesalers?
Wholesalers typically sell finished products to retailers and to other institutions, such as manufacturers,
schools, and hospitals. The two main types of wholesalers are merchant wholesalers and agents and
brokers. Merchant wholesalers buy from manufacturers and sell to other businesses. Agents and brokers
are essentially independents who provide buying and selling services. They receive commissions according
to their sales and don’t take title (ownership) of the merchandise.

10.1 Why is production and operations management important in both manufacturing and service
firms?
In the 1980s, many U.S. manufacturers lost customers to foreign competitors because their production
and operations management systems did not support the high-quality, reasonably priced products
consumers demanded. Service organizations also rely on effective operations management in order to
satisfy consumers. Operations managers, the personnel charged with managing and supervising the
conversion of inputs into outputs, work closely with other functions in organizations to help ensure
quality, customer satisfaction, and financial success.

10.2 What types of production processes do manufacturers and service firms use?
Products are made using one of three types of production processes. In mass production, many identical
goods are produced at once, keeping production costs low. Mass production, therefore, relies heavily on
standardization, mechanization, and specialization. When mass customization is used, goods are
produced using mass-production techniques up to a point, after which the product or service is custom-
tailored to individual customers by adding special features. When a firm’s production process is built
around customization, the firm makes many products one at a time according to the very specific needs
or wants of individual customers.

16.1 How do finance and the financial manager affect the firm’s overall strategy?
Finance involves managing the firm’s money. The financial manager must decide how much money is
needed and when, how best to use the available funds, and how to get the required financing. The
financial manager’s responsibilities include financial planning, investing (spending money), and financing
(raising money). Maximizing the value of the firm is the main goal of the financial manager, whose
decisions often have long-term effects.

16.3 What are the main sources and costs of unsecured and secured short-term financing?
Short-term financing comes due within one year. The main sources of unsecured short-term financing are
trade credit, bank loans, and commercial paper. Secured loans require a pledge of certain assets, such as
accounts receivable or inventory, as security for the loan. Factoring, or selling accounts receivable outright
at a discount, is another form of short-term financing.

16.4 What are the key differences between debt and equity, and what are the major types and
features of long-term debt?
Financial managers must choose the best mix of debt and equity for their firm. The main advantage of
debt financing is the tax-deductibility of interest. But debt involves financial risk because it requires the
payment of interest and principal on specified dates. Equity—common and preferred stock—is considered
a permanent form of financing on which the firm may or may not pay dividends. Dividends are not tax-
deductible.

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The main types of long-term debt are term loans, bonds, and mortgage loans. Term loans can be
unsecured or secured and generally have maturities of 5 to 12 years. Bonds usually have initial maturities
of 10 to 30 years. Mortgage loans are secured by real estate. Long-term debt usually costs more than
short-term financing because of the greater uncertainty that the borrower will be able to make the
scheduled loan payments.

16.5 When and how do firms issue equity, and what are the costs?
The chief sources of equity financing are common stock, retained earnings, and preferred stock. The cost
of selling stock includes issuing costs and potential dividend payments. Retained earnings are profits
reinvested in the firm. For the issuing firm, preferred stock is more expensive than debt because its
dividends are not tax-deductible and its claims are secondary to those of debtholders but less expensive
than common stock. Venture capital is often a source of equity financing for young companies.

10.3 How do organizations decide where to put their production facilities? What choices must be
made in designing the facility?
Site selection affects operating costs, the price of the product or service, and the company’s ability to
compete. In choosing a production site, firms must weigh the availability of resources—raw materials,
manpower, and even capital—needed for production, as well as the ability to serve customers and take
advantage of marketing opportunities. Other factors include the availability of local incentives and the
manufacturing environment. Once a site is selected, the firm must choose an appropriate design for the
facility. The three main production facility designs are process, product, and fixed-position layouts.
Cellular manufacturing is another type of facility layout.

16.2 What types of short-term and long-term expenditures does a firm make?
A firm incurs short-term expenses—supplies, inventory, and wages—to support current production,
marketing, and sales activities. The financial manager manages the firm’s investment in current assets so
that the company has enough cash to pay its bills and support accounts receivable and inventory. Long-
term expenditures (capital expenditures) are made for fixed assets such as land, buildings, equipment and
information systems. Because of the large outlays required for capital expenditures, financial managers
carefully analyze proposed projects to determine which offer the best returns.

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