Size of Business

Key De nitions

External Growth : Business expansion achieved by means of merging

with or taking over another business, from either the same or a di erent
industry.

Merger : An agreement by shareholders and managers of two

businesses to bring both rms together under a common board of
directors with shareholders in both businesses owning shares in the
newly merged rm.

Takeover : When a company buys more than 50% of the shares of

another company and becomes the controlling owner of it - often
referred to as ‘acquisition’.

Synergy : Literally means that ‘the whole is greater than the sum of
parts’, so in integration it is often assumed that the new, larger business
will be more successful than the two, formerly separate, businesses
were.

Horizontal integration : Integration with rms in the same industry and

at same stage of production.

Vertical (forward) integration : Forward integration with a business in

the same industry but a customer of the existing business.

Vertical (backward) integration : Backward integration with a business

in the same industry but a supplier of the existing business.

Conglomerate integration : Integration with a business in a di erent

industry.

External Growth

External growth is often referred to as integration as it involves

bringing together two or more rms. This form of growth can lead to
rapid expansion, which might be vital in a competitive and expanding
market.

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 Synergy and Integration

When two rms are integrated the argument is that the bigger rm
created in this way will be more e ective, e cient and pro table than
the two separate companies.

Reasons why the bigger rm created by two rms integrating will

be more e ective :

• It is argued that the two businesses might be able to share research

facilities and pool ideas that will bene t both of the businesses.

• Economies of operating a larger scale of business, like buying

supplies in bulk, should cut costs.

• The new business can save on marketing and distribution costs by

using the same sales outlets and sales teams.

Many examples of business integration have not increased

shareholder value for the following reasons :

• The integrated rm is actually too big to manage and control

e ectively - this is a ‘diseconomy of scale’

• There may be little mutual bene t from shared research facilities or

marketing and distribution systems if the rms have products in
di erent markets.

• The business and management culture may be so di erent that the

two sets of managers and workers may nd it very di cult to work
e ectively and cooperatively together.

Horizontal integration
Advantages :
• Eliminates one competitor in the industry

• Possible economies of scale

• Increased power over suppliers

Disadvantages :
• Rationalisation may bring bad publicity

• May lead to monopoly investigation if the combined business

exceeds certain market share limits

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Stakeholders impact
• Consumers now have less choice

• Workers may lose job security as a result of rationalisation.

Forward Vertical integration

Advantages :
• Business can now control the promotion and pricing of its own
products.

• Secures a secure outlet for the rm’s products – may now exclude
competitors’ products

Disadvantages :

• Consumers may suspect uncompetitive activity and react negatively

• Lack of experience in this sector of the industry – a successful

manufacturer does not necessarily make a good retailer

Stakeholder impact :
• Workers may have greater job security because the business has
secure outlets.

• There may be more varied career opportunities

• Consumers may resent lack of competition in the retail outlet because

of the withdrawal of competitor products

Backward Vertical integration

Advantages :

• Gives control over quality, price and delivery times of supplies

• Encourages joint research and development into improved quality of

supplies of components

• Business may now control supplies of materials to competitors

Disadvantages :
• May lack experience of managing a supplying company

• Supplying business may become complacent due to having a

guaranteed customer

Stakeholder impact :
• Possibility of greater career opportunities for workers

• Consumers may obtain improved quality and more innovative

products

• Control over supplies to competitors may limit competition and

choice for consumers

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 Conglomerate integration
Advantages :
• Diversi es the business away from its original industry and markets

• This should spread risk and may take the business into a faster-
growing market

Disadvantages :
• Lack of management experience in the acquired business sector

• There could be a lack of clear focus and direction now that the
business is spread across more than one industry

Stakeholder impact :
• Greater career opportunities for workers

• More job security because risks are spread across more than one
industry.

Joint ventures and strategic alliances

These are two forms of external growth that do not involve complete
integration or changes in ownership.

These strategic alliances can be made with a wide variety of

stakeholders, for example :
• With a university - nance provided by the business to allow new
specialist training courses that will increase the supply of suitable
sta for the rm

• With a supplier - to join forces in order to design and produce

components and materials that will be used in a new range of
products

• With a competitor - to reduce risks of entering a market that neither

rm currently operates in.

Problems with rapid growth

Financial
How this a ects the business
• Business expansion can be expensive

• Additional xed capital and working capital will be required

• Takeovers can be particularly expensive

• These factors could lead to negative cash ow and an increase in

long-term borrowing

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 Possible strategies to deal with problem
• Use internal sources of nance when possible.

• Raise nance from share issues - but see ‘control’ point below

• When proposing a takeover, o er shares in the new business rather

than making a cash o er to the shareholders of the target business.

Managerial
How this a ects the business
• Existing management may be unable to cope with problems of
controlling larger operations

• There may be lack of coordination between the divisions of an

expanding business

• The original owner of the business may nd it di cult to adapt to

being leader and manager .

Possible strategies to deal with problem

• New management systems and structures may be required.

• Decentralisation could provide motivated managers with a clear local

focus.

• Original owner may need to decide which are the most important
areas of the business to remain heavily involved

Marketing
How this a ects the business
• The original marketing strategy may no longer be appropriate for a
larger organisation with a wider range of products

• Growth from national to International markets may not succeed if

market strategies are not suitably adapted

Possible strategies to deal with problem

• Adopt focused marketing strategies for each speci c product or each
country operated in.

Loss of control by original owners

How this a ects the business
• Most likely to occur if a sole trader takes on partners or if a private
limited company converts to a public one

Possible strategies to deal with problem

• Almost an inevitable consequence of changing legal structure to gain
additional capital, but original owners could try to remain as directors.

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