Unit 2

The Nature of Business

Activity
Types of Business Organisation:
Two Sectors
The economy can be divided into
two sectors:

•The Private Sector

•The Public Sector

The Private Sector
• Private individuals and firms that
are owned by private individuals
• Firms in the private sector include:
– Sole Traders
– Private Limited Companies (Ltd)
– Partnerships
– Public Limited Companies (PLC)
Private Sector Firms
One of the key differences is between:
• Sole traders and partnerships
whose liability is unlimited

And

• Private Limited and Public Limited

Companies, who have ‘limited liability’
The Public Sector
• Made up of central government,
local government, and businesses
that are owned by government
• In the last twenty years the number
of government-owned firms in the UK
has shrunk massively
• Now, very few examples remain:
for instance, the Royal Mail
Business Ownership

The Private Sector

Business Ownership

• Sole Trader:
– Owned, financed and controlled by one
individual but can employ other staff
• Common in local building firms, small shops,
restaurants, butchers, etc.
Business Ownership
Sole Traders: Advantages

• Easy to set up
• Personal incentive –
• keep all the profits
• make key decisions
• high degree of control
• Flexibility
• Ability to offer personal service
Business Ownership
Sole Traders: Disadvantages

• Unlimited Liability
• Limited access to capital
• Potential for long hours
• Pressure of being solely responsible
• Lack of continuity – business ceases once
owner dies
Business Ownership
Partnerships:

• Owned, financed and controlled by

upwards
of 2 partners
• Terms of Partnership agreed through
contract
• Bound by the terms of the Partnership
Act 1890
• Common in professions – lawyers,
accountants, architects, surveyors, estate
agents, vets, etc.
Business Ownership
Partnerships: Advantages

• Greater access to capital

• Shared responsibility
• Greater opportunity for specialisation
• Easy to set up
 Business Ownership
Partnerships: Disadvantages

• Unlimited Liability
(However since 2001, Partnerships can
apply to be Limited Partnerships)
• All partners liable for the debts of the
others
• Partnership dissolved on death of one
partner
• Potential for conflict
• Decisions of one partner binding on the
rest
• Limited access to capital
Business Ownership
Limited Companies:
– Private Limited Company (Ltd) Owned by
between 2 and 50 shareholders
– Public Limited Company (PLC) Owned by
minimum of 2 but no maximum number of
shareholders
– Has a separate legal identity – the company
can sue and be sued
– More complex to set up
– Minimum share capital of $60,000
Business Ownership
Limited Companies:
Must Register with Registrar of Companies at Companies House

• Memorandum of Association
Details of the nature, purpose and structure of the company
• Articles of Association
Details of the internal rules of the company

• Certificate of Incorporation – allows the company to trade

• Shareholders have limited liability – can only lose what
they agreed to put into the company – no personal liability
• PLCs – shares traded on Stock Exchange
• LTDs – shares only bought and sold with agreement of
existing shareholders
Business Ownership
Limited Companies – Issues

• Divorce between ownership and control

• Potential for diseconomies of scale –
communication, decision making, etc.
• Must publish accounts
• PLCs – shareholders may be large institutions –
pension funds, insurance companies, etc.
• PLCs - Share value subject to volatility –
affects company value
• PLCs – can be large, complex, possess market
power
 Business Ownership
Co-operatives:
Ownership, finance and control in hands of ‘members’

•Exists for the benefit of ‘members’

• Consumer co-ops – members buy goods in bulk,
sell to members, divide profits between members
• Worker co-operatives – workers buy the
business and run it – decisions and profits shared
by members
• Producer co-operatives – producers organise
distribution and sale of products themselves
 Business Ownership
Franchises:
Method of business ownership backed by established
‘brand’ name

•Owner gets to run a business with less ‘risk’

•Owner buys the right to use the established company’s
name, format products, logos, display units, methods,
etc.
•Speedy way for business to expand
•Become very popular
•Owner – (Franchisee) responsible for debts, pays a
royalty to owners of the brand, keeps any remaining
profit
•Franchisee – pays a fee for the purchase of the
franchise
•Common franchises – Body Shop, McDonalds, Costa
Coffee, Subway
Other Business Types

• Co-operatives are owned by their

staff, who are ‘members’ of the firm
• Profits are shared
amongst the members
• Losses too must be shared
Franchises
• Many businesses today
are franchises
• A business idea is licensed
to a franchisee
• The owners of the brand receive
a license fee
• The franchisee gains the right
to use the business brand
Not For Profit Businesses
• Many charity-based business organisations are
run as ‘not for profit’ operations
• They typically receive donations
or funds from groups or government
• Any financial surplus is ploughed back into the
business
• The organisation does not aim
to generate profits
 Limited Liability – What does it
mean?
It all comes down to the responsibility for the
debts of the business:
• A sole trader or partnership can be held
responsible for all the debts of the firm
• The owners of limited companies can only be
held responsible up to the value of their
investment in the business
Ownership and Control
• Owners often want to keep control of
their businesses
• This leads many small firms to stay as
sole traders, even though this limits their
funds
• Taking on new partners or shareholders
cuts the amount of control that owners
have
• If you hold the majority of shares (over
50%) you can keep some control, but not
all
Legal Responsibility for sole trader

• Sole traders have no legal formalities to go

through, apart from registering for VAT if
their turnover reaches a certain amount
• Partnerships also have no legal formalities but
may choose to sign a Deed of Partnership
• Companies have to go through a series of legal
formalities
Forming a Limited Company

• Limited companies must produce two

documents
• Memorandum of Association and
Articles of Association
• If these are acceptable, the Registrar of
Companies awards a Certificate of
Incorporation
• The company can then trade
Other Legal Requirements for limited
companies

• A limited company must also send a copy of its

annual accounts to the Registrar
• It must also hold an Annual General Meeting
and invite its shareholders to attend
• Becoming a Public Limited Company involves
far more time and cost
• It must have a minimum of £50,000 share
capital
Where the Profits go in limited
companies
• Limited companies use part of their profits to
pay a dividend to shareholders
• They can choose not to pay a dividend but
always have to pay interest on any borrowing
the company has made
• Profits can be ‘retained’ and ploughed back
into the company
Profits and Losses
• Any profits made (once tax has been paid) can
be kept by the owners of the business
• This makes Sole Trader (and partnership)
businesses very attractive
• But remember … whatever funds have been
put into the business will be lost if it goes bust!
Sources of Finance
Sources of Finance
Business Growth
 Internal Sources of Finance and Growth
• ‘Organic growth’ –
growth generated
through the development
and expansion of the
business itself. Can be
achieved through:
• Generating increasing
sales – increasing
revenue to impact on
overall profit levels
• Use of retained profit –
used to reinvest in the
Selling more goods and services to consumers is one
way to grow the business.
business
Title: Home Depot quarterly profit rises 53%. Copyright: Getty
Images, available from Education Image Gallery
• Sale of assets – can be a
double edged sword –
reduces capacity?
 External Sources of Finance
• Long Term – may be
paid back after many
years or not at all!
• Short Term – used to
cover fluctuations in
cash flow
• ‘Inorganic Growth’ –
growth generated by
The existence of capital markets enable firms to raise acquisition
long term loans and share capital.
Title: Dow up on Wall Street. Copyright: Getty Images, available
from Education Image Gallery
Long Term
• Shares (Shareholders are part owners of a company)
– Ordinary Shares (Equities):
• Ordinary shareholders have voting rights
• Dividend can vary
• Last to be paid back in event of collapse
• Share price varies with trade on stock exchange
– Preference Shares:
• Paid before ordinary shareholders
• Fixed rate of return
• Cumulative preference shareholders – have right to
dividend carried over to next year in event of non-payment
– New Share Issues – arranged by merchant or investment banks
– Rights Issue – existing shareholders given right to buy new
shares at discounted rate
– Bonus or Scrip Issue – change to the share structure – increases
number of shares and reduces value but market capitalisation
stays the same
Long term
• Loans (Represent creditors to the company – not owners)
– Debentures – fixed rate of return, first to be paid
– Bank loans and mortgages – suitable for small to medium sized firms
where property or some other asset acts as security for the loan
– Merchant or Investment Banks – act on behalf of clients to organise and
underwrite raising finance
– Government/EU – may offer loans in certain circumstances
• Grants
 Short Term
• Bank loans – necessity of paying interest on the payment,
repayment periods from 1 year upwards but generally no longer
than 5 or 10 years at most
• Overdraft facilities – the right to be able to withdraw funds you do
not currently have
– Provides flexibility for a firm
– Interest only paid on the amount overdrawn
– Overdraft limit – the maximum amount allowed to be drawn -
the firm does not have to use all of this limit
• Trade credit – Careful management of trade credit can help ease
cash flow – usually between 28 and 90 days to pay
• Factoring – the sale of debt to a specialist firm who secures
payment and charges a commission for the service.
• Leasing – provides the opportunity to secure the use of capital
without ownership – effectively a hire agreement
Business Angels
Business Angels
• Individuals looking for investment
opportunities
• Generally small sums
up to £100,000
• Could be an individual
or a small group
• Generally have some say
in the running of the company
Venture Capital
Venture Capital
• Pooling of capital in the form of limited
companies – Venture Capital Companies
• Looking for investment opportunities in fast
growing businesses or businesses with highly
rated prospects
• May also buy out firms in administration
who are going concerns
• May also provide advice, contacts
and experience
• In the UK, venture capitalists have invested £50
billion since 1983
Sources of Finance for Development
International Institutions
The World Bank
• An agency of the United Nations
• A group of five organisations
which focus on providing funds
for projects aimed at alleviating poverty,
inequality
and promoting development
• Currently has 184 members
 The World Bank
• The 5 institutions:
• The International Bank for Reconstruction and
Development (IBRD) – provides loans and advice to
poor countries to assist development
• The International Development Association (IDA) –
interest free credits and grants to countries who are not
able to borrow through normal market channels
• International Finance Corporation (IFC) – providing
finance through the private sector for development
• The Multilateral Investment Guarantee Agency
(MIGA) – providing investors with protection against
risk
to promote investment in developing countries
• The International Centre for the Settlement of
Investment Disputes (ICSID) – arbitration service
in the event of investment disputes
Special Drawing Rights (SDRs)
Foreign Direct Investment (FDI)
Foreign Direct Investment (FDI)

• Policies to attract investment

• Such investment often associated with multinational corporations
(MNCs)
• Policies need to focus on having the right conditions in place –
– Infrastructure
– Security
– Peace
– Local laws and regulation
– Government corruption
– Freedom of the market
– Local labour supply
– Legal issues – protection for the investor, property rights, etc.
– Tax regime
• Has been criticised as being a means by which MNCs
can exploit poorer countries
Aid
Aid
• Bilateral – from one
country
to another
• Multilateral –
aid distributed
by an agency
who co-ordinate
donations
Aid can be useful for important infrastructure
projects such as dams which help to generate
electricity as well as providing irrigation
schemes.
Copyright: Antijape, http://www.sxc.hu
Aid
• Benefits:
– Help to kick-start economic development
– Used to help develop vital infrastructure needed to encourage
other investment
• Costs:
– Not always used for appropriate purposes
– Can be linked to various ‘strings’ that may not be in the
recipient countries’ interests
– Crowding out of domestic investment
– Creates a dependency culture
– Distorts the working of the market
External environment
• What is an external analysis?
– Differentiate between external opportunities and
threats.
– Describe how organizations are open systems.
– Distinguish between the environment as
information perspective and the environment as
source of resources perspective.
– Explain how an external analysis is more than
scanning the environment.
• How do you do an external analysis?
– Describe the components in an organization’s
specific environment.
– Explain each of the forces in Porter’s five forces
model.
WHAT IS AN EXTERNAL
ANALYSIS?
External Analysis
Scan and evaluate various external
environmental sectors impacting performance

Opportunities
Positive external environmental trends that
improve the organization’s performance
Threats
Negative external environmental trends that
hinder the organization's performance
What is an external analysis?
• External analysis builds upon the notion that
organizations are open systems
– Often success is determined by the
environment around the organization and
not the intelligence inside the organization
 Organizations as Open Systems

Environment

Organization
Inputs Processes Outputs
Organization Functions:

nt
Environme
Environment

Production-Operations Goods
Resources: Marketing
Physical Services
Financial-Accounting Performance
Capital Human Resource Mgt.
Human Measures:
Research and Development Financial
InformationInformation Systems
Productivity
Managerial Activities: Achieve Goal
Planning
Organization
Leading
Controlling Organization

Environment
 Two Perspectives on Environment

Environment as Source of Information

– Environment viewed as source of information
– Environments differ in amount of uncertainty
– Uncertainty is determined by complexity and rate
of change
– Reducing uncertainty means obtaining
information
– Amount of uncertainty determines amount and
types of information needed
– Information obtained by analyzing external
environment
Two Perspectives on Environment
Environment as Source of Resources
– Environment viewed as source of scarce and
valued resources
– Organizations depend on the environment for
these resources
– Resources are sought by competing
organizations
– Dependency is determined by difficulty of
obtaining and controlling resources
– Reducing dependency means controlling
environmental resources
– Controlling environmental resources means
knowing about the environment and
attempting to change or influence it
External Environmental Sectors

Specific Environment
– External sectors that directly impact the
organization’s strategic decisions by
opening up opportunities or threats

General Environment
– External sectors that indirectly affect the
organization’s strategic decisions and which
may pose opportunities and threats
An Organization’s External Environment

General
Environment

Technologi Economi
cal Specific Environment c
Industry-Competitors
Current
Substit Organization Rivalry
ute
Product Potenti
s Bargaini al
ng Bargaini Entrant
Political- ng
Legal Power of s Demograp
Supplier Power of
Buyers hic
s

Sociocultu
ral
 General Environment
De
mo

ic
om
g
rap

on
Ec
hic

Sociocultural
al
eg

Te
l-L

ch

Sources of
ni
ica

ca
lit

External Influence
l
Po
 General Environment
Economic
All the macroeconomic data, current statistics, trends, and changes
• Interest rates
• Monetary exchange rates
• Budget deficit-surplus
• Trade deficit-surplus
• Inflation rates
• GNP or GDP
• Consumer income, spending, and debt levels
• Unemployment levels
• Workforce productivity
 General Environment
Demographics
Current statistical data and trends in population characteristics
• Gender
• Age
•
Income levels
•
Ethnic makeup
•
• Education
• Family composition
• Geographic location
•
Birth rates
Employment status
General Environment

Sociocultural
• Country's culture

• Society's
• Traditions
• Values
• Attitudes
• Beliefs
• Tastes
• Patterns of behavior
General Environment

Political-Legal

• Federal, state, and local

• Laws
• Regulations
• Judicial decisions
• Political forces
General Environment

Technical
Improvements, advancements, and innovations
that create opportunities and threats
• Communications
• Computing
• Transportation
• Manufacturing
• Robotics
• Biotechnology
• Medicine and medical
• Telecommunications
• Consumer electronics
External Information System

An external information system

(EIS) is an information system
that provides managers with
needed external information on a
regular basis
 What is the external environment of
organizations?

 Competitive advantage is a core

competency that clearly sets an

organization apart from competitors
and gives it an advantage over them
in the marketplace.
What is the external environment of organizations?

 Companies may achieve competitive advantage

in many ways, including:
• Products
• Pricing
• Customer service
• Cost efficiency
• Quality
What is the external environment of organizations?

 The general environment — all of the

background conditions in the external
environment of the organization including:
– Economic
– Socio-cultural
– Legal-political
– Technological
– Natural environment
What is the external environment of organizations?

 The specific (task) environment — actual

organizations, groups, and persons with whom
an organization interacts and conducts
business.
 Includes important stakeholders such as:
– Customers
– Suppliers
– Competitors
– Regulators
–
Model for Change
Environment

M3 Vision

Creativity Self-knowledge

Consensus Culture
 Environment

Momentum Vision

Environment Directing Team Self-knowledge

Consensus Culture

• You must create an overwhelming mandate for

change
• External world key to success –who are the
customers
• Connecting the dots
• “Sniff and tell”
• Fear and lust
• Never underestimate complacency
 Environment

Momentum Vision

What demands change?

Directing Team Self-knowledge

Consensus Culture

• Changes in the external environment.

– Increased competition.
– Changing consumer demand.
– Constrained resources
– Failed performance
– New social values
– Changing technologies
 Environment

Momentum Vision

What demands change?

Directing Team Self-knowledge

Consensus Culture

• Changes in the internal environment.

– Increased expectations
– Erosion of authority
– New management structures.
– New technologies
– Competing interests

?
Connecting the dots Consumer
Demands
Diversity
Rate of Change

Aging Population Competitive

Environment

Generation X
New Technology
?

Shortage of faculty
?
Flexibility
More Focus on
Community
Underserved populations
Globalization
More Competition for
New Work Values Workers
Current Drivers –Continued
Movement to Systems
⇒ Tower mentality of the
guilds
⇒ Driven in part by
choice of consumers
⇒ Prerogatives of
incumbents remain
paramount
⇒ Less of a system more
a collection
How did we get here?
Where are we going?
 When does change occur?
General Theory

Change = A< BCD

A = benefits of maintaining status quo

B = pain of maintaining status quo
C = vision of a different world
D = small steps to achieve the vision
 Environment

Vision: The Grace of

Momentum Vision

Great Things
Directing Team Self-knowledge

Consensus Culture

What is a vision?

• Provides the heart to go against the

status quo
• Explains the world differently
• Combines emotion and reason
• Informs workers, partners and
customers
• Tied to values and past successes
• Brief and direct
Vision: The Grace of Great Things

Transformational in nature, nothing else

worth doing
An agenda worth advancing
Drawn from core competencies and assets
Developed with clear and honest
assessment of environment
Given adequate time to develop, mature
and be realized
Creates context for subsequent
implementation and planning work
“if you do not know where you are
going, any road gets you there”
Vision: The Grace of Great Things
Vision

From vision to systemic change Strategies

• Multi-level change process Plans

• Context, Timeframe, Skills,

Products
• Preferences – yours and theirs
• Ceilings and floors
• Learn from the process “The Plan is Nothing,
Planning is Everything.”
Dwight D. Eisenhower
 Scale and Time
High
Start Over
Complexity

Reinvent

Improve
Scramble

Low
Short Time Long
Source: O’Neil E, Kimball B. Health Care’s Human Crisis: Nursing. (Princeton: Robert Wood Johnson Foundation, 2002)
Context of change
• Focus the change Environment
efforts on the right System
problem Organization
Team
Individual
 Environment

Momentum Vision

Self Knowledge
Directing Team Self-knowledge

Consensus Culture

Known to Unknown
Self to Self
Feedback

E
Known to x Public Arena Blindspot
Others p
o
s
u
Unknown r Facade or Unknown or
to Others e Private Unconscious
What is change?
What is conserved defines identity. But what is
conserved also defines what can change. This is
interesting. We are so concerned about change,
yet what is most important is what is
conserved… politics conserve. Even
revolutionaries conserve. All systems only exist
as long as there is conservation of that which
defines them.”

--Humberto Maturana, biologist

What is change?
• A replacement of the old with the new
• Shifts to new types of behavior
• Shifts to new ways of thinking and interacting

…but that’s not all

Change is also...

• An extension of the old into the future

• Continuity and preservation
• By changing certain things, we preserve other
things
• Hopefully, we preserve things that are most
important to us (identity)