Business and its environment (AS)

A business uses resources (inputs) to produce goods and services (outputs) that customers want, aiming to meet its objectives. This chapter looks at who starts businesses, how they are organised and sized, what they are trying to achieve and who is affected by them.

1.1 Enterprise

Enterprise and entrepreneurs

Enterprise is the skill of identifying a business opportunity and taking the risk of starting a business to exploit it. An entrepreneur is the person who does this: they organise the other factors of production (land, labour, capital) and take the risk in return for the possibility of profit.

Characteristics of successful entrepreneurs: creativity and innovation, risk-taking, determination and self-belief, leadership, hard work and the ability to spot opportunities.

Intrapreneurs

An intrapreneur is an employee who acts like an entrepreneur inside an existing business: they spot opportunities, develop new products or processes and take initiative, using the firm's resources and bearing less personal risk. Intrapreneurship keeps a business innovative and competitive as it grows.

Qualities: creativity, initiative, willingness to take calculated risks, drive and persistence, good communication and the ability to win support from colleagues.

Businesses develop employees to encourage intrapreneurship by giving freedom and time to try ideas, rewarding successful ideas, training, empowering staff and building a culture where failure is tolerated as learning.

Barriers, risk and enterprise in the economy

• Barriers to entrepreneurship: lack of finance, lack of experience, fear of failure, regulation and red tape, strong existing competitors and a lack of support or infrastructure.
• Risk and uncertainty: risk can be estimated (the chance of failure is known roughly); uncertainty cannot be measured because the future is unpredictable. Entrepreneurs accept both for the chance of reward.
• Enterprise and a country's development: new businesses create jobs, output, tax revenue and innovation, and can raise exports and living standards.
• Scope of business: local businesses serve a small area, national ones a whole country, international ones trade abroad and multinationals have operations in several countries.

Business plans and start-up problems

A business plan sets out the business's aims, the market, the product, the marketing, the finance needed and forecast cash flow and profit. It is used to persuade lenders and investors and to focus the owner's own thinking.

Typical start-up problems: raising enough finance, lack of an established customer base, finding suitable premises, building reputation, cash-flow gaps while waiting for customers to pay, and legal requirements.

Business and the economy

• Public sector businesses are owned by the government; private sector businesses are owned by individuals or groups.
• Added value is the difference between the selling price and the cost of the inputs bought in. Raising it raises profit. Ways: improve branding, better quality, lower input costs, innovation, better service.
• Sectors: primary (extracting raw materials), secondary (manufacturing and construction), tertiary (services) and quaternary (knowledge-based activity such as research and development, IT, consultancy and education). Economies usually shift from primary towards tertiary and quaternary as they develop, because rising incomes raise demand for services and technology changes how work is done.

Social enterprise

A social enterprise is a business set up to achieve social or environmental aims as well as financial viability. Profits are mainly reinvested in the cause. Examples: a fair-trade café that trains the long-term unemployed.

Purpose, environment and plans

The purpose of business activity is to meet people's needs and wants by producing goods and services, and to create value (profit, jobs, tax). The business environment is dynamic: technology, competition, customer tastes, laws and the economy keep changing, so firms must adapt to survive. Why businesses succeed: good planning and research, a clear market, good management, adequate finance and the ability to change.

The key elements of a business plan are an executive summary, the aims and objectives, the product, market research and the target market, the marketing plan, operations and location, the management team, forecast finance (cash flow, break-even, profit) and the risks. Benefits: it focuses thinking, persuades lenders, and gives targets. Limitations: it takes time, rests on forecasts that may be wrong and can become out of date.

1.2 Business structure

Legal forms of business

Limited liability means shareholders can lose only the money they invested, not personal assets. A separate legal identity means the company can own property, sue and be sued and continues after an owner leaves.

Other forms of organisation

• Franchise: a franchisee pays the franchisor a fee and a share of revenue to use its brand, products and support. Lower risk for the franchisee, but royalties and limited freedom.
• Joint venture: two businesses share costs, risks and expertise in a project and agree the split of profits.
• Co-operatives and public corporations (government-owned) also exist.

Public and private sector, and privatisation

Privatisation is the sale of state-owned assets to the private sector. Arguments for: more efficiency, competition and proceeds for the government. Against: loss of strategic control, possible monopoly power and the neglect of unprofitable services.

Economic sectors and ownership

The primary sector extracts raw materials, the secondary manufactures and builds, the tertiary provides services and the quaternary is knowledge-based (R&D, IT, consultancy). The public sector is owned and run by the state; the private sector is owned by individuals and companies. As economies develop, employment and output shift away from primary and secondary towards tertiary and quaternary activity, because of rising incomes, automation, imports of cheap manufactures and new technology. Consequences: job losses and regional decline in older industries, new skills needed, and a bigger services sector.

Appropriate ownership depends on the finance needed, the risk the owners accept, the desire for control, and the size and plans of the business: a sole trader suits a small, low-risk start-up; a limited company suits growth and a need to limit liability. A business may change form: becoming a limited company brings limited liability and more finance but more regulation, disclosure and loss of control; floating as a plc brings large funds but takeover risk and pressure from shareholders; a partnership may become a company to protect owners' assets.

1.3 Size of business

Measuring size

Growth

Internal (organic) growth comes from within the business: selling more, new products or new branches. It is slower but keeps control and is less risky.

External growth is through merger or takeover:

A merger is two firms agreeing to join; a takeover is one firm buying control of another.

Problems of rapid growth: cash-flow pressure, loss of control and communication, diseconomies of scale, culture clash after mergers, over-reliance on borrowing.

Economies and diseconomies of scale

Economies of scale are falls in average (unit) cost as output rises. Internal economies include purchasing (bulk discounts), technical (larger, more efficient machinery), financial (cheaper borrowing), managerial (specialist managers) and marketing (spreading advertising costs). Diseconomies (rising unit cost at very large sizes) come from poor communication, slow decisions and lower motivation of workers.

Why small businesses survive

They can offer personal service, serve niche or local markets, are flexible, have low overheads, and may face little competition from large firms.

Family businesses and strategic alliances

A family business is owned and run by family members. Strengths: commitment and trust, long-term thinking, flexibility and a strong reputation. Weaknesses: limited finance and skills, family conflict, succession problems and reluctance to bring in outside managers.

Small businesses matter to the economy because they create many jobs, bring innovation and competition, serve niche markets and supply larger firms; in some industries (for example construction and restaurants) small firms are the industry structure.

Mergers, takeovers and alliances

A friendly merger is agreed by both boards; a hostile takeover is a bid made against the wishes of the target's management. Impact on stakeholders: shareholders may gain a share price premium; employees risk redundancy and culture clash; customers may face less choice or gain better service; suppliers may lose or gain contracts. A merger may fail because of clashing cultures, poor integration, paying too much, debt, loss of key staff and diseconomies of scale; it may succeed through economies of scale, market share and complementary skills.

A joint venture is a new business set up jointly by two firms; a strategic alliance is a co-operation agreement without forming a new company (for example sharing technology or distribution). Both give access to markets, skills and finance and spread risk, with less cost and risk than a takeover, but profits and control are shared and partners can disagree.

The appropriate measure of size depends on the purpose: employees for labour-intensive firms, revenue for market position, capital employed for capital-intensive firms and market share for competitiveness.

1.4 Business objectives

Objectives are the specific, measurable goals a business works towards; they give direction and a basis for judging performance. Mission statements describe the overall purpose; objectives turn it into targets.

Objectives differ by type of firm and change over time: a start-up wants survival, a mature firm wants market share or profit, a social enterprise puts social aims first. Conflict appears between objectives, for example profit maximisation now versus growth or ethical sourcing.

Mission, aims, objectives, strategy and tactics

Decision-making follows stages: set objectives, collect and analyse information, identify options, choose, implement and review the results. Objectives guide every stage and give a standard for judging success; they are turned into targets and budgets for each department. They must be communicated clearly: understood objectives motivate and align the workforce, but unclear or unrealistic ones demotivate. Objectives change over time (survival first, then growth or profit).

Private sector objectives are mainly profit, growth and market share; public sector organisations focus on service quality, value for money and meeting social needs; social enterprises put social and environmental aims first. The triple bottom line judges a business on economic (profit), social (people) and environmental (planet) results, which is how CSR is measured. Ethics (what is right and wrong) can limit objectives, for example refusing to use child labour or to mislead customers even where it would raise profit.

1.5 Stakeholders in a business

A stakeholder is any individual or group with an interest in a business and its activities.

Internal stakeholders (owners, managers, employees) work in the business; external stakeholders (customers, suppliers, lenders, government, community) are outside it.

Conflicts of interest

• Shareholders want high profit and dividends; employees want higher pay; both cannot always be satisfied.
• Customers want low prices; suppliers want high prices.
• Local community wants low pollution; owners want low-cost production.

Managers balance these through negotiation and compromise, and decide whose interests carry more weight, which depends on stakeholders' power and interest. Good stakeholder relations can improve reputation, loyalty and long-term profitability.

Roles, rights, responsibilities and accountability

Each stakeholder has roles, rights and responsibilities: shareholders own the company, have the right to vote and receive dividends and the responsibility to appoint directors; employees have rights to fair pay and safe conditions and a responsibility to work to a standard; managers must run the business in the owners' interest and within the law; customers have rights to safe, honestly described products; government sets laws and collects tax.

A business is accountable to its stakeholders: it must explain and justify its actions, through published accounts, annual reports, meetings with shareholders and responses to regulators and customers. This builds trust and reputation.

The influence of a stakeholder depends on its power (for example shareholders voting, employees striking, large customers). Business decisions affect stakeholders, who may react: employees may protest, customers may boycott, and the community may campaign. Stakeholders' aims affect decisions: a business may avoid redundancies because of union pressure. If objectives change (for example from growth to cost-cutting), employees and suppliers may lose out while shareholders gain.