Topic 5 - Business Behaviour Flashcards

Question

What are the disadvantages of integration ?

Answer 1

Demotivated employees Tension and job loss Complicated

Answer 2

Employees may be demotivated due to different management style and culture. When Virgin Active took over Esporta Health Clubs, personal trainers and other gym staff became frustrated with new working practices. Staff turnover increased significantly after this takeover. Daimler (the company that makes Mercedes cars) merged with Chrysler in the late 1990s. The company had very different cultures and in 2007, Chrysler was sold by Daimler to an investment company.

Answer 3

Mergers and takeovers often lead to attempts to cut costs. Attempts to cut costs often lead many people to lose their jobs and this can create tension in a workforce. This happened when Morrisons took over Safeways supermarkets in the UK in 2004.

Answer 4

The costs of a merger/takeover can outweigh the benefits. For example, the two businesses’ operations will have to merge. If 2 businesses employ 5,000 people in 30 countries, combining this operations would not be easy or straightforward. This can lead to diseconomies of scale.

Answer 5

the reversal of a merger between two firms or the reversal of a takeover. One large firm is broken into two or more smaller firms

Answer 6

Failed merger Underperforming business unit Antitrust Investment or debt Diseconomies of scale

Answer 7

If firms merged hoping to cross-sell extra products to customers and this failed then they may demerge. If firms merged to try to cut costs by sharing some costs, but this failed, then they may demerge.

Answer 8

If only one part of the business area is underperforming then it may make sense to demerge that part of the business so that management can focus more on the more successful business areas or units. Equity markets may increase the 'multiple' that investors will pay for a business if it only contains 1 successful business instead of 1 successful business and 3 underperforming businesses. Therefore a demerger could create shareholder value. Philips sold off their Philips Lighting business via an IPO to focus on higher margin businesses.

Answer 9

Like how governments block some takeovers, a firm may demerge because of government intervention. If a government views a monopoly market structure as a market failure, then the government may force the firm to be broken up. Standard Oil was split up by the US Supreme Court into multiple smaller oil companies in 1911.

Answer 10

A firm may sell off one of its divisions to pay off business debts or to undertake a major investment programme. Hewlett Packard separated their software and hardware businesses in 2017.

Answer 11

If the firm is too large and is experiencing diseconomies of scale then a firm may decide that a demerger is better for shareholders

Answer 12

A business is likely to have a better focus after a demerger. The total equity value of the business units may rise after a de-merger. If the businesses were unrelated, then a 'conglomerate discount' may vanish. If a business was suffering from diseconomies of scale, then a demerger may increase efficiency and lower average cost. However, if the business was operating at the minimum efficient scale, then a lower output may increase average cost. Selling a loss-making business is difficult. People are more likely to want to buy a successful business. 'Realising a loss' on a past acquisition and accepting it was a bad choice may harm management's power in the business.

Answer 13

Some workers may be forced to work for a new legal entity or employer. There may be cultural clashes or a fall in morale. If the demerger happens to fund investment, then some of this investment may be in machinery or automation tools that reduce the need for labour. Operating in a smaller firm may be good for workers. Dunbar's number finds that people can operate in groups of up to 150 whilst maintaining strong social relations with all of the other members of the group.

Answer 14

If demerging stops a firm suffering from diseconomies of scale, efficiency could rise, costs could fall and prices could also fall, increasing the level of consumer surplus. But if the firm loses economies of scale, costs could rise and prices could rise. This is likely to reduce consumer surplus and consumer welfare. But having more firms in an industry may increase choice and competition, leading to higher quality products/services and lower prices.

Answer 15

Profit maximisation

Answer 16

Firms maximise profit when the marginal revenue (MR) is equal to the marginal cost (MC). Any extra units produced from here will have a negative impact on profit. This is because of diminishing returns. So marginal cost will be higher than marginal revenue past this point of MC=MR.

Answer 17

Pay dividends to shareholders. Save the money for future use. Invest towards future growth, e.g. in R&D.

Answer 18

To make profit, firms may have to achieve a number of other objectives first. E.g to gain long run profit it might be more important to gain revenue and market share in the short term, even if profit must be sacrificed. Amazon has made very little profit in the last 10 years and seems to have aimed to maximise market share in the short run

Answer 19

To make profit, firms may have to achieve a number of other objectives first. E.g to gain long run profit, it might be more important to gain revenue and market share in the short term so that economies of scale and price-setting power can be first achieved, even if profit must be sacrificed. Amazon has made very little profit in the last 10 years and seems to have aimed to maximise market share in the short run. A challenge for Amazon would be how to increase their profit margin (how much is charged to the customer over and above costs) without making itself vulnerable to competition.

Answer 20

Market share (sales maximisation) Corporate social responsibility Satisificing Not for profit Revenue maximisation

Answer 21

Firms may try to maximise market share (without making a loss), also known as sales maximisation. To do this, a firm would produce where average revenue is equal to average cost. A company such as Tesco may focus on this; it would allow them to achieve economies of scale and greater price-setting power in the long-run. This could be beneficial to managers due to the prestige, and the perks they may receive from managing a large firm.

Answer 22

This involves firms acting in a sustainable way whilst trying to make supernormal profit. E.g a firm might aim to produce its goods whilst keeping carbon emissions low. This can be beneficial for society.

Answer 23

Bounded rationality can limit our ability to make choices that lead to profit maximisation. As a result, profit maximisation is not always possible. Some firms will satisfice instead. The theory of satisficing was proposed by Herbert Simon. This involves reaching a minimum requirement in a number of areas. E.g setting a minimum goal for profit, sales and revenue

Answer 24

These are firms that don't aim to maximise supernormal profits. But rather, to operate in ways that are beneficial to society. E.g a student union.

Answer 25

Firms may try to maximise revenue. To do this, a firm must produce where marginal revenue is equal to zero. Revenue maximisation increases the size of the firm, this could be beneficial to managers due to the prestige, and the perks they may receive from managing a large firm. Amazon seems to be a company that has aimed to maximise revenue, at least in the short run.

Answer 26

Bounded rationality can limit our ability to make choices that lead to profit maximisation. As a result, profit maximisation is not always possible. Some firms will satisfice instead. This involves reaching a minimum requirement in a number of areas. E.g setting a minimum goal for profit, sales and revenue.

Answer 27

Total revenue Average revenue Marginal revenue

Answer 28

Total revenue is the income brought into the firm from selling its products. Total revenue = price × quantity.

Answer 29

Average revenue = total revenue (price × quantity) ÷ quantity. So, average revenue = price. So, if price is equal to average revenue, you could simply rewrite the average revenue curve as the demand curve.

Answer 30

This is the additional revenue gained from selling the last output unit. If marginal revenue is positive, total revenue could be increased from expanding output. So, total revenue is maximised when marginal revenue is equal to zero.

Answer 31

The midpoint of the average revenue curve is where total revenue is maximised. The marginal revenue curve has twice the steepness of the average revenue curve.

Answer 32

Marginal revenue is the additional revenue gained from selling the last output unit. If marginal revenue is positive, total revenue could be increased from expanding output. So, total revenue is maximised when marginal revenue is equal to zero.

Answer 33

Price makers have partial control over the price at which their goods are sold. Firms can maximise total revenue by operating at the point where the price elasticity of demand is equal to -1.

Answer 34

If selling price cannot be controlled (and so the firm is a price taker), there is perfectly elastic demand. Increasing the price causes the quantity to fall to zero. Here, marginal revenue is equal to average revenue.

Answer 35

Decreasing price = increases total revenue.

Answer 36

Increasing price = decreases total revenue

Answer 37

Decreasing price = decreases total revenue.

Answer 38

Increasing price = increases total revenue

Answer 39

Straight-line demand curve At zero demand or high price - minus infinity. At midpoint - elasticity is minus one. At zero price or high quantity - elasticity is zero. PED of +/- one = maximised total revenue. The closer a product's price is to the midpoint, the higher the revenue.

Answer 40

Marginal cost is the change in total cost divided by the change in output for each possible level of output. These are usually rising. Only variable costs affect marginal costs.

Answer 41

Average cost measures cost per produced unit. Average cost is total cost over total output

Answer 42

the total cost divided by total output at each level of output

Answer 43

variable cost divided by total output at each level of output

Answer 44

Fixed costs do not change regardless of the level of production (or output). Fixed costs cannot be changed in the short run. E.g machinery.

Answer 45

Variable costs are generated in the act of producing. The more you produce, the greater the variable cost. These can be changed in the short run. E.g the amount of material bought by Zara to make clothes

Answer 46

When marginal cost changes, it affects average cost

Answer 47

When marginal cost < average cost = average cost is decreasing

Answer 48

When marginal cost > average cost = average cost is increasing

Answer 49

where average cost is equal to marginal cost.

Answer 50

the sum of the fixed and variable costs

Answer 51

A tick/U-shaped

Answer 52

Initially as output increases, marginal cost falls. But diminishing returns start to take place at a certain level, and so marginal cost will start to rise

Answer 53

When the marginal cost is below the average cost, the average cost is falling. When marginal cost is above average cost, the average cost will rise.

Answer 54

This curve declines at first, as marginal cost is falling. This is because fixed costs stay the same, over an increasing level of output. As marginal cost starts to rise, the average total cost curve will follow

Answer 55

Average costs rise

Answer 56

the concept that the more of something you add, the lower the impact of each additional unit, assuming all else is fixed

Answer 57

When firms choose to create goods or services they will select the most productive factors of production to use. As they produce more goods, the firm will have to use less and less productive factors of production (because they have already used the best).

Answer 58

If you were a farmer, you would choose the most fertile field and effective workers available to you when you start producing. If you want to produce any more you have to start using less fertile fields and less effective workers. As a result, each extra field used and worker employed will be able to produce less than the ones before.

Answer 59

The LRAC is the 'envelope curve'. We usually draw the LRAC as smooth, but it is created by joining all the minimum points on lots of SRAC curves. Each SRAC curve shapes is U-shaped. Assuming capital is fixed, diminishing marginal returns set in. When they become zero, the SRAC is at its lowest point. After that the marginal return is negative.

Answer 60

as the quantity of output goes up, the cost per unit goes down

Answer 61

Internal economies of scale is the long run process that sees firms learn and adapt, reducing average costs as output increases. E.g using a new management system that increases efficiency may bring internal economies of scale.

Answer 62

External EoS is when the change that brings about economies of scale happens outside of the firm. E.g If a new road opens and this allows Ocado to deliver products more quickly and cheaply, this is a case of external economies of scale.

Answer 63

If having high output reduces a firm's average costs, then they can sell their products at lower prices than competitors who have lower output. This can eventually lead to the firm having a monopoly over the market if it's able to force its competitors out of the market. Producing aeroplanes is expensive and there are very high fixed (and R&D) costs. The average cost of a plane falls with a higher output. Airbus and Boeing produce most of the planes in the world.

Answer 64

Managerial economies of scale Purchasing economies of scale Specialisation and division of labour Technical economies of scale Marketing economies of scale Financial economies of scale Risk-bearing economies of scale

Answer 65

Large firms can afford to invest in management technology and employ dedicated managers. The managers and their systems can improve the productivity of the whole production process by overseeing it effectively. Project management tools like JIRA and Trello can help businesses to be more efficient.

Answer 66

Larger firms have more power in a market place than small firms. As firms grow they can use this power to reduce the cost of purchasing inputs from their suppliers. Suppliers are willing to negotiate discounts on their goods and services to increase the quantities that they sell. As a result, larger firms can buy more at a lower price per good, reducing their costs. This is often known as bulk buying and is a form of price discrimination. A prominent example of this is in supermarkets who buy a lot of their goods from small suppliers and can force them to take lower and lower prices due to their relative size.

Answer 67

As firms grow, they can designate particular tasks to individuals or groups of workers. With these workers now only doing one or a small number of jobs it becomes cost effective to give them specific training and equipment which makes them more efficient. Specialized workers are more productive which reduces average costs.

Answer 68

Larger firms can afford to invest in specialist technologies (or capital) which reduce the cost of production. They can do this by spreading the initial cost of buying this technology across the large number of goods and services they sell. A manufacturing firm can invest in specialist machines to produce their goods more efficiently as long as they produce enough for the lower cost of production to offset the upfront cost of the machines.

Answer 69

Mass market advertising on TV and sponsoring large events or places (like Arsenal FC's Emirates football stadium) has a very large cost. Large businesses can spread this cost over a lot of output, whereas the local corner shop would not even be able to access this type of marketing.

Answer 70

Larger firms are viewed by financial institutions (like banks) as less risky (less likely to go bankrupt) relative to smaller firms. Banks are therefore willing to lend money at a cheaper rate as they can be more certain that the money will be repaid.

Answer 71

Large firms are considered less of a risk because they tend to be in more markets. As a result the firm overall is less exposed to changes in individual markets. Firms can be in more markets by diversifying the range of goods and services they produce or by selling to different geographical areas. The independent shop owner selling a small number of goods is more reliant on its market than the international conglomerate who could survive having to stop selling in a particular country or stop selling a particular good.

Answer 72

the situation when output rises but this causes average cost to rise too

Answer 73

Internal diseconomies of scale occur when firms growth begins to cause LRAC to increase (decreasing returns to scale). As companies grow, they develop tiers of management. These tiers of management can increase the social distinction between employees. Communication can worsen, which can reduce overall efficiency. Managers can find it increasingly difficult to oversee and coordinate actions.

Answer 74

External diseconomies of scale is when the change that brings this about happens outside of the firm. Increased market performance means raw materials may go up in price. This will increase average cost for all firms in the industry.

Answer 75

The long-run average cost curve is U-shaped. As the curve is decreasing, there are increasing returns to scale as there are increasing economies of scale. When the curve is flat, there are constant returns to scale. When the curve is increasing, there are decreasing returns to scale. The upward slope of the curve shows diseconomies of scale.

Answer 76

The MES is the lowest output at which average cost is minimised in the long run. All possible economies of scale have been achieved. If the fixed costs of an industry are high, the MES will be large. E.g Building aeroplanes or the National Grid.

Answer 77

Minimum efficient scale

Answer 78

Profit = total revenue - total costs

Answer 79

When total revenue is equal to total cost, a firm is said to be generating normal profit. In the long run, normal profit is the minimum a firm can be making to be sustainable. In a perfectly competitive industry, firms can only make normal profit.

Answer 80

When total revenue exceeds total costs, a firm is said to be generating supernormal profits. The existence of supernormal profits signals to firms that they should enter the market. Their ability to do this depends on the barriers to entry and level of contestability.

Answer 81

In the long run, a firm must make at least normal profits. But in the short run, at least one factor of production is fixed. If the firm makes enough revenue to cover its variable costs, and begin to pay off its fixed costs, operations can continue. The shut down point is the revenue where a firm just covers its variable costs. Below this point the firm will cease production immediately.

Answer 82

When price is more then variable costs but less than average costs

Answer 83

The existence of supernormal profits in an industry signals to potential entrants that they should enter the market. Supernormal profits will be competed away if new firms enter. This logic relies on a number of assumptions about the contestability of markets.

Answer 84

When marginal cost is equal to marginal revenue, a firm is profit maximising. If marginal cost is less than marginal revenue, the firm could increase total revenue by expanding production. If marginal cost is greater than marginal revenue, the firm could increase revenue by reducing output.

Answer 85

Normal profit is when total revenue is equal to total cost. In the long run, normal profit is the minimum a firm can be making to be sustainable. Supernormal profit is when total revenue exceeds total costs. The existence of supernormal profits signals to firms that they should enter the market.

Answer 86

Contestability of the market

Answer 87

To maximise profit they produce where MC=MR. Only normal profits can be made in the long run.

Answer 88

To maximise profit, again they produce where MC=MR, but supernormal profits can now be made.

Answer 89

In the short run the firm is unable to get out of contracts or sell its assets so will continue producing with prices below the minimum average total cost as long as the price covers the average variable cost of production so it can start to pay off some of its fixed costs. If the situation persists then the firm will look to sell off its assets and get out of contracts (e.g. rent agreements) If in the short run the market price doesn’t cover the variable costs then the firm will cease production immediately as continuing production will only increase its debt

Answer 90

In the long-run a firm will stop producing and shut down if it can’t make normal profit. A firm can’t make normal profit if the market price is below the minimum average total cost.

Answer 91

Define mergers Mergers are a form of external business growth whereby firms acquire other businesses who are typically suppliers, distributors or competitors. The Asda-Sainsburys proposed merger is an example of horizontal integration between competitors. Mergers are successful Firms can acquire competitors which reduces the competition that a business faces. Market share also increases and so companies can benefit from increased economies of scale which may lead to lower average costs. These can then be passed on to consumers in the form of lower prices. Growth from merging can also be rapid, for example, Facebook's acquisition of WhatsApp in 2014 gave it 700 million customers instantly. Mergers are not successful Mergers can be disastrous. The merging of businesses usually requires operations teams to combine and, if the firms are large, this can be complex and costly. This can lead to diseconomies of scale. Different management styles and work cultures may also come into conflict. For example, Daimler's merger with Chrysler in the late 1990s suffered from this and they separated in 2007. Evaluate Overall, mergers are not always successful and more than half fail. The success of a merger depends on whether the firms will be able to synergise production and the workforces. It may also depend on the extent to which market share will increase and whether the firms can take advantage of scale economies.

Answer 92

Satisficing

Answer 93

Internal diseconomies of scale Diseconomies of scales describe the situation average costs rise as output rises. Internal diseconomies of scale happen when a firm's growth causes the LRAC to rise. If output rises, the firm is likely to get bigger. This growth can lead to more layers of management, with a higher likelihood of miscommunication & poor co-ordination, with costs rising as a result. External diseconomies of scale External diseconomies of scale is when the change that brings higher costs about happens outside of the firm. Increased market performance means raw materials may go up in price. This will increase average cost for all firms in the industry. For example, 3 new coffee chains entering a market could cause LRAC to rise for all firms because they may be competing for inputs like baristas and coffee beans.

Topic 5 - Business Behaviour Flashcards

(119 cards)