Impact on Firms of a change in size

Content• Reasons for growth • Financing growth:

– Internal – External

• Growth and cash flow • Management reorganization

– Change in roles– Change in business structure– Loss of direction and control

• Problems of transition in size:– From LTD to PLC– From national to international– Retrenchment

• Changes in ownership

Growth

• Growth is a common objective for business.• Larger firms have the following advantages:

– They may benefit from economies of scale– They may be able to exert more power over their

markets– They are safer from takeover bids – They have more status

Types of growth

• Businesses can choose to grow internally by selling more of their products or externally by acquiring / merging with another firm

• Internal growth is slower

Financing Growth

• Business growth needs financing• Finance can come from internal and external

sources• Internal sources come from within the firm• External sources come from outside the firm, these

are more expensive as the business has to pay interest

Sources of Finance

• Internal:– Retained profits– Sale of assets

• External:– Overdrafts– Mortgages – Loans– Share issue

Growth and Cash Flow

• Growth is expensive and may lead to short term cash flow problems

• If cash flow problems are identified in the cash flow forecast businesses need to avoid them, to do this they could arrange a loan, reduce credit terms for customers or increase credit terms to their suppliers

• Overtrading can occur if a business expands too rapidly and fails to manage its cash flow resulting in liquidity problems

Management Reorganisation During Growth

• There may be adjustment problems for staff• When two firms merge employees roles may

change which can impact their morale, motivation and performance

• As firms grow in size many entrepreneurs find the transition from boss to manager difficult as they have to remove themselves from doing the jobs to delegating and leading the company

Change in management structure / hierarchy

• When firms grow their organisational structure often changes

• As a small firm grows the management structure develops more layers in the hierarchy creating longer chains of command

• When two businesses merge layers are often removed in the hierarchy leading to redundancies to reduce costs and increase efficiency

Risk of loss of direction and control

• As businesses get bigger it gets more difficult for managers to stay in control

• To stay in control managers often introduce procedures like appraisals, budgeting and management by objectives

• These procedures provide direction for the entire business and help with coordination problems

• Managers need to ensure that communication is clear and open within the business

Problems of transition in Size

• There can be many problems associated with business growth

From LTD to PLC

• When firms grow they often change ownership from a LTD to a PLC

• Public limited companies offer the benefit of raising more finance by selling shares to members of the public

• By becoming a PLC a firm does not guarantee that they will be able to sell shares to the public

• Flotation is the process where an LTD becomes a PLC

Advantages and Disadvantages of changing from a LTD to a PLC

Advantages• Can raise more finance• More media attention

Disadvantages• Increased regulation e.g.

have to publish accounts • No restrictions on share

ownership • Share price open to

fluctuations• Managers may loss control

of the business

From national to international – advantages and disadvantages

Advantages• Provides new market

opportunities• Can increase profitability

Disadvantages• Exchange rate fluctuations • Have to cope with different

laws and regulations • Need to conduct expensive

market research to familiarise yourself with consumer behaviour / market conditions

Expansion Internationally

• This usually occurs in a number of stages:– Firms export their products abroad– Firms appoint an overseas agent – Firms join up with local producers and give / sell licences

to them to sell their products– Firms set up their own operations abroad

Retrenchment

• This is where businesses reduce their size• Firms may deliberately do this when:

– They are suffering from diseconomies of scale– They have lost focus

• Retrenchment may be forced on firms when:– Competitive nature of the market changes– Social trends change– New product development– Economic changes

Changes to Ownership - Takeovers

• Takeovers are where one firm gains control of another firm

• The amount a firm pays to takeover another firm is dependent on its perceived value

• Attacker firms often pay a premium to shareholders in order to secure their shares

• Bids can be hostile or welcome• Hostile bids have a greater degree of risk

Mergers

• Mergers occur when at least two firms join together to form one organisation

• Mergers and takeovers can take the following forms:– Horizontal – firms join together who are at the same

stage in the production process– Vertical – firms join together who are at different stages

in the production process– Conglomerate – firms in different markets join together

Why do firms merge ?

• Mergers and takeovers are ways for businesses to grow

• Firms decide to merge / take over due to synergy• Synergy is where the performance of the new firm

is greater than the performance of the separate firms

• Synergy is created by shared resources, ideas and skills

Management Buyouts

• Where managers in a business take it over by buying a controlling interest in its shares

• Managers may do this as they think they can turn the business around, or if shareholders lose interest in a particular part of the business

• Manager often need to borrow money to finance MBOs

• MBOs are risky however if successful they allow managers to reap plenty of rewards

Summary• Businesses can grow internally or externally• Businesses grow to reap the benefits of an increased size including: economies of scale, protection from

takeovers and increase in status• Growth can be financed from internal sources such as retained profits and external sources such as

loans and overdrafts• When businesses grow they often experience short term cash flow problems which they need to plan for

• A consequence of growth is management reorganisation this can include a change in role for managers,

a change in structure as more layers are added to the hierarchy and a potential loss of direction and control

• As firms grow many of them change from a LTD to a PLC to increase finance and their profile, this may also lead to a loss of control of the business and means that detailed reports have to be published

• When firms grow internationally they can increase market opportunities and profits however they may face problems in the host country with exchange rates, new laws and regulations and a lack of market and consumer knowledge

• Retrenchment occurs when businesses reduce the size of their operations this may be their decision due to diseconomies of scale or may be forced upon them due to external factors

• Takeovers are where one company gains control of another• Mergers are where two or more companies join together• Management buyouts are where the managers of a business buy shares in the business so they have a

controlling amount