Business Economics

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Business Economics by Mind Map: Business Economics

1. Merger & Acquisition

1.1. A merger takes place with the agreement of managers from both previous companies, usually through the exchange of shares from the merging companies for the new company An Acquisition occurs when the management of a firm (A) purchases a controlling interest (shares) from the shareholders of firm B

1.2. Conglomerate merger (and its main benefits) A conglomerate merger is when two firms merge that produce dissimilar products or are involved in totally unrelated business activities with the main benefit of spreading the risk e.g. a firm that offers multiple products is more immune to damaging trends that are specific to an individual product group. Additional benefits are increasing market share, synergy and cross selling. Firms also merge to diversify and reduce their risk exposure.

2. BCG

2.1. The Boston Consultancy Group (BCG) Matrix. A planning tool that uses graphical representations of a company’s products and services in an effort to help the company decide what it should keep, sell or invest more in The BCG growth share matrix breaks down products into four categories: dogs, cows, stars and “unknown”. If a company’s product has low market share and is in a low rate of growth market, it is considered a “dog” and should be sold off. Products that are in low growth areas but which the company has a large market share are considered “cows”, meaning that the company should “milk” the “cash cow” for as long as it can. Products that are both in high growth markets and make up a sizeable portion of that market are considered “stars”, and should be invested in more. Questionable opportunities are those in high growth rate markets, but in which the company doesn’t maintain a large market share. Products in this quadrant are to be analyzed more.

3. Porters 5 Forces

3.1. · competitive rivalry within industry(1) · Threat of entry into the industry (1) · Threat of substitute products being introduced (1) · Bargaining Power of buyers (customers)(1) · Bargaining Power of suppliers (1)

3.2. Identify what problems or difficulties confront the use of the model. Some factors and forces are more open to influence by managers than others (1) How the industry is defined is crucial (1) e.g. are we going to analyse the domestic air travel industry or the domestic long distance travel industry? (1) The model can be argued to overlook the option of long term collaboration as a route to profitability. (1)

4. Cost Plus Pricing

4.1. Cost-plus pricing is a pricing strategy companies use to maximize their rates of return by adding a certain % mark-up to costs to arrive at a price. In some situations mark up may vary with market conditions.

5. Price Discrimination

5.1. Price discrimination refers to the practice of charging different prices for the same product in different markets Conditions for successful price discrimination are: Barriers must exist between the two markets to prevent resale from the cheaper into the more expensive. price elasticities of demand (ped’s) must be different price elasticities across the two markets

6. Product Line Pricing

6.1. When a firm produces a range of products in a product line the price of any given product may be related to prices of other products in the ‘line’. For example a printer may be priced low to attract customers and losses recouped by selling cartridges at a high price.

7. Privatisation

7.1. Benefits

7.1.1. Supply side/efficiency benefits Privatisation leads to incentives for efficiency and provision of value for money to customers through the existence of profit motive which meant firm could in theory go bankrupt or become vulnerable to takeover. Competition could be introduced post privatisation, it acted as a stimulus to reduce costs and prices and maintain or increase quality to gain market share and profit from competitors. Such stimuli were argued to be likely to lead to more responsible behaviour by trade unions who had previously benefitted from working within public sector monopoly suppliers of necessity goods in many cases

7.1.2. Clarity of objectives Where nationalised industries had been asked to act in the public interest or were subject to interference from politicians for political reasons e.g. locating plants in areas of high unemployment, managers of privatised firms were left free to pursue commercial/profit oriented objectives.

7.1.3. Share ownership An opportunity to introduce many new people to the concept of share ownership. This was seen as giving more people a direct stake in the economic fortunes of the country, changing attitudes to industry and in the case of employees acting as a motivator.

7.1.4. Fiscal / Tax benefits Proceeds from the sales of the companies Ending of government subsidies to loss making public corporations/ nationalised industries Flows of taxation revenue from profitable privatised industries

7.1.5. Managerial freedom Nationalised industry managers faced a number of restrictions which disappeared with privatisation: · Not allowed to raise funds from the capital markets (1) · Not allowed to diversify beyond what their founding charter had established the organisation to do (1) · Not allowed to move into overseas operations (1)

7.2. 3 Dimensions

7.2.1. Transfer of assets/ownership from public to private sector Opening up an industry (which has been reserved for the public sector) to the private sector to allow competition Contracting out of public sector services to private firms by repeated rounds of tendering.

7.3. Disadvantages

7.3.1. Natural Monopoly A natural monopoly occurs when the most efficient number of firms in an industry is one (partially because of high fixed costs). (Tap water or rail way industry). There is no scope of having competition between several firms. In this case privatisation would just create a private monopoly which might seek to set higher prices to exploit the consumer. Public Interest There are many industries which perform an important public service, e.g health care, education and public transport. In these industries, the profit motive shouldn’t be the primary objective of firms and the industry. For example, in the case of health care, it is feared privatising health care would mean a greater priority is given to profit rather than patient care. Government loses out Many of the privatised companies in the UK are quite profitable. This means the government misses out on their dividends, instead going to wealthy shareholders. Regulation of private monopolies. Privatisation can create private monopolies, such as the water companies and rail companies. These need regulating to prevent abuse of monopoly power. Therefore, there is still need for government regulation, similar to under state ownership.

8. Reasons for Market Failure

8.1. Asymmetric Information Occurs when one side of a transaction has information not available to the other side Common regulation is used in response to this E.g requiring food manufactures to list ingredients in the food they sell

8.2. Public Goods Are a narrow range of goods and services that are 1. Non depletable (my consumption of the product does not reduce the amount left for others) 2. Non excludable (cannot be excluded from consumption) Examples: Street lights, radio waves, parks, national defense, sewers, lighthouses. Key issues: Free rider problem, no incentive to pay. Solved by public provision, using taxes to pay.

8.3. Merit and Demerit Goods Are goods that the government values differently than individuals or oranisations. Wants: + More merit goods consumed - less demerit goods to be consumed Merit goods: Provided on a subsidized basis to increase incentive of use (insurances, pension plans, school attendance) Demerit goods: Normally taxed heavily to discourage purchase (tobacco, alcohol) Again, strong role of regulation, government may respond to asymmetric information (tobacco advertising & health hazards/ children)

9. Complete Contract

9.1. A complete contract is a contract which covers all possible eventualities and the actions to be taken in each eventuality by each party to the contract.

9.2. The main difficulties in producing complete contracts are: Complexity - in many contractual situations the human brain cannot grasp the full complexity of the situation Uncertainty - contracts concern future activity and all future eventualities cannot be predicted with certainty Language - limitations of language make it difficult to express precisely all contract terms in a manner that both parties can agree to

10. Principal Agent Problem

10.1. This exists whenever one person or institution (the principal) engages another (the agent) to carry out a task on their behalf and information about or the monitoring of that task is not free. Issues could also arise when the interests do not align and no incentives are proposed to align both interests.

10.2. Shareholders & Manageent PLC example Shareholders and managers may have different objectives e.g. profit maximisation and sales maximisation respectively. The lack of day to day involvement of shareholders means that they might find it hard to get the managers they have employed to behave exactly as they want

11. Why PLC's won't/can't maximize profits

11.1. Plc’s are owned by shareholders but run by professional managers. Managers may have different objectives from shareholders (sales maximization over profit maximization), which they can pursue at least to an extent because of the lack of involvement of shareholders in the day to day running of the company.

12. Why Maximize Sales over Profits?

12.1. Firms often seek to increase their market share – even if it means less profit. This could occur for various reasons: a) Increased market share increases monopoly power and may enable the firm to put up prices and make more profit in the long run. b) Managers prefer to work for bigger companies as it leads to greater prestige and higher salaries. c) Increasing market share may force rivals out of business. E.g. supermarkets have lead to the demise of many local shops. Some firms may actually engage in predatory pricing which involves making a loss to force a rival out of business. d) firms run by professional managers are likely to seek to maximise sales revenue rather than profit, as top managers’ salaries and other perks are dependent more on sales revenue than profit

13. Marris's Growth Maximization Theory

13.1. Marris believed, that instead of shareholder and management interests being opposed, both would be served by growth. Managers seek growth in sales for reasons such as its links to salaries and perks. Shareholders seek growth in the value of the company and hence their shares. Marris therefore proposed an objective which, both managers and shareholders could pursue, of maximising the value of a firm’s sales and capital value.

14. Firm Behavioural theories

14.1. Instead of companies pursuing dominant goals such as maximising profit or sales, behavioural theories see a company as made up of a number of groups of which each may have different goals. Therefore a company’s goals may emerge as a compromise between competing groups’ goals; the trade-offs required between different groups’ goals is another reason for companies engaging in satisficing behaviour. TLDR: Doesn't focus on a single goal but rather engages in satisficing behaviour as a result of the compromise of different objectives from different groups within the company

14.2. Contingency Theories Contingency theory of firm objectives suggests that companies match their internal activities to their environments. As the environment is subject to change, companies are likely to have to adjust their goals as their environment changes, which makes pursuit of a single maximising goal impossible.

15. Obligational Contractual Relationship

15.1. Relationships are seen as potentially long term. (1) The buyer has a good idea who will get the order, (1) because they will have researched the supplier and will probably already be trading with them. (1) Price may be agreed subsequently by negotiation. (1) Contracts consist mainly of general rules of behaviour. (1) Substantive issues are settled case by case, according to the agreed rules (1) Supply often starts on an oral communication. (1) There is little or no inspection on delivery. Buyers may get involved in design of supplier systems (1) Technology transfer is not always fully costed, (1) as the benefits may be seen as intangible and occurring in the future, beyond the current contract. (1)

16. Horizontal Integration

16.1. Firms at the same production stage for same or similar products combine. Argued to generate economies of scale: 1) At ‘plant’ level through greater specialisation 2) At firm level as managerial cost is spread over a larger output 3) Also larger size leads to increased bargaining power in purchasing.

17. Vertical Integration

17.1. Firms combine which produce the same or similar goods but at different stages of production. Two broad types: 1) Backward integration e.g. a producer combines with supplier of raw materials; argued to lead to e.g. better control of input quality; 2) Forward integration e.g. a producer combines with chain of retail distributors; argued to lead to e.g. better control of final pricing policy

18. Satisficing Behaviour

18.1. decision makers may not have sufficiently precise information to maximise anything and may instead set themselves minimum levels of achievement i.e. they satisfice rather than maximise.

19. Multi National Company

19.1. A company which owns or controls production or service facilities in a country other than its home country. Reason for becoming MNC: Securing long term profit and strengthening market position. 2 Types: Cost oriented and Market oriented MNCS: Cost oriented tend to integrate vertically, (Backwards in search of cheaper inputs and forwards by establishing of assembly plants in developing countries to take advantage of cheap labour) Market oriented tend to integrate horizontally into new geographical markets. Typically firms may progress through stages of *Exporting or licensing overseas production *Establishing an overseas sales outlet *Establishing full overseas production and distribution facilities

20. Bounded Rationality

20.1. In decision-making, the rationality of individuals is limited by: the information they have, the cognitive limitations of their minds, the finite amount of time they have to make a decision.

21. Globalisation

21.1. ..cross border integration of production, financial markets etc. and by the reduced autonomy of nation states.

22. Opportunism

22.1. Self interested behaviour that may involve lying, cheating, hiding information, breaking agreements etc. (NCC)

23. Adversarial Contractual Relationship

23.1. 1) Buyers seek low dependability by trading with a lot of different suppliers 2) Competitive bidding takes place and the buyer does not know who will win before the process starts. Prices are all negotiated and finalised before an order is placed 3) Short relationships that will most likely only last for the current contract 4) All terms and conditions are written down in detail, are substantive and aimed towards a complete contract 5) All contingencies are defined and written down 6) The supplier never starts producing until a written order is received 7) Products are always inspected upon delivery 8) Customer maintains the threat of cancellation by maintaining relationships with multiple suppliers 9) Technology is only transferred when it can be costed and paid for as part of the contract 10) Narrow channel of communication, which is kept to a minimum. The inspection by the buyer is the main control mechanism 11) Risk is defined and specified in the contract and there is little sharing of it

24. Relevance of Economic Theory to Business Decisions

24.1. 1) It can offer a different perspective on an issue 2) It can demonstrate and encourage clear logical reasoning 3) Simple positive models may lead the way to more complex realistic models, which may have greater application to decision making 4) Theory may provide an agenda of relevant issues to consider and analyse rather than providing obvious decision making rules

25. Product Life Cycle

25.1. Pricing Strategies in the first stage (growth). Common to use an aggressive price strategy to complement high marketing expenditure and have as many early adopters. Alternative strategy is price skimming where a high price is charged to skim off high profits for a short period since little direct competition exists.