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A LevelEconomicsEdexcelEconomics ARevision Notes3. Business Behaviour & the Labour Market3.1 Business GrowthBusiness Growth

Business Growth (Edexcel A Level Economics A)

Revision Note

Steve Vorster

Written by: Steve Vorster

Reviewed by: Jenna Quinn

How Businesses Grow

  • Business growth can be organic or external

  • Organic growth (internal) is usually generated by

    • gaining greater market share

    • product diversification

    • opening a new store

    • international expansion

    • Investing in new technology/production machinery

  • Inorganic growth (external) usually takes place in one of three ways

    • Vertical integration (forward or backwards)

    • Horizontal integration

    • Conglomerate integration

3-1-2-how-businesses-grow_edexcel-al-economics
A diagram that illustrates how a firm can grow through forward or backward vertical integration

  • Forward vertical integration involves a merger or takeover with a firm further forward in the supply chain

    • E.g. A dairy farmer merges with an ice-cream manufacturer

  • Backward vertical integration involves a merger/takeover with a firm further backward in the supply chain

    • E.g. An ice-cream retailer takes over an ice-cream manufacturer

Advantages & Disadvantages of Different Types of Growth

  • Firms will often grow organically up to a point where they are in a position to integrate with others

An Explanation of the Advantages and Disadvantages of Each Type of Growth

Type of Growth

Advantages

Disadvantages

Organic

  • The pace of growth is manageable

  • Less risky as growth is financed by profits and there is expertise in the industry

  • Avoids diseconomies of scale

  • The management know and understand every part of the business

  • The pace of growth can be slow and frustrating

  • Not necessarily able to benefit from economies of scale

  • Access to finance may be limited

Vertical Integration

  • Reduces the cost of production as middle man profits are eliminated

  • Lower costs make the firm more competitive

  • Greater control over the supply chain reduces risk as access to raw materials is more certain

  • Quality of raw materials can be controlled

  • Forward integration adds additional profit as the profits from the next stage of production are assimilated

  • Forward integration can increase brand visibility

  • Diseconomies of scale occur as costs increase e.g. unnecessary duplication of management roles

  • There can be a culture clash between the two firms that have merged

  • Possibly little expertise in running the new firm results in inefficiencies

  • The price paid for the new firm may take a long time to recoup

Horizontal Integration

  • Rapid increase of market share

  • Reductions in the cost per unit due to economies of scale

  • Reduces competition

  • Existing knowledge of the industry means the merger is more likely to be successful

  • Firm may gain new knowledge or expertise

  • Diseconomies of scale may occur as costs increase e.g. unnecessary duplication of management roles

  • There can be a culture clash between the two firms that have merged

Conglomerate Integration

  • Reduces overall risk of business failure

  • Increased size and connections in new industries opens up new opportunities for growth

  • Parts of the new business may be sold for profit as they are duplicated in other parts of the conglomerate

  • Possible lack of expertise in new products/industries

  • Diseconomies of scale can quickly develop

  • Usually results in job losses

  • Worker dissatisfaction due to unhappiness at the takeover can reduce productivity

Constraints on Business Growth

  • There are several factors that constrain (hold back) firms from growing

  1. The size of the market: the more niche the market the smaller the number of potential customers. Even large firms face this constraint as they move closer to capturing the domestic market - to increase market size they will have to expand internationally

  2. Access to finance: small firms find it harder to access loans as they are considered to be more risky than larger firms. Due to the perceived risk, interest rates for any loans acquired tend to be higher

  3. Owner objectives: Many owners desire to grow a business to a point that provides a certain lifestyle or standard of living - and not beyond. 

  4. Regulation: Large firms are often constrained by competition regulation that aims to limit monopoly power. Firms that sell demerit goods also find growth can be limited by government policies such as age restrictions, minimum prices and indirect taxes

Examiner Tips and Tricks

Business growth is frequently tested in MCQ and structured response questions.  You are often provided with real world examples of mergers/takeovers and then asked to identify the type of growth - or reasons for the growth. If you know your theory then the first part is easy! When considering reasons for growth, look carefully at the two types of business you have been presented with and make a judgement about the most likely reason they chose to grow. Often there is a clue in the text provided so read it carefully.

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    Author
    Reviewer
    Steve Vorster

    Author: Steve Vorster

    Expertise: Economics & Business Subject Lead

    Steve has taught A Level, GCSE, IGCSE Business and Economics - as well as IBDP Economics and Business Management. He is an IBDP Examiner and IGCSE textbook author. His students regularly achieve 90-100% in their final exams. Steve has been the Assistant Head of Sixth Form for a school in Devon, and Head of Economics at the world's largest International school in Singapore. He loves to create resources which speed up student learning and are easily accessible by all.

    Jenna Quinn

    Author: Jenna Quinn

    Expertise: Head of New Subjects

    Jenna studied at Cardiff University before training to become a science teacher at the University of Bath specialising in Biology (although she loves teaching all three sciences at GCSE level!). Teaching is her passion, and with 10 years experience teaching across a wide range of specifications – from GCSE and A Level Biology in the UK to IGCSE and IB Biology internationally – she knows what is required to pass those Biology exams.