Growth of the firm - economic objectives

• Growth of the firm

  Process by which the firm gets bigger in size
• Reasons why firms grow

  • Reduction in ATC through economies of scale
  • Bigger market share
  • Diversify product range
  • Capture resources of another business
• Economies of scale


  • Lower costs allow price cuts if new competitors enter the market
• Bigger market share


  • Increases sales and overall profitability
• Diversification


  • Spreads risk across product lines
  • Cross subsidises loss making products
  • Opportunities in new product lines
• Economies of scope


  Using the same plant to manufacture new products
• Capture resources


  • Buying underutilised firms to secure resources
• How firms grow


  1. Internal growth

  2. External growth
• Internal growth


  Retaining profit to expand the business
• External growth


  Growth from outside the firm
• Ways of external growth

  1. Merger

  2. Takeover

  3. Diversification
• Merger


  Firms agree to come together to form one firm
• Takeover


  A firm attempts to buy another firm
• Hostile takeover


  Company obtains 51% of the shares
• Diversification


  • Production or sale of a wide range of different products
• Diversification example


  • Unilever
• Types of external integration

  1. Horizontal integration

  2. Backward vertical integration

  3. Forward vertical integration

  4. Lateral integration
• Horizontal integration


  A factory that makes wooden tables buys another factory that makes wooden desks
• Backward vertical integration


  Furniture factory buys a timber forest
• Forward vertical integration


  Furniture factory buys a shop that sells wooden furniture
• Lateral integration


  Many different types of firms come together in a merger
• Growth leads to diversification
• The principal agent problem
• In a small business
• In a large limited liability company
• Principal agent


  Agent has more information than the principal
• The board of directors may not always act in the best interests of shareholders
• Firms objectives


  • Profit maximisation
  • Sales revenue maximisation
  • Sales maximisation
  • Satisficing profits
  • Loss minimization/survival
  • Ethical objectives
• Profit maximisation


  Aim for maximum difference between total revenue and total cost
• A firm making minimum normal profit is operating at break even point
• Profit maximising output


  At output Q where MC=MR
• Producing to the right of Q


  Not profitable
• Producing to the left of Q

  Scope to increase production
• Firms want to avoid attention from government watchdogs
• High profits may attract new market entrants
• High profits may make consumers resent firms
• Management may have different goals than maximising profits
• High profits may attract rivals
• Other objectives


  • Sales revenue maximisation
  • Sales maximisation
  • Satisficing profits
  • Loss minimization/survival
  • Ethical objectives
• Sales revenue maximisation


  Encouraging staff to cut prices to increase sales volume