Edexcel A2 Unit 4a - Making Business Decisions
Edexcel A2 Unit 4a - Making Business Decisions
Edexcel A2 Unit 4a - Making Business Decisions
specification
Making Business
Decisions
Edexcel A2 Business Studies – Unit 4a
Quazi Nafiul Islam
2011
[email protected]
Why give it away for free?
People have started to e‐mail me about my previous notes on International Business, and I
am glad to tell you that all the feedback that I have received so far has been very positive.
But a key question that people continuously ask me again and again is the reasoning behind
giving all these resources away that I have worked so hard to make. The answer arises from
my personal philosophy, that education and knowledge should always be free regardless of
what form it is in. Our forefathers gave us the gift of knowledge not to keep to ourselves,
not to make money out of it and definitely not to copyright the material as if it were his
own. And that is the essence of knowledge. Because there are people out there that make
and share their notes, others are able to do better. Education thrives on selfless donations
from all the people of the world, regardless of their race, religion or gender: it is something
that pulls us all together. At CERN, where they are working on the LHC (Large Hadron
Collider), scientists from over 80 nationalities are working together for the sake of discovery
– look at how the love and sharing of knowledge unites us all.
And that is what my dream is, to make education accessible for free to everyone in the
world, regardless of your background, and with the power of the internet I believe that this
is more possible than ever before.
Often, we do not give away our notes and resources because we don’t want the other guy to
win, whereas we should be focusing on getting better ourselves – subconsciously, it’s not
about doing well, but rather doing better than the other guy, simply phrased as “It’s not
about winning, it’s about making sure that the other guy loses”. With that attitude,
humanity never got and never will get anywhere. If we were to co‐operate instead of
compete, it would enrich ourselves by helping other people where they are weak at, and in
return they would help us where we are weak at. In the end, both the people are helping
each other and both of them are doing better because of this co‐operation, the only thing
that they are giving up is their ego.
And that is what I have learnt to give up through sharing my resources. Some people have
taken advantage of more than my business notes; they have taken advantage of the
resources on my blog as well as asking me. At first it has hard giving everything up, but later
on it became easier. I realised that the more I gave the more I got, and on top of that I had
the support of all the people that had been beneficiaries of my benediction.
Next time you make a set of note that you are proud of, think of all the people that could
potentially benefit from your hard work, and think of how highly they would look at you.
Their smiles and sincerest gratitude are worth far more than our ego.
1|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
1. CORPORATE OBJECTIVES
3. CORPORATE CULTURE
4. CORPORATE STRATEGY
CORPORATE OBJECTIVES
CORPORATE OBJECTIVES
Corporate objectives are company-wide goals that need to be achieved in order to keep the
business on track to achieve its aims. These objectives have to be SMART: Specific, Measurable,
Ambitious, Realistic and Time-bound.
• Corporate objectives are developed from the mission statement as well as the aims of the
business.
• Corporate objectives will vary depending on the aim of the business which is determined by
the type of business
• Public Limited Companies (PLCs) will tend to be more profit-centric as their key owners are the
shareholders; shareholders have no direct influence on the day-to-day running of the business
hence they only care about:
o Price of Shares
Shareholder’s Value
o Dividends
• Sole-Traders, Partnerships, Private Limited Companies (PVT) may have more
varying objectives as their mission could be different. For example, The
Grameen Bank in Bangladesh is a bank whose main aim is to MARKET STANDING
empower the poor through Micro-Credit loans, and
therefore their main aim objective will not be Profitable businesses will
profit maximisation; if Grameen chose to maximise want to go on and become
profits then the poor would not receive lucrative leaders in the market. They GROWTH | PROFIT
loans. will also want a good image
• Corporate Objectives that are the main focus of to prove to the public that
PLCs may include: they are a force for good
o Maximising shareholder value SURVUIVAL
o Growth Adopted by
o Diversification new
Essentially becoming a conglomerate businesses
business
Very hard to achieve in practice Figure 2 - The hierarchy of corporate objectives; objectives any business could adopt.
If achieved, will give the
business greater stability as a downfall in one sector or economy will not damage the business as
much.
3|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
CORPORATE AIMS
Corporate Aims are a generalised statement of where the business is headed, from which
objectives can be set.
Mission statements are brief statements, written by the business, of its purposes and its
objectives, designed to encapsulate its present operations.
Missions Statements are short sentences or paragraphs used by a company to explain, in simple
and concise terms, their purposes for being. These statements serve a dual purpose by helping
employees to remain focused on the tasks at hand, as well as encouraging them to find innovative
ways of moving towards an increasingly productive achievement of company goals.
INVESTOPEDIA
We create happiness by providing the finest in entertainment to people of all ages, everywhere.
• Some businesses however do not have mission statements such as M&S (Marks and Spencer) as they feel that their
mission cannot be summarised in a sentence or paragraph.
• Often the mission statement is seen as little more than a public relations exercise and in truth they are often changed
when perspectives change, such as Coca-Cola changing its mission statement.
o If a business lacks a purpose or inspiration, it is far more useful to go to the root of the problem rather than
writing a mission statement.
• Critical appraisal of Mission Statements means that students need to look at Mission Statements with a critical eye. In
other words, do they genuinely outline the aims of the business, or are they more part of the marketing of the business
and aimed at giving a good impression? Students could compare business mission statements with their recent actions
to determine this.
4|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
Stakeholders are individuals or groups that have an effect on and are affected by the activities of
the organisations
Managers
Suppliers Owners
Customers Customers
Stakeholders
Future
Employees
generations
Government Environment
Communities
• Shareholders will always have conflicting aims, as they have interests in different aspects of the business.
• When dealing with shareholders, there are two types of approaches:
o Shareholder approach
This gives priority to the shareholders meaning that managers focus on maximising shareholder value.
This is very common in PLCs as the shareholders do not directly influence the day-to-day activities of
the business.
o Stakeholder approach
This treats all stakeholders equally and in theory should lead to long term benefits; this is increasingly
being adopted by most businesses.
Managers have to take into account that they have a responsibility to all stakeholders.
• The shareholders of the business will want high returns on their investment i.e. short-term returns; however this may
endanger the stability of the business by sacrificing long term growth.
• Managers will want growth for the business however this may lead to a fall in short term returns as more money is
being kept for expansion. Some managers however are loyal to shareholders and are intent on maximising shareholder
value.
5|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
• Employees of the business will want the maximum possible wage with the best
possible benefits however, they have to be careful when bargaining for higher
wages; if wages are too high this may lead to losses for the company and
therefore employees may be laid off later on.
• Customers will want value for their money and this may be achieved by
investing more into R&D. This will reduce the short-term
returns, angering shareholders.
• Suppliers will want to charge high prices; charging too high
may motivate the business to seek other
suppliers
• The government will be keen on
the business providing more jobs
so will be keen on growth.
However, there will be
environmental consequences
to expansion that the
government will try to minimise
through environmental and
safety standards; hence costs will
rise for expansion.
• Pressure groups will push the
business to make more ethical
decisions such as reducing their
carbon foot-print or paying
cocoa workers more for their
produce (Fair Trade).
Corporate Social Responsibility is the responsibility that a business has towards its shareholders
COCA-COLA CSR
• If you go to the Coca-Cola website, you will see how they claim to be trying to change the
world through their product, trying to make new and innovative products in order to become
Figure 5 - CSR - fad or tradition? ↑
more socially responsible.
• Coca-Cola has been criticized for alleged adverse health effects, its aggressive marketing to children, exploitative labour
practices, high levels of pesticides in its products, building plants in Nazi Germany which employed slave labour,
environmental destruction, monopolistic business practices, and hiring paramilitary units to murder trade union
leaders. In October 2009, in an effort to improve their image, Coca-Cola partnered with the American Academy of
Family Physicians, providing a $500,000 grant to help promote healthy-lifestyle education; the partnership spawned
sharp criticism of both Coca-Cola and the AAFP by physicians and nutritionists; its spends millions on advertising.
7|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
CORPORATE CULTURE
Corporate Culture is the values, attitudes, beliefs, meanings and norms that are shared by people
and groups within an organisation
• Strong cultures are said to exist if the staff agree and believe in that particular culture
o This usually leads to the firm performing most efficiently
o People do this because they believe that it is the right thing to do
• Weak cultures are said to exist if the staff do not agree or have little affinity to the
culture.
o To make this culture practiced, it has to be enforced by bureaucracy.
• Power is given to those who can accomplish tasks thus with those
who have expertise
• Present in firms that have team work central to its activity for example
the R&D department of a firm
• Corporate cultures are formed from the aims and behaviour of company executives
• Treatment of staff as well as the risk associated with making business decisions also aid to form the culture
• Recruitment and training procedures determine what type of people the business wants and what skills they are trying
to promote
• Provides a sense of identity to workers and makes them feel like a part of the business.
The business can rely on them at times of need.
• Facilitates team-work
• Employees become more committed and this leads to increased productivity
• Helps to reinforce values of business and senior management.
Corporate culture has been argued to provide businesses will a competitive advantage. Japan in
the early 70s and 80s promoted lean product and the idea of making quality the most important
aspect of the product. This lead to Japanese cars dominating the market, however this change
had many barriers to it in the western automotive industry.
• Change in culture forms a cultural gap, as there will be managers and workers that had
an affinity to the previous culture and thus they will resist change.
• Change often means that there is a change in beliefs and values, which may conflict with
the beliefs and values of the worker that were coherent with the previous beliefs and
values. Often this has to be made in order to make the business more competitive.
• Change may threaten job and/or pay.
• Successful implementation of a culture change often means that change is slow and
gradual so that workers become used to it.
• However when quick change in culture is needed, businesses may often resort to sacking
workers and managers and hiring new ones.
CORPORATE STRATEGY
Corporate strategies are the policies developed to meet a company’s objectives. It is concerned
with what range of activities the business needs to undertake in order to achieve its goals. It also is
concerned with whether the business organisation makes it capable of achieving the objectives set.
Essentially, objectives are what the business is trying to achieve and strategies are the plans via which the objective will be
achieved.
• Corporate strategies are made to achieve corporate objectives and hence take into account the implication on business
resources.
• Corporate strategies are formed from a series of strategies at each level of business; however the key decisions will
always be made at the top.
9|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
• The aim is to allow the firm to consider its existing position of a product and plan what to do next, so that firms can
make better corporate strategies. The main way that this is done is through the Boston Matrix.
Competitive Advantage is an advantage which a business has that enables it to perform better
than its rivals
Competitive advantages is an area of strength that matters to the consumer but cannot easily be
copied by competitors
• Distinctive capability shown by a firm is the basis of competitive advantage; essentially making the business’ product
seem superior to the consumer.
• Different businesses have different capabilities such as:
o M&S has customer’s trust in its food.
o Walls Ice cream is delivered to the retailer within 24 hours
anywhere in England, so it has a powerful distribution
system.
o Toyota’s quality in combination with its cost and fuel
efficiency makes it the first choice for first-time car buyers. It
also has great expertise in the ‘green car’.
o Companies such as apple differentiate their products on the
basis of design and ease of use.
o Businesses such as Gucci, Dolce & Gabana and Giorgio
Armani, BMW, Mercedes Benz etc. rely on their brand
image.
10 | Q u a z i N a f i u l I s l a m – w w w . s t u d e n t t e c h . c o . c c
SUPPLIERS
BUYERS
• The greater the bargaining power of customers, the lower the price will be; often results when there are few buyers
• Ways to combat
o Forward Vertical Integration
o Encourage similar businesses in the industry to make the same move
o Make it difficult to choose another business:
Game manufacturers make cartridges so that they are incompatible with
other devices and so that its devices are incompatible with others; you
have no choice but to buy from them.
Printer makers have different types of cartridges that do not work with
other printers. Lexmark cartridges will not work with HP printers and
vice versa. Even if you refill the ink from a third party.
NEW ENTRANTS
• If entry and exit from a market is very easy, businesses specialising in the market can find it difficult to sell their
products, when the market enters a recession or downfall (sales will be low).
• High rates of return could attract more businesses into the market, which lead to a
reduction in price of the products due to increase in competition; profits will fall.
• Ways to combat (By erecting Barriers to Trade)
o Patents and Copyrights
o Develop strong brand image that encourage customer loyalty
o Large amounts of advertising (so that new firms get the impression that market is
expensive due to high marketing costs)
o Give the impression that there are large sunk costs (A cost that has been incurred and cannot be reversed)
11 | Q u a z i N a f i u l I s l a m – w w w . s t u d e n t t e c h . c o . c c
SUBSTITUES
RIVALS
A strategic decision is one that is made in a situation of uncertainty and has medium to long term
significance for the business
Tactical decisions are decisions that affect the business on a day-to-day scale, whereas strategic
decisions affect the direction in which the business is headed. Often this is in response to an event.
Mistakes in tactical decisions are unlikely to have a major impact on the business
In simple terms, strategic decisions have far higher implications on physical, financial as well as human resources because they
affect the direction in which the business is headed. However, tactical decisions in general can affect all three types of resources
but on a far smaller scale. Strategic decisions can be planned for, so it is expected that the human, physical, financial resources
would be in place. With tactical decisions this may not be the case, thus limiting the business' ability to react tactically.
12 | Q u a z i N a f i u l I s l a m – w w w . s t u d e n t t e c h . c o . c c
COMPETITION VS CO-OPERATION
• Price Cutting
o Reducing the price of the product to make the product more competitive by making it more affordable to the
consumer
• Increase in product differentiation
o DESIGN
Outstanding design such as apple iPads and iPhones
differentiate its products from the competition.
o BRAND IMAGE
Car companies such as Mercedes Benz and BMW rely on
their image of unmatched quality and design to differentiate
its products
o UNIQUE PRODUCT FEATURES
Introducing truly innovative products in response to modern
technology or popular demand
o SUPERIOR QUALITY
• Find New Markets
o Can be in response to market saturation e.g. when Vodafone began expanding in developing nations.
• Takeover
o Large businesses will want to prevent new business with innovative ideas to take over their market share.
• Predatory Pricing
o When a firm cuts its costs deliberately in order to put its rival out of business
More competition means that often there has to be changes in corporate strategies. Changing corporate strategies can be
difficult as the business has made these strategies based on corporate objectives and aims. New strategies that will have to
adapt to the current situation have to meet those aims, or the current situation may not allow those aims to be met. Often
under new legal, political or economic circumstances may force the business to change its corporate
strategy.
External influences such as the recession in 2008 might force the business to become far more
competitive through the abovementioned strategies because now businesses are fighting to
gain market share in markets that have shrunk and as a result their revenue has shrunk.
However, businesses might choose to co-operate instead becoming a stronger force due to
the combination of two or more companies that will be able to dominate the market.
Mergers can take place to keep the companies from failing. British Airways and Iberia merged
in order to prevent further damage to their markets due to the recession; AIR FRANCE KLM and
Lufthansa were already aiming to target the market share of the weakened BA after months of
strikes from their workers.
However sometimes especially when it comes to R&D, businesses might work together in order to gain
access to new technologies that are very expensive to develop.
In a few rare instances, businesses will break the law by through collusion e.g. price fixing etc.
1|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
a. Investment Appraisal
i. Simple Payback
ii. Average Rate of return
iii. Discounted Cash-Flow (Net Present Value only)
b. Decision Trees
i. Construction and interpretation of simple decision tree diagrams,
limitations of technique.
c. Project planning and Network Analysis
i. Nature and purpose of Critical Path Analysis
ii. Be able to draw simple networks
iii. Calculate Earliest Start Time and Latest Finish Time
iv. Identify the critical path and calculate the total float
v. Limitations of technique
d. Contribution and special order decisions, determining whether a
special order is worth the effort.
PRODUCTS
EXISTING
Market Product
Penetration Development
INCREASING RISK
MARKETS
Market
Diversification
Development
NEW
INCREASING RISK
• The Ansoff Matrix is essentially a tool developed to help people chose what strategy they should use in order to
successfully develop their product. Essentially, these are marketing strategies for growth through the development of
new products and markets.
MARKET PENETRATION
PRODUCT DEVELOPMENT
DIVERSIFICATION
INVESTMENT APPRAISAL
• Investment appraisal has a set of tools that we use in order to assess the return of an investment made by the
company.
SIMPLE PAYBACK
• The payback period is essentially the time taken for a firm to cover its costs. Basically, if you invested $30,000 into a
business, how long would it take the business to generator $30,000?
• Say, you have to invest $30,000 into capital and this capital is estimated to generate $10,500 a year and would take
$3,500 to maintain. Calculate the pay-back period.
• Calculating payback:
• As you can see, Year Cash In Cash Out Net Cash Flow Cumulative Cash Flow
that there is no
NOW $ - $ (30,000) $ (30,000) $ (30,000)
clear year that
YEAR 1 $ 10,500 $ (3,500) $ 7,000 $ (23,000)
the payment is
made up. So, we
YEAR 2 $ 10,500 $ (3,500) $ 7,000 $ (16,000)
are going to YEAR 3 $ 10,500 $ (3,500) $ 7,000 $ (9,000)
have to calculate YEAR 4 $ 10,500 $ (3,500) $ 7,000 $ (2,000)
it in months. YEAR 5 $ 10,500 $ (3,500) $ 7,000 $ 5,000
th
• We can see that up till the 4 year, there was still a cumulative cash-flow of $2,000.
$10,500
• In the 5th year, $10,500 was generated. So we need to calculate how much was generated per month, = $875
12
• Therefore, we now need to calculate the number of months that it would take $2,000 to be generated,
$2,000 2
= 2 𝑚𝑜𝑛𝑡ℎ𝑠
$875 7
Advantages Limitations
Easy to calculate and understand Ignores what happens after payback period.
Essentially, there is more effort being put into calculating finances
The method ignores the profitability of the project, since the
over a comparatively shorter period of time. So, it is likely to be
criterion used is the speed of repayment.
more accurate.
Takes into account timing of cash-flows. So the discounted cash-
May encourage short-termism.
flow can be calculated to gain its NPV.
Businesses with weak cash-flows will be able to seek out quick
payback investments.
It is of limited use on its own (because it does not pay attention to
This is useful for sectors with rapidly changing technology e.g. the
profits) and is therefore used together with the Average Rate of
electronics industry. New consumer electronics can be designed
Return as well as the Net Present Value
and introduced regularly. It is important to cover the cost of the
investment before the new good is designed.
5|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
• This is the profit an investment will give over the period of its lifetime.
• How to calculate:
𝐿𝑖𝑓𝑒𝑡𝑖𝑚𝑒 𝑝𝑟𝑜𝑓𝑖𝑡
𝑁𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑦𝑒𝑎𝑟𝑠
$20,000
=
5
= $4000
$4,000
× 100 = 16%
$25,000
• Usually, the exam will give you table from which you are going to have to interpret this from.
• However, there is another term that we must familiarise ourselves with, and that is ‘Reward for Risk’
• Basically, the business is taking a risk in order to make a profit. However, it can simply put the money in the bank and
get the interest out of it. Say the interest is 6%.
• So, the business can make 6% profit without even having to take any risks.
• The Reward for risk is the 𝐴𝑅𝑅 − 𝑅𝑎𝑡𝑒 𝑜𝑓 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡.
• So, in this case, the Reward for risk would be10%.
Advantages Limitations
Shows the profitability clearly and allows comparisons with other Not as accurate as payback as it makes assumptions over a large
modes of investment such as interest etc. number of years
Uses all the cash flows over the project’s life - Payback only
considers cash flow up until the payback month - it might be that
the project generates larger cash flows after this period, but the
method ignores these. ARR looks at all the cash flow projections Ignores the timing of cash flows
and included these, so it is fairer to projects that might generate
large incomes in later years e.g. those that might require a lot of
training and getting used to new equipment.
Focuses on profitability Ignores the opportunity cost of the money invested
6|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
• $100 today will be worth a lot less in 3 years’ time. This is because of inflation that reduces the value of money and
makes goods more expensive as well as the interest that banks provide that increase the value of money.
• The ARR and payback methods provide insight into profitability and cash flow. But, what we need to now is the
opportunity cost of making an investment. What are we throwing away in order to make an investment?
• The higher the rate of interest and the longer the waiting time for the money to come in, the less money it is actually
worth in today’s term.
• The predicted value of money in today’s terms is calculated from discount tables that will be given to you in the
examination. Here is an example:
Rate of interest
Years Ahead 4% 6% 8%
0 1.00 1.00 1.00
1 0.96 0.94 0.93
2 0.92 0.89 0.86
3 0.89 0.84 0.79
4 0.82 0.8 0.75
• So the value of $200 in 4 years’ time at 6% interest would be $200 × 0.6 = $160
CALCULATING NPV
• Say a company has two projects, Projects X and Y. Say the rate of interest is 8%.
• Their cash-flows and Discounted cash flows are given below:
Project X Project Y
Discount Discounted Discount Discounted
Year Cash Flow Cash Flow
factor Cash Flow Factor Cash Flow
0 ($250,000) 1.00 ($250,000) ($250,000) 1.00 ($250,000)
1 +$50,000 0.93 $46,500 +$200,000 0.93 $186,000
2 +$100,000 0.86 $86,000 +$100,000 0.86 $86,000
3 +$200,000 0.79 $158,000 +$50,000 0.79 $39,500
𝑁𝑉𝑃 = $40,500 𝑁𝑉𝑃 = $61,500
• Despite the fact that both projects have the same initial cost, and they bring in the same quantity of money over their
lives, there is a large difference in the NVP, as project Y generates more income at the beginning, whereas project X
generates more income towards the end. As the discount factor increases over time, the actual value of the money
generated by X is reduced. Also, the predictions are less accurate the further we predict thus there is great uncertainty
as to whether project X can generate the NVP even if the value of money decreases as expected.
Advantages Limitations
Takes the opportunity cost of the investment into account Complex to calculate and communicate
A single measure that takes the amount and timing of cash flows
The meaning of the results is often misunderstood
into account
Only comparable between projects where the initial investments
are the same
Can consider different scenarios
The rate of discount used is critical, if the rate is not accurate,
the business could make big mistakes
7|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
DECISION TREES
• Decision trees offer a visual representation of the company’s possible choices that it can make.
• There are four parts to a decision tree:
o Decision points are the decisions the business has to make; represented by boxes.
o Outcomes are the possible outcomes of taking a decision; represented by circles.
Obtained often from back-data.
o Expected Values are the financial outcomes of a decision i.e. how much profit or loss a decision will make.
• However, there is a term called the Expected Value – no s at the end.
Expected Value
Decision Point
Outcome
• Calculating the expected value of B:
o 𝐸𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝑉𝑎𝑙𝑢𝑒 = (𝑃𝑟𝑜𝑏𝑎𝑏𝑖𝑙𝑖𝑡𝑦 𝑜𝑓 𝐺𝑜𝑜𝑑 𝐶𝑟𝑜𝑝 × 𝑃𝑟𝑜𝑓𝑖𝑡) + (𝑃𝑟𝑜𝑏𝑎𝑏𝑖𝑙𝑖𝑡𝑦 𝑜𝑓 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐶𝑟𝑜𝑝 × 𝑃𝑟𝑜𝑓𝑖𝑡) +
(𝑃𝑟𝑜𝑏𝑎𝑏𝑖𝑙𝑖𝑡𝑦 𝑜𝑓 𝑃𝑜𝑜𝑟 𝐶𝑟𝑜𝑝 × 𝑃𝑟𝑜𝑓𝑖𝑡)
o 𝐸𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝑉𝑎𝑙𝑢𝑒 = (0.3 × £50,000) + (0.3 × £30,000) + (0.4 × £10,000)
o 𝐸𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝑉𝑎𝑙𝑢𝑒 = £84,000
• Calculating the expected value of C:
o 𝐸𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝑉𝑎𝑙𝑢𝑒 = (𝑃𝑟𝑜𝑏𝑎𝑏𝑖𝑙𝑖𝑡𝑦 𝑜𝑓 𝐺𝑜𝑜𝑑 𝐶𝑟𝑜𝑝 × 𝑃𝑟𝑜𝑓𝑖𝑡) + (𝑃𝑟𝑜𝑏𝑎𝑏𝑖𝑙𝑖𝑡𝑦 𝑜𝑓 𝑃𝑜𝑜𝑟 𝐶𝑟𝑜𝑝 × 𝑃𝑟𝑜𝑓𝑖𝑡)
o 𝐸𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝑉𝑎𝑙𝑢𝑒 = (0.5 × £40,000) + (0.5 × £10,000)
o 𝐸𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝑉𝑎𝑙𝑢𝑒 = £25,000
Advantages Limitations
Construction of diagrams may highlight decisions that we not
Much of the data including probability is estimated.
previously considered
Decisions often have several aspects. Decision tress only focus on
Putting numeric values on these choices tends to improve
the quantitative aspect. Qualitative data is also important, e.g. the
results.
effect on the environment of one particular decision.
There are time lags in decision making, by the time a decision is
finally made, some of the numeric information may be out of date.
The process is quite time consuming. However, computers have
Force management to take into account the risks involved in now made this a lot faster.
making these decisions. This helps to separate the important Managers may manipulate the probability of a decision to suit
risks from the unimportant risks. their preferences, distorting the final results.
Decision trees cannot take into account the dynamic nature of a
business. Sudden changes in the economic climate might render a
decision based on the decision tree obsolete.
8|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
• In a production line, there needs to be proper organisation in order for the production to go on smoothly.
• In order to do this the needs to be a plan for the process to operate smoothly.
• This is done through a model called ‘Network Analysis’.
A network path diagram helps to identify the critical path, which shows the activities that require
the most careful management scrutiny.
• There are different parts to a network diagram. The lines represent an activity: which is essentially that is a part of the
process that requires time and/or resources; waiting for supplies is an example of an activity.
• A node (represented by circles) is the start of or end of an activity.
• This is what a Network diagram looks like:
Start Node
The
Lines represent activity
Earliest Start Critical
Time Path
Advantages Limitations
Processes should be smoother as there is careful planning involved
It shortens the length of time taken to complete a project, as tasks A complex process which will have many lines and will be long;
are handles simultaneously – this can be very advantageous as getting computer rendering will be needed. Software may need to be made or
a product first to the market can often be a positive factor, especially bought which will be expensive.
with technology.
Delays can be handled adeptly as time is accurately planned.
Drawing a diagram does not ensure success; it will be the effort of
There is better time management, facilitating JIT management. Also, the managers that ultimately brings the results.
due to better management, there is reduced pressure on Cash Flow.
9|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
Contingency planning is the creation of plans of how particular crises which might affect a
business will be dealt with should the arise
• Things do not always go according to plan, an employee might be sick – such as in a school, a class
teacher may be sick and may not come to class. If this happens, then there needs to be a
replacement teacher capable of taking the class. Contingency planning is essentially a back-up plan
the business has.
• Similarly, in times of a crisis such as a fire or flood, the business will need a back-up plan to make sure
that it can survive the crisis.
• But there are many other types of crises that may occur, and these may be financial, related to machinery,
human resources, public relations etc. To combat all these problems, the business will need a contingency plan in place.
Advantages Limitations
It gives the business some kind of plan as to what it can do in times It can be argued that there are relatively few contingency plans that
of a crisis. are effective as there are many unforeseen eventualities.
• Developing a new market with existing products will fall into the
market development category. Essentially, if the business fails to do
well in the market, it will need a contingency plan to get itself out of
the operations e.g. sell the operations, or go into a joint venture with
a local firm in order to increase chances of survival and to gain
additional knowledge about the market as well as getting information
from the company.
• The extent of the risks will depend on how different the foreign
market is in comparison to the domestic market.
• The product may need to be modified, as when Whirlpool set out to
make the world washer, when it sold the washer to India, people
stopped buying it because some special types of Indian clothes got
stuck in the washer. Also, when PEPSI started out in China, when it
translated its logo, the literal translation was something very insulting
in Chinese culture.
• There needs to be thorough market research done, both primary and
secondary in order to gain a comprehensive understanding of the
market. Even after thorough market research businesses fail because
of the ever changing nature of consumer taste.
11 | Q u a z i N a f i u l I s l a m – w w w . s t u d e n t t e c h . c o . c c
ASSESSING COMPETITIVENESS
OVERVIEW
a. Labour productivity
b. Labour turnover
i. Unavoidable leavers
c. Limitations of these calculations
First, we need to calculate the gross profit, and then we can calculate the margin.
𝐺𝑟𝑜𝑠𝑠 𝑃𝑟𝑜𝑓𝑖𝑡
𝐺𝑟𝑜𝑠𝑠 𝑃𝑟𝑜𝑓𝑖𝑡 𝑀𝑎𝑟𝑔𝑖𝑛 = × 100
𝑆𝑎𝑙𝑒𝑠 𝑅𝑒𝑣𝑒𝑛𝑢𝑒 (𝑎𝑙𝑠𝑜 𝑘𝑛𝑜𝑤 𝑎𝑠 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟)
£400,000 4
𝐺𝑟𝑜𝑠𝑠 𝑃𝑟𝑜𝑓𝑖𝑡 𝑀𝑎𝑟𝑔𝑖𝑛 = × 100 = 44 %
£900,000 9
𝐺𝑟𝑜𝑠𝑠 𝑃𝑟𝑜𝑓𝑖𝑡 𝑀𝑎𝑟𝑔𝑖𝑛 ≈ 44%
First, we need to calculate the net profit, and then we calculate the margin. As a simple rule of thumb, the net profit is the profit
before tax – essentially, after you have taken all the costs, other expenses not directly linked to the production of the product as
well as interest payable, you get the net profit: the value that the business is taxed on. The net profit will be very clearly stated
in the tables that the exam board will provide, because its exact location can vary depending on the financial transactions of
each individual business.
𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡
𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡 𝑀𝑎𝑟𝑔𝑖𝑛 = × 100
𝑆𝑎𝑙𝑒𝑠 𝑅𝑒𝑣𝑒𝑛𝑢𝑒 (𝑎𝑙𝑠𝑜 𝑘𝑛𝑜𝑤𝑛 𝑎𝑠 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟)
£110,000 2
𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡 𝑀𝑎𝑟𝑔𝑖𝑛 = = 12 %
£900,000 9
To calculate this value, we need to be familiar with the balance sheet. The
balance sheet is essentially a financial statement that lists a firm’s assets and
liabilities: in simple terms, it’s what a business owns and owes. We need to
remind ourselves that long term loans are also counted as investment into the
business and therefore do count as capital employed into the business. The
business made an operating profit of £5,600,000.
• Fixed assets are assets that the business will have in the long term i.e.
buildings, machinery etc. basically, assets that the business will have
for more than a year.
• Current Assets are assets that will last for less than a year. These
assets are the most liquid assets the business has; examples include
things such as cash etc.
𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑃𝑟𝑜𝑓𝑖𝑡
𝑅𝑂𝐶𝐸 = × 100
𝐶𝑎𝑝𝑖𝑡𝑎𝑙 𝐸𝑚𝑝𝑙𝑜𝑦𝑒𝑑
£5,600,000
𝑅𝑂𝐶𝐸 = × 100 ≈ 22%
(£17,400,000 + £8,000,000)
3|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
This essentially measures the profitability of a business. If a business invests into a project, it will want to know the profitability
of the project.
𝑁𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡
𝑅𝑂𝐶 (𝑅𝑒𝑡𝑢𝑟𝑛 𝑜𝑛 𝐶𝑎𝑝𝑖𝑡𝑎𝑙) = × 100
𝐶𝑎𝑝𝑖𝑡𝑎𝑙 𝐼𝑛𝑣𝑒𝑠𝑡𝑒𝑑
Both these ratio assess the liquidity of a business i.e. how easily a business’ assets can be turned into cash. Again, this is another
ratio that is concerned with the balances sheets a business publishes.
CURRENT RATIO
The current ratio of a business is essentially the ratio between its current asses and its current liabilities.
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑅𝑎𝑡𝑖𝑜 =
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
The acid test ratio takes into account that stocks are the least liquid of all the current assets
and should not be counted as an asset that can be easily liquefied.
GEARING RATIO
This essentially is a ratio that gives an indication of how much debt the business is
under, giving insight into the long term stability of the organisation.
𝐿𝑜𝑛𝑔-𝑡𝑒𝑟𝑚 𝐿𝑜𝑎𝑛𝑠
𝐺𝑒𝑎𝑟𝑖𝑛𝑔 (𝑎𝑙𝑠𝑜 𝑘𝑛𝑜𝑤𝑛 𝑎𝑠 𝑙𝑒𝑣𝑒𝑟𝑎𝑔𝑒)𝑟𝑎𝑡𝑖𝑜 = × 100
𝐶𝑎𝑝𝑖𝑡𝑎𝑙 𝐸𝑚𝑝𝑙𝑜𝑦𝑒𝑑
This value (like every other ratio that is multiplied by 100) is expressed as a
percentage. In boom times, investors and banks find gearing a good thing, as the
business is focusing on growth, however this entails great risk. However, if a recession
suddenly hits, then the business will be in grave danger because now the business still
has to pay back the interest with a reduced income from battered sales.
4|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
The gross profit will differ from industry to industry and hence needs to be looked at with the
context of the business in mind. Can be improved by:
GROSS PROFIT MARGIN
• Raising sales revenue without increasing total costs – i.e. make production cheaper
e.g. can be done via automation.
Similarly to the gross profit margin, this will vary from industry to industry and has to be
looked at with the context of the business in mind. For example, the food industry has both a
NET PROFIT MARGIN low gross and net profit margins, but since there is a very high volume sold, it is not a
problem. Can be improved by:
• Same as gross profit margin.
This is a fundamental ratio that essentially shows how well the business is making use of its
resources and essentially, how lucrative it is for investment. The ROCE of a business needs to
be compared with previous years to identify a trend in its growth. Also, if the ROCE is less
than 6 %, then there is little incentive to invest as if an investor were to invest this money into
ROCE (RETURN ON CAPITAL EMPLOYED)
the bank instead, then the person would be much better off still making money with no risk.
Can be improved by:
• Increasing the efficiency of the business through generating greater profits from the
same amount of capital invested.
This measures the profitability of a project or operation and thus is a good indicator of how
ROC (RETURN ON CAPITAL)
successful the project was to the business.
Shows the ratio between assets and liabilities. The business would do best to keep this at 1.5:1.
However if this is too high, it means that the business has too much money that it is not
investing. However, having too low a current ratio means that it may not be able pay back debts
in times of crisis such as a downturn. Can be improved by:
CURRENT RATIO
• Selling under-used fixed assets
• Selling shares to gain more share capital
• Postpone or reduce planned investments
• Take long term-loans
Arguably, the best ratio is 1:1. A result that is too low means that that the business may not be
able to pay off its short term debts. However, companies such as supermarkets operate with
very low liquidity ratios. In fact, some of the major companies such as BP, Imperial Tobacco
and TESCO have very low acid test ratios.
ACID TEST RATIO • Adopting JIT, this way you have not stock to worry about – and you can divert more
capital into production
• Selling under-used capital or selling old machinery
• Selling shares to increase share capital
• Take long term loans
The more geared the business is, the more debt it has. By this, it means that investing in this
business is risky as well as it will be hard for the business to gain finances from banks.
However, whether a business that is geared will get investment will also depend on the state of
the industry. Can be improved by:
GEARING RATIO
• Issue more shares to raise share capital
• Buy back debentures (bonds)
• Retain more profit
• Repay loans
5|Q u az i N a f i u l I sl a m – w w w . s t u d e n t t e c h .c o . c c
VALUE LIMITATIONS
Can be used to compare one company with another; they can be The ratios are limited to the quality of the balance sheets – the
used to compare businesses in the same industry. Comparisons balance sheet represents a ‘snapshot’ of the business at the end
can also be made within the companies as it may have many on- of a financial year and is not representative of the business’
going projects. circumstance over the entire year.
WINDOW DRESSING
Both labour productivity and turnover show the effectiveness of the work force and can be a very useful yard-stick for
measuring the efficiency of the business in question.
LABOUR PRODUCTIVITY
This essentially measures the how many products (on average) a worker produces over a specific period of time. There can be
many ways to improve this:
• Making production more capital intensive will reduce the need to labour as well as produce at a cheaper rate as
machines can work continuously unlike workers.
• Often, changing the type of production can improve the efficiency of a business; using cell production instead of
assembly line production is an example as it meets worker’s social needs.
• Training can make workers more able, allowing them to perform their work more efficiently.
• Overall, increasing the motivation of workers by giving them more power or authority is also a great way to increase
productivity, as they can highlight the main problems with the production process and can therefore come up with a
better solution.
High labour productivity will drive the costs of the business down and hence the business can sell cheaper products to gain
greater sales or keep prices the same and get more profit – depending on the elasticity of the product.
However, even after adoption these measures, often businesses are unable to compete:
• Often competing businesses may offshore production to places such as China, where the labour cost is very cheap.
• Rivals may be able to increase productivity at an even faster rate, than the business, through a combination of
technology and cheap labour.
• Rival might also enhance the quality of the product while at the same time increasing the productivity of the business.
LABOUR TURNOVER
• These ratios give an indication of a problem in the business, but does not give any specific detail about the problems
that the business and often business have to carry out additional research to get to the root of the problem.
1|Q u a z i N a f i u l I s l a m – w w w . s t u d e n t t e c h . c o . c c
COMPANY GROWTH
OVERVIEW
1. TYPES OF GROWTH
a. Organic
b. External
i. Mergers and Takeovers
2. BUSINESS INTEGRATION
TYPES OF GROWTH
Growth is of two types: organic and inorganic growth. Organic growth is when the business
expands by setting up new outlets, factories or offices (service). Inorganic methods of growth
involve combining with or taking over other businesses which happens in the form of takeovers or
mergers.
ORGANIC GROWTH
INORGANIC GROWTH
• Takeovers happen when businesses buy 51% of the shares in another business. Mergers happen when two businesses
combine in order to form a bigger business with both businesses
having mutual control over the business.
o They both are in charge and there is a new board of
directors formed when this happens. Arcelor and Mittal
merged to become the world’s largest producer of steel,
the board of directors consisted of both Arcelor and Mittal
directors – this happened in 2006.
o Cadbury inorganically grew by taking over Green and
Black’s organic chocolate – it sounds kind of ironic when
someone inorganically takes over something organic!
BUSINESS INTEGRATION
Although there are benefits to inorganic growth, there are several problems associated with it as well. Businesses often grow
too big for their own good; not being able to handle such a large business often leads businesses to demergers and
retrenchments. A majority of takeovers are unsuccessful. This is mainly because businesses take into account the advantages,
but forgets the problems associated with it as well.
• Diseconomies of scale such as communication, co-ordination and culture are often a big problem with takeovers –
many employees will not want to change their way of doing business and can often lead to culture clashes.
• Large businesses mean that there are likely to be large administration costs, if the business is not restructured properly.
• Co-ordination is also very important, as people need to co-operate within the business if the business wants to
successfully do business.
• The Ansoff matrix gives an indication of the risk involved in expanding a business through the different types of growth
– this has already been covered in a previous chapter.