BS1 2 Producing Goods and Services

Producing Goods and Services

Factor Inputs Functions of the entrepreneur 

Human resources: the rise and decline of employment sectors, changing working patterns.

Physical Resources Land, raw materials, equipment, machinery, and vehicles.

Financial Resources Features of various sources of internal and external funds available to business

Methods of Production

Job and batch. Flow/continuous production.

Scale of Production The survival of small firms.    

Organic and external growth.

Franchising 

Horizontal and vertical integration.  

Internal and external economies of scale and internal and external diseconomies of scale.

Location Factors affecting business decisions about location – local, national and global

Optimisation of location.    

Functions of the EntrepreneurAn entrepreneur is an individual who accepts financial risks and undertakes new financial ventures. The word derives from the French "entre" (to enter) and "Pender" (to take), and in a general sense applies to any person starting a new project or trying a new opportunity. An entrepreneur is able to combine the other three factors of production (land, labour and capital), and profitably produce a good or service.

Many societies place great value on the entrepreneur. It is easy to understand this if we look at some of the important functions of entrepreneurs:Innovators. Entrepreneurs bring new ideas to the market and drive new technologies. Trevor Bayliss developed windup technology in his garden shed. In June of 1996 his Freeplay radio, was awarded the BBC Design Award for Best Product and Best Design. His technology has been expanded from radios to torches, and there is even hope of windup PCs. But this ‘home made’ type of innovation is becoming harder and harder. Though there are still exceptions to the rule, most new ideas are costly and difficult to develop. To help new technologies come to market, many universities establish business incubators for entrepreneurs hoping to turn leading edge research into marketable products.

An entrepreneur is an individual who accepts financial risks and undertakes new financial ventures ... is able to combine the other three factors of production and profitably produce a good or service.

Wealth Creators. Economists who are concerned with developmental economics will tell you that one of the great drivers of economic growth is enter-prise. Even in a developed country like the UK we are still dependant on small firms building wealth to drive ex-ports and increases in the UK’s output Job Creators. As an entrepreneur builds his or her business then of course jobs are created. Small businesses account for around 30% of employment in the UK. Society Builders. Entrepreneurs often give something back to society. The Gates foundation intends to give $Billions to charitable causes across the world. Many of the schools, hospitals and libraries in our towns and cities were originally funded by entrepreneurs. To encourage entrepreneurial activity, entrepreneurs may be offered access to inexpensive capital, tax exemptions and management advice. An entrepreneur has the greatest chance of success by focusing on a market niche either too small or too new to have been noticed by established businesses. . The important role of the entrepreneur is becoming much more widely recognised, both by the government and the public in general. Some of the biggest TV hits of recent years have followed the efforts of budding entrepreneurs (Apprentice, Dragons Den, and Tycoon). The government in Wales tries to encourage enterprise from a relatively early age, supporting school and college based activities such as Enterprise Week, and Young Enter-prise This interest in developing tomorrows business people is founded on the importance of entrepreneurs to wealth and job creation. Unfortunately in Wales we are not a very enterprising society, with a much lower than average figure for new business start-ups.

What makes an Entrepreneur? Characteristics of an entrepreneur include

Creativity, the ability to come up with new concepts or ideas. Stanley Kalms who built up the Dixons, Currys, PC World retailing empire, started with just his father’s camera shop. Success was built on changing the whole approach to selling and relationships with customers that had previously existed within the photography industry.

An appetite for hard work. Entrepreneurs in the UK average around 52 hours work a week, plus another 40 hours thinking or worrying about their business venture.

Desire to work for themselves: Entrepreneurs like to work for themselves rather than work-ing for an organisation or any other individual.

Fast and decisive decision making. The ability and willingness to make decisions in the absence of solid data or complete information.,

A risk-taking personality. They will mort-gage the house and give up well paid jobs to live their dream

Profit orientation: They want to make a profit; this profit motive drives to work long hours and take risks. Profit is also used as a measure of success.

Persistent personality. As new enterprises have low success rates, an entrepreneur must also have considerable persistence, and be willing to keep trying. Entrepreneurs are generally highly independent, which can cause problems when their ventures succeed. In a sole trader situation the entrepreneur is able to personally manage most aspects of the business, but this is not possible once the company has grown beyond a certain size. Once a business has outside investors or other major shareholders then management conflicts often arise when the entrepreneur does not recognize that running a large stable company is different from running a small growing company. The problem is often resolved by the entrepreneur either leaving to start a new venture, or being forced out by shareholders. At Apple Computer one founder, Steve Wozniak, left to pursue other interests, while the other, Steve Jobs was ultimately fired and replaced with a CEO from a much larger company. Many years later, Jobs returned to the lead Apple and since his return Apple’s sales have boomed.

EXAM QUESTIONS

DUTTSONROCKSSix months in the Royal Marines followed by six years as a DJ is perhaps not the most obvious route to starting up a business selling diamonds. Neil Duttson left school with no qualifications and at 26 he realised that his life was going nowhere. It was at this point he started thinking about diamonds. “I had always had a passion for diamonds. When I was 18,

I bought a book on gemmology,” said Duttson. He searched the internet and found a school in Antwerp that ran a six month course. He mortgaged his flat and took out £50 000 equity to pay for the course and support himself while doing it. He said: “I loved it. At the weekends I travelled around Europe going into jewellery shops pretending I was getting engaged”. Armed with his new-found knowledge, Duttson set himself up as a diamond jeweller. Duttson’s first clients were friends who were getting engaged. Without funds to buy stock, he adopted the innovative approach of showing potential customers a selection of fakes in every single cut and shape of diamond, and only when they had chosen and paid a deposit, would he buy the real diamond. The diamond was then passed on to a jeweller to be made into a ring. Neil Duttson was successful and in 2002 he formed Duttson Rocks Ltd. Adapted from the Sunday Times, 2 September 2007

(a) In what ways does Neil Duttson exhibit the characteristics of a typical entrepreneur? [6]

Richard Branson (Virgin), Stelios Haji-Ioannou (easyJet) and Anita Roddick (Body Shop) are three of the best known entrepreneurs in business today. They have all created hugely successful enterprises recognised the world over. Although very different individuals, the organisations that they created have one important feature – a strong corporate culture, which helped to achieve the various objectives of their businesses.

(a) Why are entrepreneurs so important to the success of the United Kingdom economy? [4]

Human ResourcesThe rise and decline of employment sectors. Over the past century the UK has seen huge changes in its employment structures. The demand for labour in manufacturing and agricultural sectors has declined, whereas demand for labour in the services sector has increased. In 1901 38 per cent of the economically active population were employed in the manufacturing sector and 9 per cent in the

agricultural sector. By comparison, 21 percent were employed in the services industries, 4 per cent in the commerce and finance sector, and 28 per cent in other industries. . By 1991 the proportion of the economically active population employed in the manufacturing and agricultural sectors had fallen to 20 percent and 2 per cent respectively, and in other industries to 14 per cent. The service sector’s share of employment rose over this period to 32 per cent, as did the proportion in the commerce and finance sector (also 32 per cent). Over the last 15 years this trend has continued, with booming employment in services, including the public sector, and further falls in industrial employment. The government has made a number of predictions for future trends in employment patterns in different sectors. These include: Employment in agriculture, manufacturing and utilities will continue to decline but 1.8 million extra jobs are forecast between 2007 -2014 in business and related services. The professional services are projected to in-crease by 45%. Employment in the distribution and transport sector is expected to increase by over 600, 000 jobs - with most of the growth accounted for by jobs in distribution, hotels & catering. Manufacturing employment decline is expected to continue, with a loss of 400, 000 jobs between 2007 and 2015. Engineering is the largest contributor to job losses, as employment declines by almost 240, 000 jobs over the same period.

It is worth noting that the decline in manufacturing employment is not as bad as it seems. Many of the jobs lost are those transferred to outside functions, so previously a large firm may have had its own in-house accountants, cleaners, cooks, distribution teams etc. All of these were counted as manufacturing jobs, but now these services are sub contracted or bought in on short term contracts – so a decline in manufacturing employment but an increase in business services – but the same jobs are being done. In total there has been a strong growth in employment over the last 15 years, in 2006 there were 28.8 million people in work in the UK, this compares with 25.4 million in 1992. Over the next ten years the government predicts three major occupational types where employment growth is expected to be strongest. These are; Managers & senior officials: within this group employment growth is expected to be particularly strong for corporate administrators: most notably, specialist managers working in private commercial organisations although the UK already has a higher share of managers in employment than Europe or the US. Professional occupations: the highest growth is expected for business & public service professionals, particularly financial specialists. Personal service occupations: growth is expected in caring/personal services particularly health and child-care – this gives greater opportunities for female employment, but many of these jobs are likely to be low paid. Changing working patternsThe changes in employment patterns found are not simply from manufacturing industry to the service sec-tor, there are other key areas of change, these include; growth in part-time employment rising prominence of women within the work-force gradual ageing of the labour force growing importance of temporary and self employment

the adoption of a variety of flexible working practices Growth in part-time employmentThere are around 6.3 million part time workers in the UK. This compares with 3.5 million in 1971. This growth has occurred for a number of reasons including, increasing number of women in the work force (40% of women work part time compared to 11% of men), employers requirements for flexible working practices and growth of hospitality, and leisure sectors of the economy. Rising prominence of women within the work-forceIn 1981, men filled 3.2 million more jobs than women. Now the numbers are almost equal, with men performing 12.8 million jobs and women 12.7 million, although 40% of those jobs filled by women are part time. There has been some closing in the pay gap between women and men, and there are more and more women operating at senior level in large numbers of professions. Gradual ageing of the labour forceIn 1992 there were 2.8 million males over the age of 50 in the UK’s workforce, by 2006 that figure had increased by 1 million to 3.8 million. At the same time the number of older self employed people also increased. This increase in older self employed could be due to difficulty in selling on small firms, or a need to maintain income levels past expected retirement age. Growing importance of temporary and self employmentMen are more likely than women to be self-employed – 73 per cent of the 3 million self-employed people in spring 2001 were male. Around a fifth of all self-employed people worked in construction, with similar proportions in sales and distribution, hotels and restaurants; and in banking, finance and insurance. Temporary work has grown rapidly over the last 20 years. Traditionally temporary work existed because of seasonal factors, but more and more temporary work is found in non seasonal, modern industries where workers are employed on short term contracts—flexible employment. The adoption of a variety of flexible working practicesMore and larger firms contract out work, letting outside firms or individuals bid to provide services. This results in short term contracts for employees. Flexible working also includes giving employees core hours, but allowing flexi-time outside these hours. Home working has also increased, with more and more employees spending part of their time working from home, part of their time in the office. There are of course both advantages and disadvantages to both employers and employees of adopting flexible working practices. These include.

Advantages of flexible working Less stress suffered by workers. Less days taken on sick leave—lower absenteeism. Lower staff turnover. Increased skill retention. Higher levels of productivity. Less traffic congestion and pollution

Better worker health

Disadvantages of flexible working Employees feel more isolated and have difficulties interacting with co-workers. Possibility of lower wages. Difficulties of motivating and organising a work-force. Flexible working could be an obstacle to promotion

The Skills Gap The government sees that the number of those without basic skills is a cause for concern. 20% of adults have poor literacy and numeracy skills, costing employers £4.8bn. It is estimated that 3.5 million working adults are functionally illiterate. How this section of the working population will be able to find long term well paid jobs in the new UK economy is hard to see. 20% of firms report an internal skills gap – measured by the firms estimate of the proficiency of the current workforce. The majority of these firms are in retail, manufacturing, financial services and public administration. Of this 20%, deficiencies in communication (54%) and customer handling (51%) were the skills most sought by firms reporting an internal skill’s gap. So the skills lacking in many sectors are not the old fashioned trade skills, but modern, customer facing skills. Conclusion Net growth in employment over the last 25 years has been in ‘new jobs’ such as design, finance and lei-sure services, which demand a different kind of intermediate or higher level skill than those associated with manufacturing, for example creativity and problem solving skills. Linked to the increase in this type of job, there has been a high level of growth in con-tract type employment. Short term contracts give employers labour force flexibility, and reduce administration and employment costs, such as pensions and holiday pay. For full time employees in high skilled jobs it is therefore likely that long term job stability will become less and less typical. It is very likely that more jobs will require a higher level and range of skills, including ICT, and communication skills in the future. High performance skills such as communication and team working will be required by a majority of organisations seeking to improve product or service quality in the UK. We can see a relationship between these skill gaps and government policy—most notably the 50% of 18 year olds into Higher Education target. There will in the future be more part time jobs, particularly in the service sector. Part time employment as a share of total employment grew from 21% in 1984 to 25% in 1999 – a total of 1.5 million jobs - and is still rising. Part time jobs are concentrated in hotels, catering and care work, with a decline in construction and manufacturing—so again the bias is to-ward increased female employment.

EXAM QUESTIONSWe are constantly being reminded that we are an ageing population and the Government is introducing legislation allowing people to remain in their jobs beyond the age of 65 in order that they can maintain a decent standard of living. This change in the pattern of employment is well illustrated by Asda, the supermarket chain, which recently announced plans to take on 3,300 over fifties for the festive period. This followed an initiative earlier in

the year called the ‘Goldies’ campaign to boost the number of over fifties working in its stores by 20%. [BS3 June 2003; 1a]

(a) Identify and explain two recent changes in the pattern of employment, other than the recruitment of older workers. [4]

(b) Analyse, with the use of examples, reasons for the decline in the UK’s secondary sector. [8]

(c) Discuss the view that the secondary sector is the most important industrial sector for the success of the UK economy. [8]

EXAM QUESTIONSFoot-and-Mouth returns to the UK in 2007British farmers were horrified to hear the news that yet another case of foot-and-mouth disease had been discovered on a farm in Surrey, just when it was hoped that the outbreak on a farm some 30 miles away in August was an isolated case. The European Commission has banned British meat exports and this will place some farmers in severe financial difficulties. This is yet another blow to workers in the UK’s primary sector where the number of workers employed continues to decline.

Adapted Daily Telegraph, 13 September, 2007(a) What is the primary sector? [3](b) Explain why the number of workers employed in the UK’s primary sector

continues to decline. [6]

Physical ResourcesWhatever the product or service provided by firms, they will all need some combination of all four factors of production to be produced. The actual mix will depend on the product or service, for example the key factor for an oil well is land, but without the other 3 factors no oil will be produced. For a bank, capital is the most important factor, and for a football team

labour - but again without the other factors there is can be no Barclays Bank, no BP or Tesco and there is no Manchester United. The four factors of production are: Land Labour Capital Enterprise Of these the Physical resources are Land and Capital.

Land

Land is often described as the free gifts of nature. The factor of production Land includes natural re-sources such as minerals, oil, coal, the sea, the fishes in the sea, plus land itself. One of the problems of describing what is meant by land is that as soon as some-thing is added to it, for example fertilizer to soil, it quickly becomes someone's capital, (see below). So when describing land, it is best to stick to the free gifts of nature definition. When we consider physical resources in relation to business we might be interested in the features of land that can be profitably exploited by firm’s without involving themselves in farming or extractive industries, so

the physical relief of the landscape, such as mountains for climbing, beaches for swimming and sunbathing, rivers for fishing become important ecosystems such as rainforest or tropical grass-lands are an invitation for business investment in specialist tourism firms will consider weather and climate, and take advantage of the ultimate free gift of nature—sunshine.

Raw MaterialsFrom land we can extract raw materials. Raw Materials are the inputs from which manufactured goods are produced. Oil, iron ore, and coal are examples of raw materials. Access to raw materials is currently a major concern especially for rapidly developing economies such as China and India. As a result the price of raw materials has been increasing over the last few years as demand has boomed.

CapitalCapital means money invested into a business. But be-cause the money invested does not just sit in a bank, but is turned into productive goods that are used within the business, a businesses capital can include, machinery, buildings, vans, computers etc., as well as cash.

It is important for businesses to turn money capital into physical capital that produces a profitable return for the business. So firms purchase with money capital producer goods such as equipment, machinery and vehicles that can be efficiently used within the business. Capital intensive firms rely on invested capital the produce the greatest part of value added. Management of physical resources is a complex part of large firms. Capital has to produce targeted rates of return, oil fields and mines are expected to achieve set levels of output, and equipment must be quickly and effectively integrated into the production process.

LabourLabour is perhaps the most important resource in any developed country. Labour includes the skills of those who work, as well as the quantity of people who work or who are available for work. In the UK there are labour shortages, often for skilled jobs, but also for manual workers in areas where the cost of living is high. For more information on Labour as a resource, read the notes on ‘Human Resources’.

EnterpriseEnterprise is the ability to combine the other factors of production, and then to use them to provide profitably, goods or services. Your local plumber will be an entrepreneur, and so are Richard Branson the founder of Virgin Group, and Alan Sugar, famous for the Apprentice programme. For more on the importance of entrepreneurs see notes on ‘Functions of the entrepreneur’.

Financial Resources

Businesses can use a wide range of sources of funds to help finance their expansion plans and their trading activities. Not all of them take the form of cash, some take the form of assets that the business can use, which then releases cash for other uses.

External Sources of Finance Owner's CapitalThis is often the only source of capital available for the sole trader starting in business. The same often applies with partnerships, but in the case of partnerships there are more people involved, so there should be more capital available. Owners capital though, when invested is often quickly turned into long term, fixed assets, which cannot be readily converted into cash. If there is a need for increased finance, the business owners could invest more money in the business. This option though, may be unavailable. In many small businesses the owner may already have all his or her capital invested, or may not be willing to risk further investment.

Shareholders' CapitalShareholders are of course the owners of a Limited Company, they invest money in the hope of capital growth, (that is the business makes profits, grows, makes more profits, so as the business becomes bigger their investment will be worth more), and Dividend (the shareholders share of the companies profits).

It is normal for limited companies to issue new shares in an attempt to raise capital ... in some cases shares are issued to solve a cash flow problem, - this is occurring more and more with .com businesses..

It is quite normal for limited companies to issue new shares (a Rights Issue), in an attempt to raise capital, and this is normally for investment, funding expansion or restructuring. In some cases shares are issued to solve a cash flow problem, this is occurring more and more with .com businesses. Ordinary share capital is referred to as permanent capital; this means that it does not have to be repaid. But some types of share capital do require the payment of annual interest or dividend.

The main types of share capital are:

Ordinary SharesThe holder of an ordinary share has a share in the ownership of a limited (or joint stock) company. Ordinary share holders will expect to receive an annual dividend (their share of the profits), but this is in no way guaranteed. Payment of dividend depends upon the performance of the company, and the dividend policy adopted by the company.

Preference SharesThese will pay a fixed annual amount to the holder, again known as a dividend. Preference share holders will receive their dividends from profits, or reserves, before the dividend to ordinary shareholders is paid. This means that preference shares are less of a risk that ordinary shares, but the payment of dividend, or return of capital is not guaranteed.

DebenturesThese are a form of loan stock. The holder of a Debenture has made a secured loan to the business, and these Debentures will have a fixed redemption date (the time the loan must be repaid). Debentures are more secure than ordinary shares or preference shares, but again if the business fails there is no guarantee of repayment of capital. But Debenture holders do get their 'bite of the cherry' before ordinary and preference share holders. From the businesses point of view Debentures are an effective way of raising capital because the Debenture holders have no say in how the company is run. This means that the issue of Debentures does not dilute control; the directors still run the business.

An overdraftAn overdraft is a form of bank loan. A business becomes overdrawn when it withdraws more money out of its cheque account than there is in it, this leaves a negative balance on the account. This is often a cheap way of borrowing money, as once an overdraft is agreed with the bank, the business can use as much of the overdraft as it needs at any time, up to the agreed overdraft limit. But the bank will of course charge interest on the amount overdrawn, and will only allow an overdraft if they believe the business is credit worthy i.e. is very likely to pay the money back. A bank can demand the repayment of an overdraft at any time. Many businesses have been forced to cease trading because of the withdrawal of overdraft facilities by a bank. Even so for short term borrowing an overdraft is often the ideal solution, and many businesses often have a rolling (on going) overdraft agreement with the bank. This then is often the best solution for overcoming short term cash flow problems, e.g. funding purchase of raw materials, whilst waiting for payment on goods produced and sold.

Bank LoanThis is lending by a bank to a business. A fixed amount is lent e.g. £10,000 for a fixed period of time, e.g. 3 years. The bank will charge interest on this, and the interest plus part of the capital, (the amount borrowed), will have to be paid back each month. Again the bank will only lend if the business is credit worthy, and it may require security. If security is required, this means the loan is secured against an asset of the borrower, e.g. his house if a sole trader, or an asset of the business. If the loan is not repaid, then the bank can take possession of the asset and sell the asset to get its money back! Loans are normally made for capital investment, and if a loan is obtained then this frees up other capital held by the business, which can then be used for other purposes.

LeasingWith leasing, a business has the use of an asset, pays a monthly fee for its use and will never own it. If a sole trader set up business as a parcel delivery service, he could lease the van he needs from a leasing company. He will have to pay a monthly leasing fee, say £250, which is very useful if he does not wish to spend £10,000 on buying a van. This will free up capital, which can now be used for other purposes. A business looking to purchase equipment may decide to lease if it wishes to improve its immediate cash flow. In the example above, if the van had been purchased, the flow of cash out of the business would have been £10,000, but by leasing the flow out of the business over the first year would be £3,000, leaving a possible £7,000 for other assets and

investment in the business. Leasing also allows equipment to be updated on a regular basis, but in the long run, it does cost more than outright purchase.

Hire PurchaseThis is similar to leasing, but at the end of the hire period the asset belongs to the company that hires it.

Buying on CreditThis creates Creditors. If a business which sells shoes buys on credit from Clarkes shoes, it may not have to pay Clarkes until 30 or 60 days after delivery. This means it could sell the shoes at a profit, and have the money at the end of the credit period, to pay its bill to Clarkes. Extending a credit period will help solve short term finance problems. Extension of credit could be achieved by delaying paying bills for an extra 14 days, meaning there will be more cash in the bank for this period. Unfortunately this type of action may upset businesses' suppliers; after all they have their own cash flows to think of. The next time the business wanted credit from a supplier that they had been very slow in paying in the past, they may be turned down! Slow payment by debtors is a problem for many businesses, and in fact the government has tried to take action against this type of behaviour in several budgets.

Selling AssetsA business can sell assets it owns to raise capital! This is often a last gasp measure as assets are usually vitally necessary to business activity. In some cases the business may lease back the asset, so that it still retains its use. But this often the preserve of big business e.g. the sale and lease back of office blocks.

DebtorsIf a firm is in immediate need of cash it could chase its debtors for repayment. This may involve giving discounts for early repayment. Chasing debtors for early repayment may lead to long term loss of trade, as the debtors may buy from another business next time, but it can be an effective method of solving short-term finance problems.

FactoringFor larger firms, with a turnover (sales) of £100,000 or more a year, it is possible to let a Factor manage your debts for you. The factor (a type of finance company) will pay 80% of the value of an invoice at the time of sale, and will take responsibility for receiving payment from the debtor. The balance of the debt will be passed on when the money is received by the factor. There is of course a charge for this factoring service and the amount of charge will depend upon several issues such as, number of debtors, size of debts, and past bad debt history. But factoring does improve a business’s cash flow and it popularity amongst small to medium size businesses, proves that many managers and owners regard this service as good value for money.

Venture CapitalA venture capital company is a business that specialises in investing in small to medium sized firms that are expected to grow quickly,. The venture capital company will purchase a

shareholding in the business – providing needed funds, and will help manage the business. The venture capitalist will expect to sell their share holding, at a profit, with 3 to 5 years. Venture capitalists can provide investment funds from £10,000 up to £10’s of millions.

Private Equity Funds Private equity funds include forms of venture capital and MBO (management buy out) financing. Private equity funds buy companies that are likely to be listed on a stock market, and then take them private de-list. Private equity funds have injected huge amounts of capital into the take-over market in recent years. In some deals, private equity funds use a technique known as a "leveraged buy-out" (LBO) for all or part of the purchase costs. In an LBO, the buying group uses loans, bonds or other debt instruments to raise the capital necessary to buy the target. Often, they use the target company's own assets as collateral. In the UK one of the largest private equity deals was the takeover of Boots, costing £10 billion. Of which £7 billion was financed by debt. Because of the amount of debt that can arise from a private equity take-over, and the costs associated with servicing this debt, the tax paid by a taken over company can fall dramatically. When the managers of a company work with private equity groups to raise the money necessary to buy the stock of the firm they're running, then a MBO is occur-ring.

Internal Sources of Funds If a business needs to raise finance, it is good management to look for internal methods of solving the problem. Internal methods of raising finance should be used because firstly, internal methods are generally less expensive than external methods, and secondly, keep raising of finance ‘in-house’, prevents an increase in the influence of external factors on the management of the business. Some of the more successful methods of raising finance internally are outlined below.

Retained ProfitAt the end of the trading year a business will complete it’s Profit and Loss Account. All of this profit earned can be taken by the owners, (this would be a dividend in a Limited Company), or alternatively some or all of it could be reinvested in the company, to help the business grow and therefore make even more profit in the future. If a business needs to raise finance it can increase the proportion of profit it retains within the business, but this does mean that dividends paid will fall.

Stock managementOften finance problems arise because too much of a business’s capital is tied up in working capital, such as raw materials, work-in-progress and stock. Many firms are now implementing practices such as just-in-time, and Kan Ban, which are designed to reduce working capital levels and release capital, which can then be used in more effective ways within the business.

Manpower managementExamining and restructuring labour costs can reduce outflows of cash. Is it necessary to have permanent contracts for all workers? Can some work be sub-contracted, or can some work

be transferred to temporarily contracted workers? Restructuring Human Resources in this way can save expenditure on pensions, National Insurance, holiday pay etc.

Improved BudgetingWhy base next years budgets on last year's budgets? Why not start with a clean slate and opt for zero budgeting? Also budgets need to be managed effectively, and variances analysed as they arise.

These internal methods can save on business costs and in larger organisations often prove the best long-term solution to finance and liquidity management problems.

EXAM QUESTIONExpansion for CareBeds LtdFollowing a recent trip to research the hospital beds’ market in the USA, Gareth Palmer, CareBeds Sales Director, had reported his findings to the rest of the Board of Directors. He believed they should try and compete for a share of the huge American market. To do so, he felt that the company needed to expand by investing in a factory extension as well as new machinery. Gareth had done some preliminary costing and anticipated a cost of around £8 million to £10 million. Lucy Cartwright, the Financial Director, felt it necessary to point out that both the US and UK economies were facing difficulties and that interest rates were fairly high at present. In addition, she pointed out that the business was experiencing some bad debts at present and the working capital situation was a matter of some concern. She felt the proposals needed very careful consideration and asked for another meeting in two weeks’ time. By then, every member of the Board could have given some consideration as to how such a significant investment might be financed.

(1) What is meant by the term ‘liabilities’ when used on a balance sheet? [1]

(2) Suggest one example of a current liability, other than trade creditors, that a business like CareBeds might have. [1]

(3) Explain why the ‘debtors’ is shown as an asset on the balance sheet of CareBeds Ltd. [2]

(4) Using the information provided in the balance sheet of CareBeds Ltd., calculate:

(i) net current assets (working capital); [1](ii) total assets less current liabilities; [1](iii) net assets; [1](iv) capital and reserves. [1]

(5) Explain why net current assets (working capital) are such an important figure on a company’s balance sheet. [4]

(6) Evaluate the various sources of finance that CareBeds Ltd. might use in order to pay for the proposed investment in the factory extension and in the new machinery. [8]

Methods of ProductionThere are three types of production

Job, Batch Continuous/flow production

Job ProductionWith Job Production single items, usually to the buyer’s specification are made. Examples of goods made by Job Production are bridges, wedding dresses, tailor made suits. Employees producing goods using job production can be highly skilled, and there-fore paid well, and have interesting a challenging jobs. Goods can take a long time to make compared to goods made by mass production; prices are also likely to be a great deal higher. Firms may use Job Production to differentiate their products from the mass market, and allow them to target niches within the market, or it may be the nature of the product that forces the firm to apply Job Production methods.

Batch ProductionWith Batch Production goods are produced in sets (batches) and then other using the same equipment and labour, batches of different goods are made. An example of an industry us-ing batch production is baking, where bakers will use ovens to make bread, and then use the same ovens to make cakes, then savouries etc. Batch production is also used by potters, and furniture manufactures. Cadbury apply Batch Production techniques in their Birmingham factory. One type of bar is produced for 5 days, then the equipment is adjusted to produce an-other type of bar. Employees are likely to be semi-skilled, and there can be a reliance on capital investment. Batch production allows firms to aim at niche markets, using the same assets or capital equipment to produce a range of goods. But time is lost when ma-chines have to be reset for new production (down time), and the firm may not be equipped to deal with large scale orders.

Continuous or Flow ProductionContinuous or flow production involves the production of products on production lines. These mass produced products surround us in our lives, from TV's to Cd's, from cars to videos. In the Mass production process the making of the product is broken down into a number of small, simple tasks, so machines or robots can complete the job or workers can be employed who are un-skilled, or have skills limited to particular tasks. Employing workers with few skills can of course keep the costs of labour down, and allow firms who do not

need a highly skilled labour force to locate where labour costs are lowest. Continuous production implies large amounts of capital investment. Firms will benefit from economies of scale, reducing costs The type of production used will depend upon a number of factors. The most important are:

the product being produced the cost of labour the cost of capital the skills of labour the size of the targeted market

Large v Small Scale ProductionWhen we look at poorer regions that are trying to develop an entrepreneurial base, there are a number of arguments over whether small or large scale production should be used to help with industrial development. There are advantages and disadvantages to both types of production;

Small Scale Production Reduces regional imbalances Keeps employment local Reduces long distance transportation Keeps ownership local

Large Scale Production Benefits from economies of Scale Allows increased us of expensive technology and high level skilled operatives Attracts international investment

EXAM QUESTION

FROM RAIN TO SUNSHINESally Jean discovered her talent whilst at school when she was asked to decorate a local restaurant for the end of year ‘prom’ or ball. She chose a rainforest theme with lots of bamboo and this was the birth of her small business with bamboo as her trade-mark material. She set up her interior design business to cater for the niche market. Since then, the orders have come in regularly for the design of places like restaurants, wedding venues, children’s nurseries, playgrounds and children’s bedrooms. As the business grew, she expanded into the small-scale manufacturing of conservatory furniture for some of her clients. Her boyfriend Billy helped her; she designed it and he hand-crafted it. The business, although successful, is still small and Sally is eager to move into the mass market.She also intends applying for a BSI Kitemark. She wants to expand into the large-scale production of bamboo conservatory furniture. Much of the design work at the moment is done using a CAD package, and she thinks that she can use her skill to link this with a CAM

package for the manufacture of the conservatory furniture. With expansion in mind, Sally Jean has been gathering opinions from various sources and has received conflicting advice. Jim, her father, says she should start slowly and stick to job production. However, her boyfriend, Billy advises her that, unless she goes for batch or flow production, the venture won’t be profitable because she won’t be able to benefit from internal economies of scale. The local business development agency says that she should consider sub-contracting the work to a factory in China.

Briefly explain:(1) Why Sally Jean wants a BSI Kitemark? [2]

(2) The meaning of internal economies of scale. [4]

(3) Explain the advantages to Sally of using CAD and CAM packages. [6]

(4) Compare the suitability of job, batch and flow production methods for Sally Jean’s proposed new venture. [8]

Organic and External GrowthOne of the major objectives of businesses is growth, and there are a number of ways of measuring growth

Growth in market shareMarket share is the proportion of the market that buys a firms product, so it could be said that Ford has 16% of the car market, or Tesco has 23% of the re-tail grocery market. An increase in market share indicates that a firm is succeeding against competitors.

Increase in salesThis could be measured in units or value. A firm may increase sales from 50,000 to 55.000 sales or alternatively from £1,000,000 to £1,200.000. This though may not be the best judge of growth as it ignores growth in the market and the effects of inflation. To overcome some of these problems of measurement firms may look at increases in like-for-like sales.

Increase in profitsIf profits increase this is normally a sign of growth, but alternatively could be caused by a reduction in costs.

Increase in brand awarenessThe more people that know about a product or firm, then this growth in consumer awareness is a strong indicator of business growth.

So how do firms achieve growth?There are a variety of methods of achieving growth, some are internal others are external.

Organic Growth Organic Growth, also called Internal growth, is based on investing in what the business already does. This type of growth can be achieved by:

Expanding product rangeOnce a product is established on the market, further related products can be introduced. So for example Minis-try of Sound, which was once just a nightclub, now releases CDs, puts its brand on hi-fi equipment. Owns a radio station and sells holidays. Targeting new markets

This means selling your products to new market sectors, mobile phones were once just sold to business people, then the market become all adults, then teenagers were actively targeted. Expanding the distribution networkMake your product available in more places. Benefiting from economies of scaleEconomies of scale reduce costs, meaning that prices can be reduced, which should gain new customers.

Organic growth is a good indicator of how well management has used its internal resources to expand profits.

Organic growth also identifies whether managers have used their skills to improve the business. Many firms show how well they have performed by giving like-for-like comparisons, this represents an accurate measure of organic growth for the firm. For more detail on methods of achieving organic growth, it is worth reading up on how the Ansoff Matrix gives firms a structure for using existing customers and markets to achieve growth.

External Growth Growth can also be achieved through external methods. This type of growth is sometimes called inorganic growth and involves taking-over or merging with another business. Growth through mergers or take-overs can come in 4 varieties. These are: Horizontal Integration - occurs when a firm mergers with or takes over another at the same stage in the production process. So Somerfield merged with Kwik Save, Lloyds bank took over the TSB. Often the objective is to benefit from economies of scale, and so reduce costs and in-crease profits. Sometimes the word synergy is used in this type of growth - synergy implies that the 2 firms together will, because of the way they work, and the products they offer, be more profitable together than apart. A good ex-ample of this synergy is the merger of Guinness Brewers, and “Grand Met” the hotel chain to form Diageo. Backward Vertical Integration - this is when a firm mergers with or takes-over another at the previous stage in the production process. The objective here might be to reduce costs or secure supplies. An example of backward vertical integration would be Birdseye owning large farms, Dunlop owning rubber plantations. Forward Vertical Integration - when a firm mergers with or takes-over another at the next stage in the production process. This will guarantee outlets for products. Examples include Life Insurance Companies taking over chains of Estate Agents, Oil Companies buying up service stations. Conglomerate - in this case there is little if any obvious relationships between different parts of the business. A conglomerate may include companies as diverse as concrete producers, hotels, and pharmaceutical companies, all under the same overall ownership. Conglomerates can arise simply because the directors see the chance of buying firms cheap, or because they wish to enter entirely new market areas.

Growth and RiskThe major objective of growth is to increase profit-ability, and improve profit margins. This is what firms desire as they grow. But all types of growth bring problems and carry some degree of risk. Simple organic growth (internal) can mean that managers or owners are forced to spend more time on man-aging people or paperwork, and less time on what made the business successful in the first place, there will be increased distance between business owners and managers (divorce of ownership and control), other stakeholders will be impacted by increased pollution, or traffic, or a firm may lose it's distinct local identity.

Money also needs to be raised to pay for growth (unless profits are reinvested). Money can come from banks, shareholders, venture capital companies. All these methods imply some loss of control, and perhaps high borrowing costs, and increased risks. Also shareholders may receive less in dividends if profits are used to pay for investment.

Also mergers, take-overs and expansions can be mistimed or misjudged. Also too high a price can be paid. The take-over of chains of Estate Agents by Insurance Companies that occurred in the late 1980's was expected to produce high sales of insurance products, plus high profits from selling houses. In-fact Insurance Companies lost £100's of millions from this badly planned venture. BMW paid over £500m for Rover group, after several years of massive losses they sold it for £10. The risks associated with growth are one reason why many firms prefer to stay small.

Mergers and Take-overs can bring fast growth, and can be especially useful in achieving growth in new product or geographic markets. On the other hand there have been plenty of examples in recent years where incredible rates of growth have been achieved organically, for example, Google, Face Book, Friends Re-united etc.

Franchising

Franchisee. Individual or firm who buys or leases the right to use the brand name, products and trading style developed by the franchisor The financial relationship between the franchisor and franchisee does not end with the payment of the franchise fee. The franchisee will often be required to buy supplies, raw materials, stock etc from the franchisor (the seller of the franchise), pay annual fees, and may even have to pay a share of his profits to the franchisor. The franchisor will also regularly check on the performance of the franchisee to ensure that the brand is not being de-valued in any way and that standards are being maintained. So the franchisee is in somewhat of a straightjacket, paying a monopoly supplier for stock, paying over to the franchisor a portion of his profits and being regularly checked on. So with these restrictions, why is franchising so popular? There are in fact, a number of advantages to the franchise system for the franchisee, these include:

Use of an established brand name– this should help guarantee customers. Help in training and recruiting staff, and set-ting up business systems Nationwide marketing campaigns - from franchisors like McDonalds and Body Shop. Easier to sell a franchise, than an unbranded business.

The franchisee will received guidance on general business matters, and a good franchisor will do everything they can to help guarantee the success of franchisees. One way of looking at a franchise is that it helps over-come many of the problems inherent in setting up business as a sole trader. The franchisor by selling a franchise obviously gains as well. The advantages from the franchisors point of view are;

Fast growth - with lower risk Economies of scale - bulk buying for the franchises Increased income from franchise fees

Managers (franchisees) who are committed to the success of the business and hard working

There are nearly 800 franchising firms operating in the UK, covering everything from accountancy, to pet care. Some are very similar to each other, for example there are 4 franchisors whose business model is based on lawn care, each claim-ing to be the leading lawn care specialist. Fastest growing franchise chains include coffee shops such as Coffee Republic, and community magazines.

Buying a franchise does not guarantee success, not all franchise formats succeed, and not all people will be successful entrepreneurs, no matter how much back-up they receive. But figures show that franchises are a good way of starting up in business, and greatly reduce the risks of going it alone. Before buying a franchise, the potential franchisee should research the market carefully, and find out exactly what they are paying for. Franchises can cost anything from a few thousand to £100,000 plus and the potential franchisee should ask the question ‘would the cash spent in buying the franchise, be better used by myself in setting up my own business’?

EXAM QUESTION

SPORTSMANIA HOTS UP PACE WITH FRANCHISES David Hoskins has developed a chain of sports stores, called Sportsmania, located on industrial estates. He is a discount retailer selling sports gear at bargain prices. Sportsmania is five years old and already has sales of £12 million. In 1997 he started looking at franchises and now twelve of his eighteen outlets are franchised out. Hoskins spent £25,000 in the first six months on his search for franchise applicants and still spends £20,000 a year to attract franchisees. He has refined his selection technique and now insists that applicants come and work with him for a week before he agrees to sign them up.

(a) Briefly explain the term franchise. [2]

(b) Evaluate the view that creating franchises is a sound method of expanding the business of Sportsmania. [6]

RECOVERY STRATEGY PAYS OFF FOR THORNTONSIts chocolate season - Valentine’s Day, Mother’s Day, and Easter are all in close succession, and Thornton’s has been innovating on products to lure chocolate lovers into its stores. Thornton’s Moments, described as a family treat, are just hitting the shops shelves this week. Further work is also under way on design and layout, and the new look will be trialled at 10 stores this summer. Mike Davies, the chief executive, joined Thornton’s from Mars in October 2006, pledging to revive the fortunes of the company which began as a single shop in Sheffield in 1911. His recovery strategy appears to be paying off. Yesterday, Thornton’s reported a 14% jump in half-year profits as it notched its fifth successive quarter of sales growth. Revenues rose 13.9% to £126.7m in the 28 weeks to 12 January while profits increased to £11.9m from £10.5m. Thornton’s trades from 378 owned stores and 252

franchises and its products are also available through supply deals with major supermarkets and retailers. Its website and catalogue service, Thornton’s Direct is also making steady progress, enjoying revenue growth of 25.6% to £5.3m in the period.

Cliff Feltham, The Independent, 21 February 2008

(a) Outline two economies of scale that Thornton’s will benefit from if it continues to besuccessful. [4]

The Mattress Doctor expands through franchisingFormer accountant Bryan Walters and his business associate Bruce King were looking at various business options. Bruce’s wife suffered from asthma and in their research they came across businesses in Germany and the USA which cleaned mattresses to try to get rid of dust mites and ease the asthmatic symptoms. They discovered that no one was running such a business in the UK, where allergy rates are the highest in Europe, and so the Mattress Doctor was born. Business was doing very well and Bruce and Bryan started to think about growing it. They decided that franchising would be the most suitable route for expansion. A Mattress Doctor franchise costs from about £8000 and there is a monthly charge of £250 to cover repair and replacement of equipment and continued support. Their main business objective is growth, and inside one year they had 24 UK franchises with the aim of reaching 100 within the next three years.

Adapted: Franchising, Working Lunch BBC

(a) Apart from growth, outline two other business objectives that the Mattress Doctor might have. [4]

(b) Explain the benefits to both franchisors and franchisees when operating a business such as the Mattress Doctor. [8]

(c) Briefly explain two problems that Bruce and Bryan may face when operating as franchisors. [4]

BODY SHOPDame Anita Roddick, who died recently aged 64, was the energetic founder and guiding spirit of The Body Shop, the international cosmetics and toiletries empire built on a combination of soap, bubble bath and ethical conviction. In countless ways, Roddick was an inspiration: she was a grafter, a risk taker, and that rarest of creatures – a successful female entrepreneur who, from a single shop in Brighton in 1976, presided over a franchise of 2,000 stores in 53 countries just 30 years later. All this was achieved with a bank loan of just £4,000, which she was at first refused! However, returning to the bank with a convincing business plan, she finally persuaded her bank manager to back her. The key to The Body Shop’s success was the identification of its products (e.g. Fuzzy Peach Shower Gel, Brazil Nut Conditioner, Raspberry Shampoo) with the social and political preoccupations of the young women who constituted its main customer base: such as animal welfare, the protection of the Brazilian rain forest, Third World poverty and, of course, the age-old pursuit of youth and beauty. Her husband, Gordon was considered by many to be the financial and business brains behind the enterprise, while Anita provided the passion, the activism, the ideas and the publicity.

Source: Adapted from The Guardian, 10 September, 2007

(a) (i) What is a franchise? [2]

(ii) Briefly explain two requirements of franchisees that you might expect to find in a Body Shop franchise agreement. [4]

(b) Explain the benefits to a business of taking out a franchise with The Body Shop rather than operating independently. [6]

(c) Evaluate the importance of a business plan to the success of a small business. [6]

Concrete drainage systems constitute a niche market worth about £80million a year in the UK, but operations are concentrated in the hands of the three large players, the largest of which is CPM, which is based in Mells in Somerset. CPM manufactures concrete drains as well as laying them; earlier this month the firm bought Hughes Concrete, a firm specialising

in supplying high quality concrete to firms manufacturing concrete products, creating an overall business with a turnover of £26million. Recently CPM firm has diversified into areas such as landscaping and flood protection, with the help of a £3.5million funding package from Bank of Scotland.

Adapted from The Daily Telegraph 15/10/2008

(1) Describe the type of integration that occurred when CPM bought Hughes Concrete. [4]

Economies of ScaleAs businesses grow and their output increases, they commonly benefit from a reduction in average costs of production. Total costs will increase with increases in output, but the cost of producing each unit falls as output increases. This reduction in average costs is what gives larger firms a competitive advantage over smaller firms. This fall in average costs as output increases are known as Economies of Scale. Economies of Scale are an important aspect of efficiency in production. Economies of scale can be defined as: 'the reduction in average costs of production, that occur as a firm increases it’s scale of production'.

Costs in the short and long runWhen examining economies of scale it is worth looking at both the short run and long run average costs of the firm. In the short run costs can be both variable and fixed, but in the long run all costs become variable. It is this switch to all costs becoming variable that separates the short run from the long run.

To understand this division between short and long run, we can look at a simple example. Jenkins Carriers are a local delivery firm, they run 2 vans both of which are leased, with 2 years to run. The leasing charges of £300 per month are fixed for the term of the lease. For the firm (assuming that they have no other longer term commitments), the short run will be two years, as part of their costs are fixed for this period of time. If at the end of the two year period they are able to negotiate better leasing terms because they have established the company as a good risk, or because they now wish to lease 6 vans, they are benefiting from economies of scale. Alternatively they may wish to buy the new vans or, if things have not gone well, even withdraw from the business. The fixed costs, until they commit themselves to a new agreement, become variable. Each firms long run average cost curve is made up of a series of short run average cost curves.

As a business grows it moves and from one short run average cost curve to another short run average cost curve, each one being progressively lower and so reducing average costs of output - e.g. cheaper leasing of vans. This is represented in the graph below.

If we look at a second example we can see how average costs are reduced in the short run. Imagine a building site with one foreman and one worker. The workers role is digging trenches the foreman's role is to oversee the digging of trenches. The foreman earns £10 an hour the workers wage is £5 an hour. The worker is capable of digging 5 metres of trench in an hour. With one worker each metre of trench would therefore cost £3, that is the £5 wages of the worker and the £10 wages of the supervisor divided by 5 meters dug, = £3 per metre.

If another worker was taken on then we would now have 10m of trench per hour at a total cost of £20, therefore the cost per metre of the trench is now £2. With three workers we now have 15 m of trench at a total cost of £25 which gives is a cost of £1.66 per metre. We therefore see decreasing average costs in the short run.

In the long run the building site could instead of using workers and spades use a digger. This would allow a move on to a second average cost curve and therefore lower potential average costs. This is how economies of reduce average costs of production.

Internal and external economies of scaleWe can break down economies of scale into two broad groups, these are Internal and External.

Internal Economies of ScaleReductions in average or unit cost because of increasing internal efficiencies of the firm.

External Economies of ScaleReductions in average or unit cost because of increasing efficiencies of the firm that have resulted from external factors.

Internal Economies of ScaleInternal economies of scale include: purchasing technical financial managerial economies advertising

PurchasingAs firms grow, they increase the size of orders for raw materials or components. This will then result in discounts being given, and the cost of each individual component purchased will fall. This will therefore reduce the average cost of production. TechnicalAs businesses grow they are able to use the latest equipment and incorporate new methods of production. This increases efficiency and productivity, reducing average costs of output. FinancialAs firms grow they will have access to wider range of capital, such as equity capital (share issues), this reduces the cost of borrowing for investment. Also as the assets of the firm grow, businesses are able to offer more security for borrowing, reducing the risk to the lender and reducing the cost of borrowing. ManagerialAs businesses grow they are able to employ specialist managers. These managers will know how to get the best value for each £ spent, whether it is in production, marketing or purchasing. This will increase efficiency, reduce the average costs of producing goods and selling the goods produced. AdvertisingAs firms grow each £ spent on advertising will have greater benefit for the firm. Imagine a chain of local supermarkets; a TV advertisement is placed to cover the region. If there were 10 stores in the chain, the cost of the advert must be borne by each of the 10 stores, but if they have 20 stores, then the cost of the advert would be spread across each of the 20 stores and the benefit of the advert applies to each of the 20 stores.

External Economies of ScaleThe largest firms often benefit from external economies of scale. These include:

The setting up locally of supplier firmsOften in competition with one another, this reduces buying costs and allows the use of systems such as Just-in-Time. Local colleges will set up training schemes Suited to the largest employers needs, giving an available pool of skilled labour, this reduces recruitment and training costs. Financial services can improveWith banks and other financial institutions providing services, such as factoring, that reduce costs and improve cash flow.

These economies of scale can be regarded as quantitative in nature i.e. they can be measured using financial methods. We know exactly how much is saved on purchasing raw materials; we know exactly how much is saved when a loan is renegotiated at a lower interest rate.

Diseconomies of scaleFirms can also suffer from diseconomies of scale. When diseconomies occur, the average costs of production rise with output. Let's go back to the example of the building site. Maybe the foreman is capable of looking after 10 workers effectively and ensuring that each digs 5m per hour, but if there were 15 workers average output may start to fall. This happens because the supervisor isn't able to supervise all the workers and ensure that each is working at maximum capacity. Efficiency of production falls and there is increasing average costs of output. We now have diseconomies of scale. Like economies of scale, diseconomies can also be internal and external.

Internal diseconomies include:

Problems with communicationAs a firm grows and levels of hierarchy increase the efficiency and effectiveness of communication breaks down this leads to increasing inefficiency and therefore increasing average costs. MotivationWith larger firms it is harder to satisfy and motivate workers. This means they do not give of their best, and again as the firm grows average output falls, and average costs increase. These diseconomies of scale are often qualitative in nature, hard to measure financially, but still reduce the efficiency of the business.

External diseconomies include:

Traffic congestionThe firm grows, suppliers move in, the area becomes an industrial centre, and the roads are clogged with cars, vans and Lorries. Deliveries are late; drivers spend time stuck in traffic jams etc. Breakdown of relationships With suppliers and buyers. When a firm is small, there is often a direct relationship between owner managers and customers or suppliers. As the firm grows, these relationships are hard to maintain as the owner manager finds his time is taken up with administration or problem solving. Competition for labourMore firms mean increased demand for labour, making the best workers harder to recruit and keep. Increasing employment costsMore firms mean increased demand pushing up the price of labour - wages.

Location of BusinessRegional Location of Business The main determinants of where businesses locate are: access to markets the cost, nature and availability of factors of production social factors historical reasons It is the varying importance to businesses of these three, which in the long run determines where businesses are located. Access to MarketsFor some businesses it is the availability of, and access to markets, that is the prime consideration that determines the location of the business. This is most obvious when we look at retailers of consumer goods. In this case the business has to be near customers. It used to be true that retailers had to be in the city centre if they wished to access a mass market, but the increased availability of private transport has led to a growth of out of town

shopping centres. But this location relationship between retailer and customer is being broken down by the growth of e-commerce and mail order purchasing. Manufacturers of components in many industries (supplier firms), need to be located close to the users of their products. This has become increasingly true with the increased use of just-in-time systems, where being 'on the doorstep' is now the expected norm. Access to markets can be limited because of trade restrictions, or the existence of 'trading blocks', such as the EU. To overcome these restrictions it is often necessary to set up a manufacturing base within the trading block. Type and quality of infrastructure also affect access to markets. Infrastructure used to mean roads, rail, and shipping. But a more modern definition includes electronic communication systems, training agencies, financial services, as well as the three traditional components. For many modern businesses, such as those that are E-commerce based, or the rapidly growing call centre industry, quality infrastructure has a very different meaning from that understood by road hauliers, and steel manufacturers. Sometimes existing access to markets can break down. External diseconomies of scale force firms to reconsider their location - congestion, and competition for workers pushing up wage rates, are just 2 examples of factors that can force relocation. Cost and nature of factors of productionWhen firms use bulky, difficult to handle raw materials, then location close to the source of these raw materials can substantially reduce costs. This is why the world’s major paper manufacturers are located close to where the wood is logged and pulped. The factor of production Labour can also be a deciding factor in determining location. By labour we mean cost of labour, availability of labour, and the skills of labour. Highly skilled labour, such as that in the finance industry, can be located around one major centre in the UK. For finance that is the City of London. A business with a need for this type of skilled labour, must therefore locate in this area. The cost of labour is also a determining factor. International location has a habit of following low cost labour to wherever it is available. Shipbuilding moved from the Clyde, and the Tyne, to Japan in the 50's and then to Korea in the 70's, and is now moving to Indonesia, call centres are moving to India, and manufacturing of clothes to China and India. The cost of Labour can be affected by the availability of government grants, giving incentives to move to particular regions of a country, and by government taxation policies. Availability of grants can reduce the cost of all factors of production - but most especially labour and land. The availability of land is also an important factor. Most large investments are based on 'green field' sites. And local government, along with development agencies, often work hard to ensure that planning permission is available to allow large developments to proceed. Social ReasonsManagers want to live in an environment that suits them and their families. They want leisure facilities, good schools, and low crime. This is why it can be difficult to attract businesses to depressed areas. Alternatively managers can often retain a commitment to their existing work force, even when it makes economic and business sense to relocate a business. Historical Reasons For a good number of firms, the original reason for their location has long since disappeared, but they still remain in the locality where they were originally established. Around the country there are steel and tin plate plants that had their historical origins in the

availability of local raw material—raw materials that were exhausted decades ago. But the plants remain. Regional location of business is then dependent upon the interaction of several traditional factors. But at the same time it is worth noting the changing nature of industry in the UK and the increased reliance upon and availability of telephone, the internet and other communication networks has, in recent years, made location decisions a great deal more flexible. .

International Location The largest firms, though still influenced by the same factors that dictate national location of business, do have the alternative of locating their production facilities virtually anywhere in the world. As long as there is a stable political background and an available work force, most countries will offer the possibility of hosting a production base. The main influences on international location beyond politics and labour force factors are: Maximising Economies of ScaleIf firms are able to have a single plant supplying all their requirements for a type of product or range of components, then the firm's average costs of production can fall. So we see huge factories providing cakes to sell throughout Europe, or producing injection moulded plastics for distribution throughout the world.

Access To International MarketsAccess to a trading block such as the EU, or NAFTA (North American Free Trade Association) may depend on setting up a production facility within that trading block. Europe has received a massive inflow of investment from US and Far Eastern companies wanting free access to European markets.

Access to Cost and nature trading Blocks of Factors of

Production Taxation Reasons

Economies of Social Freedom from Scale Reasons Restrictions

Tax AdvantagesCompanies sometimes establish operations where taxation levels are lower than their home base. This can allow Transfer Costing to take place. Transfer Costing is a process by which firms are able to inflate their profits in countries where taxation levels are relatively low, and decrease their profits where taxation levels are relatively high.

Freedom from restrictionsFirms can reduce their costs if they locate operations in countries where red tape is less present or employment law is less complete. For example many merchant ships now use flags of convenience. This means that the ships are registered in counties that impose fewer restrictions on wages, manning levels etc. This switch leads to loss of employment in the country where the ship was originally flagged.

Firms when locating in these less regulated countries may also attempt to reduce costs by ‘cutting corners’. Practices or systems that would have been unacceptable in economically developed countries may be the norm in less developed nations.

Foot Loose FirmsA foot loose firm is one that is not tied to any particular location or country, and can relocate across national borders in response to changing economic conditions. Many manufacturing industries seem to have this characteristic. Foot loose firms follow cheap capital, low cost labour and tax advantages. Multinationals aware of changing production conditions and costs that occur between different countries often structure production so that flexibility of location is built in, for example leasing factories for just a few years, negotiating short term tax breaks, get-ting host countries to pay for necessary improvements in infrastructure etc.

EXAM QUESTIONFACEBOOKFacebook began as a social networking site for university students in the USA. Mark Zuckerberg started it up while at Harvard University, then followed Bill Gates’ example in dropping out of Harvard to turn his idea into a real business. Initially only US university students could use Facebook; now nearly 28% of its 24 million subscribers are from outside the USA, with Canada and the UK leading the way. To fund the start-up in 2004 Zuckerberg raised $500,000 from a ‘business angel’, an individual willing to provide high-risk venture capital. Now the business is able to finance its growth from its cash flow. From the early days of the business, the single most important driving force has been to find technological solutions to cope with the crazy growth rate. However, in addition to coping brilliantly with the pressures of growth, Facebook has also tried to keep moving ahead. New facilities are offered regularly, most designed in-house, but some designed by users. Facebook is unusual in providing its computer programming information freely to anyone who wants to use it to develop a new service.

Adapted from ‘The Facebook Phenomenon’ by Roger Hammond (Business Review Sept 2007)

a) Explain why Facebook can be considered to be operating within the global economy. [4]

FOLLEYS, THE TENT MANUFACTURERSCandice and Simon Folley have been running a business manufacturing tents quite successfully for the last eight years. They currently employ twelve people. Now their son, Patrick, has joined them as a partner with the long-term view of taking over the business. This means they need to increase the scale of the business to provide a comfortable living for them all. The tent-making business is currently situated in premises just off the Aberystwyth Road not far from the town centre. Candice suggests that they move to a large unit on the local industrial estate near the motorway. Here they could have a large internal display area and a large sales area. Whether Folleys moves or not, the business wishes to improve both the quality of its products and its stock control. Tent sales tend to be seasonal and consequently it does not have a steady flow of orders. This means that it has to discount its stock heavily towards the end of each season to make way for new designs.

(a) (i) Explain the meaning of stock control. [2](ii) What problems might Folleys face as a result of poor stock control? [4](b) Explain two ways in which Folleys could improve the quality of its products. [6](c) Consider the factors that Folleys should take into account when deciding whether or not to relocate. [8]

WAGON WHEELS CONTINUE TO ROLL AT MORETON, CHESHIREBurton’s Foods, which make Jammie Dodgers, Wagon Wheels and a range of own-label biscuits, owns factories in Blackpool, Moreton (Cheshire), Edinburgh and Llantarnam (South Wales). Due to overcapacity in the biscuit industry, it has decided to close one of its factories. After considering various alternatives, it proposed to close the Moreton, Cheshire factory, axing 821 jobs.

After negotiations with the Transport and General Workers Union (TGWU) and having carried out a benchmarking exercise, a deal was agreed to keep the factory open with half of the workforce losing their jobs. In exchange, the company guaranteed the remaining workers a minimum of five years’ work. The deal involves a £7.3 million package of savings and changes to the layout of the plant.Paul Kitchener, Burton’s chief executive said “We’ve developed an alternative proposal for the Moreton factory that will see the creation of a centre of excellence for our seasonal ranges. The factory is in need of updating and we have decided to invest in it because of its suitable location. We also propose to introduce Total Quality Management (TQM).”

Source: Adapted from The Daily Express, 17 August 2007

(a) Explain the meaning of the following:(i) overcapacity in the biscuit industry; [2](ii) benchmarking. [2](b) (i) What is meant by Total Quality Management? [4](ii) Explain two benefits which Burton’s might hope to gain from the introduction ofTQM. [4](c) Consider the factors that the owners of Burton’s might have taken into account whendeciding which one of its factories to close. [8]