Growth (Edexcel A Level Business): Revision Note

Reasons to grow

• Businesses grow to achieve a range of key objectives

  • For example, business owners often see growth as a personal reward for the effort they have put into the business

Economies of scale

• As a business grows, it can reduce its average costs by spreading fixed costs across more units of output, as well as other factors such as the ability to buy

• It could also result from being part of a growing industry, such as better infrastructure or a larger pool of skilled workers

• Economies of scale are explained in detail in the next section

Increased market power

• A larger business may have more control over customers and suppliers

• It can influence prices or force suppliers to offer better terms, such as longer trade credit periods

Increased market share and brand recognition

• Growth allows a firm to reach more customers and become better known

• This can lead to higher sales and increased customer loyalty

• Increased brand recognition can help further growth, as customers are familiar with and trust the brand

Increased profitability

• Profitability is a measure of how efficiently a company generates profit relative to its revenue or investment

• As a business grows, it can often spread its fixed costs over a larger volume of output

  • This lowers its average cost per unit and increases its profit margin, even if selling prices stay the same

• A larger business may also gain greater bargaining power with suppliers, negotiating lower prices or bulk discounts, which further improves profitability

  • E.g. as a supermarket chain grows and opens more stores, it can negotiate lower wholesale prices from suppliers due to the larger volumes it purchases, helping to increase its overall profit margin

Explaining economies of scale

• As a business grows, it can increase its scale of output, generating efficiencies that lower its average costs of production

  • These efficiencies are called economies of scale

  • Economies of scale help large firms to lower their costs of production beyond what small firms can achieve

• As a firm continues increasing its scale of output, it will reach a point where its average costs (AC) will start to increase

  • The reasons for the increase in the average costs are called diseconomies of scale

• Internal economies of scale occur as a result of the growth in the scale of production within the firm

Economies and diseconomies of scale

Diagram analysis

• With relatively low levels of output, average costs are high

• As the business increases its output, it begins to benefit from economies of scale, which lower the average cost per unit

• At some level of output, a business will not be able to reduce costs any further - this point is called productive efficiency

• Beyond this level of output, the average costs will begin to rise as a result of diseconomies of scale

Types of internal and external economies of scale

Internal economies of scale

• Internal economies of scale occur as a result of the growth in the scale of production within the business

  • The firm can benefit from lower average costs generated by factors that are inside the business

Types of internal economies of scale

External economies of scale

• External economies of scale occur when there is an increase in the size of the industry in which the firm operates

  • The firm benefits from lower average costs generated by factors outside of the business 

Sources of external economies of scale

Problems arising from growth

• Rapid business growth may create challenges that can negatively impact a company's operations and financial performance

Diseconomies of scale

• This occurs when a company grows too large, making it difficult to manage and control its operations

• It may face challenges in coordinating its various departments, managing its workforce or maintaining quality control

• The cost per unit increases as a result of these inefficiencies

Internal communication

• Rapid growth may strain communication channels or result in miscommunication, causing conflicting priorities and a lack of coordination

• This may result in delays, errors and missed opportunities, as well as impact on employee morale

Overtrading

• This occurs when a company takes on more business than it can handle, leading to a strain on its resources or an inability to meet its financial obligations (lack of liquidity)

• This may cause cash flow problems or decreased customer satisfaction

  • E.g. a company that expands too quickly may struggle to hire and train enough staff to handle increased demand, leading to a backlog of orders and dissatisfied customers