Mergers (Cambridge (CIE) IGCSE Economics): Revision Note

How do businesses grow?

• Many firms start small and will grow into large companies or even multi-national corporations

  • E.g. Amazon and Dell both started in entrepreneurs' garages

• Business growth can be separated into two broad categories, internal and external business growth

Internal growth

• Internal growth (organic growth) is driven by expansion using resources from inside the business, such as reinvested profits

• It is usually achieved by:

  • Gaining a greater market share

  • Product or market diversification

  • Opening new outlets

  • International expansion (new markets)

  • Investing in new technology or production machinery

External growth

• External business growth (inorganic growth) is when a business expands by joining with or buying other businesses rather than growing on its own

• External growth takes place in the form of a merger or a takeover

  • A merger occurs when two or more companies combine to form a new company

    • The original companies cease to exist and their assets and liabilities are transferred to the newly created entity

  • A takeover occurs when one company purchases another company, often against its will

    • The acquiring company buys a controlling stake in the target company's shares (>50%) and gains control of its operations

Types of mergers and takeovers

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

  • Integration speeds up growth but also creates new challenges

• Integration can happen in one of three ways

1. Vertical integration

• Vertical integration refers to the merger or takeover of another firm in the supply chain or different stage of the production process

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

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

  • Backward vertical integration involves a merger with or takeover of a firm further backwards in the supply chain

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

Evaluating vertical integration

2. Horizontal integration

• Horizontal integration is the merger or takeover of a firm at the same stage of the production process

  • E.g. An ice cream manufacturer merges with another ice cream manufacturer

Evaluating horizontal integration

3. Conglomerate integration

• Conglomerate integration occurs when a firm merges with or takes over another company in an unrelated industry—one that operates in a completely different market

• It is a type of diversification strategy that helps firms spread risk by expanding into different sectors, so that poor performance in one market may be offset by success in another

Evaluating conglomerate integration