Understanding business activity

Nature of Business Activity

● Needs: goods or services that we need in order to live
● Wants: goods or services which people would like to have. But are not essential for
living.
● People’s wants are unlimited (you will always want something) but the resources
available to produce them are limited which leads to scarcity (the basic economic
problem)
● Scarcity: there are not enough products to fulfil the wants of the population
● Resources (also known as factors of production) include: Land, Labour, Capital &
Enterprise
o Land – any natural resource used in production
o Labour – mental and physical efforts of a human
o Capital – man-made goods used in production
o Enterprise – the risk-taking ability of an entrepreneur
● As there are limited resources, people are always forced to make a choice. This means
that we will be giving something up, this is known as opportunity cost
● Opportunity cost: it is the next best alternative that is given up by choosing another
item.

Specialisation
● Specialisation: when people and businesses focus on what they are best at.
● Division of labour is when production is split in different tasks and each worker
performs one of these tasks

Advantages Disadvantages
Workers specialized in certain task, Workers become bored of doing the same
increases efficiency job. Efficiency might fall
Less time is wasted from one workbench If a worker is absent, no other worker can
to another, more efficiency do the job. Efficiency might fall
As the business is more efficient, output Employees have to rely on each other to
increase which may lead to economies of produce products, leading to a fall in
scale productivity
Workers become more skilled and
experienced, reducing the mistakes made

Purpose of Business Activity:

● Businesses combine scarce factors of production to produce goods or services to
satisfy people’s wants
● A business also employs people as worker and pays them wages to allow them to
consume products as well
Added Value
● Added value is the difference between the selling price and the cost of bought-in raw
materials and components.
Added Value = selling price – total cost
● It is NOT the profit because added value does not include the price to pay for labour,
transport etc.
● To increase added value, a business can either:
o Increase the selling price of product, while keeping the total cost of material
the same
o Create a brand image
o Improve packaging
o Make products more appealing by adding features
o Provide higher quality goods and services
● Decrease the total cost of materials, while keeping the selling price of the product the
same.
Classification of Businesses

● Businesses can be put into three sectors:

o Primary sector – extraction of natural resources. Ex. farming, fishing
o Secondary sector – manufacturing and production of goods. Ex. car
manufacturer
o Tertiary sector – provides services. Ex. hairdressing, banking
● The relative importance of these sectors in an economy depends on:
o Number of workers employed
o Value of output produced
● Deindustrialisation occurs when there is a decline in the importance of the secondary
sector.
● This can happen due to:
o Depletion of primary resources in home country
o Cheaper goods by developing countries
o Ability to spend more income on services

Mixed Economy
● Has both a private sector and a public sector.
o Private Sector: Businesses NOT owned by government, will make own
decisions on what and how to produce. The main aim is to make profits.
o Public Sector: Owned by the government. Government will make decisions on
what and how to produce (i.e. healthcare, education, defence, public
transport). The main aim is to provide a service to customers.
● Privatization refers to the selling of a public sector business to the private sector.
● Privatisation may occur as private sector is more efficient, competitive and will be
able to make good quality goods leading to higher profits.
● But private sector does not have social objectives, making their products
unaffordable.
Enterprise, Business Growth & Size

● An entrepreneur is a person who organises, operates and takes risk to make the
business better
● Characteristics of entrepreneurs:
o Hard working
o Risk Takers
o Creative
o Effective Communicators
o Optimistic
o Self-confident
o Innovative
o Independent.
● Advantages and disadvantages of being an entrepreneur:
●
Advantages Disadvantages
Independent, able to choose entrepreneurs will have to put their own money into
how to use time and money the business.
Able to put own ideas into
many entrepreneur’s businesses fail (risky)
practice
May become successful and
Lack of knowledge and experience in starting and
very profitable if business
operating a business
grows
Able to make use of personal Lost income from not being employee for another
interests and skills business (Opportunity cost)
Will have to invest their own savings as well as find
Profits to themselves, no need
other sources of finance , which is time taking and
to share them with anyone
expensive

Who needs to know the size of a business?

● Investors
● Government
● Competitors
● Workers
● Bank

Business Plans
● A business plan contains business objectives, important details about the operations,
finance, and the owners
● Business plans assist entrepreneurs because:
o It helps gain finance. banks will ask for a business plan before agreeing to a
loan or overdraft for the business
o It forces the entrepreneur to plan ahead carefully, which reduces risk of the
business failing.
 ● The main parts of a business plan include: name, type of organization, business aim
and forecast profit

Government Support for Start-Ups

● Governments encourage entrepreneurs to set up a business because start-ups:
o Reduce unemployment, new businesses create jobs
o Increase competition, gives consumers more choice
o Increase output, economy benefits from increased output of goods and
services
o Can grow further and become large and important businesses which pay
government more taxes
● Governments may give support to entrepreneurs by:
o Business ideas & help, they set up support sessions held by experienced
business people
o Finance, they may lend loans at low interest rates or grants
o Governments provide grants for training employees to make them more
efficient and productive
o Governments allow entrepreneurs to use research facilities in universities

Business Size
● There are several different measurements of business size and they all have
limitations:

Measurements Limitations
The number of people employed in the Some businesses employ few people but
business produce high output values
high level of output does not mean
The value of output of the business
business is big
different businesses sell different products
The value of sales
(expensive and cheap)
some companies may use cheap labor
The total value of capital (money) invested
giving high output with low-cost
into the business (capital employed)
equipment
● No way of measuring the size is considered correct as each method gives different
answers. Businesses choose the method they think is the best. Therefore, businesses
may use more than one method.

Reasons for business Growth

● Some businesses want to grow because:
o Higher profits
o More status for owners and managers
o can benefit from Economies of Scale (lower costs)
o Larger share of its market, ‘big names'

Ways of business growth

● Businesses can either grow by:
 o Internal Growth
o External Growth
● Internal Growth is when the business expands its existing operations
● External Growth is when the business takes over or merges with another business.
● There are three types of External Growth:
o Horizontal Integration – firm taking over/merging with another firm in the
same industry
▪ Ex. a paper company taking over another paper company
▪ Benefits include economies of scale and higher market share
▪ Problems include diseconomies of scale and difficult to control and
manage the business
o Vertical Integration – firm taking over/merging with another firm in same
industry but different stage of production (there is forwards and backwards)
▪ Ex. paper manufacturing company taking over paper selling company
▪ Benefits include profits by supplier/retailer are absorbed and personal
attention is given
o Conglomerate Merger - firm merging/taking over another firm in a different
industry. (also known as ‘diversification’)
▪ Ex. paper company taking over a food company
▪ Benefits include spread of risks and transfer of ideas.

Why small businesses are at greater risk

● Established by youngsters who lack managed experience
● Borrow money to begin so will have to repay whether or not business is successful
● Start-ups have lesser experience and information about the market in order to make
informed decisions
● New entrepreneurs may not have a realistic picture of the market

Why Businesses Fail

● Poor management – from lack of experience, poor choice of managers (family
business), bad decisions
● Failure to plan for change – businesses need to adapt everchanging business
environment. Must take risks.
● Poor money management – lack of money to pay workers, suppliers, landlords, etc.
● Over-expansion – (diseconomies of scale), management problems and finance
● Competition with other businesses – new businesses are at more risk of failing than
existing businesses.
● This is because start-ups have lack of money, resources, poor planning & don’t have
much research
Sole Trader
● A business owned by just one person. It’s the smallest type of business. Can employ
other people however.
o Useful for people who are setting up new business
o Do not need much capital to get business running
o Will be dealing mainly with the public

Advantages Disadvantages
Easy to set up, do not require a lot of Capital is usually provided by owner, hard to
money to set up get capital to expand firm
They are their own boss, has the They have unlimited liability (responsible
freedom to choose their own holidays, for any debts of the business, bank can take
work hours, prices, who to employ away possessions to pay back)
Close relationship with customers Business is likely to remain small
Does not have to share profits No one to discuss business matters with
They are unincorporated (business has same
Does not have to give information
identity as the owner). So, business ends
about the business
when owner dies
Lesser legal restrictions

Partnerships
● A business in which 2 to 20 people agree to own it. Usually small businesses but
bigger than sole traders.
o Useful for people who want to form a business but don’t want the legal
complications
o Industries such as medicine or law where you are not allowed to form a
company
o Partners that know each other very well
● Requires a Partnership Agreement

Advantages Disadvantages
Easy to set up, do not require a lot of
Capital is usually provided by partners
money
More capital invested (more
Partners have unlimited liability
expansion)
Partners are motivated because any Partners can disagree on decisions. If one of
losses are shared by the partners the partners is inefficient, they all lose money
Responsibilities are shared (focused They are unincorporated. If one of the partner
on different parts of business) dies, the partnership ends
 ● Contents of Partnership Agreement:
o Amount of capital invested by all partners
o Tasks to be done by each partner
o The way profits are shared out
o How long partnership will last
o Arrangements for absence, retirement and how partners could be let known

Private Limited Company (LTD)

● An LTD is different from the other because it can sell shares and it is
an incorporated business.
● Company must be owned by at least 2 shareholders
o A shareholder buys shares of an LTD company which represent part
ownership of the company
o Dividend is the amount of profit each shareholder gets
● Shares are sold privately to friends and family
● Has separate identity from owners, incorporated, so company accounts are separate
from the owners’
● Must have: Articles of Association and Memorandum of Association
● Article of Association – must contain the RULES in which the company will be
managed. Contains:
o Rules for shareholder meetings
o List of directors and their jobs
o Voting rights of shareholders
o Details of how accounts are recorded
● Memorandum of Association – must contain important information about the
company:
o Company name, address
o What the business does
o Number of shares to be sold

Advantages Disadvantages
Shares can be sold to lots of people. More
Difficult to set up (legal formalities).
capital to expand
Owners are able to keep control of company Shares are difficult transfer. Requires
as long as they don’t sell too many shares other shareholders to agree
All shareholders have limited liability (bank Accounts are less secret than other
can only take amount of money invested) forms of business
Company cannot offer it shares to the
Company continues after a shareholder dies
public

● Private Limited Companies are useful for family businesses or

businesses/partnerships where owners want to expand more (as you can sell shares)
Public Limited Company (PLC)
● A PLC is similar to LTD only the shares can be sold to the public. It is the biggest
type of business.
● Shareholders of PLCs may attend an Annual General Meeting where they may vote
for the board directors

Advantages (in addition to those in

Disadvantages
LTDs)
Opportunity to raise high capital Difficult to set up (legal formalities) & accounts
sums are even more public
No restriction of buying, selling or Danger of business being taken over due to
transferring shares public shares
Selling shares to public is expensive

● DON’T GET CONFUSED, Public Limited Companies are NOT in the PUBLIC
sector, they are in PRIVATE sector

Joint Venture
● A joint venture is when two or more businesses start a project together sharing capital
risks, and profits

Advantages Disadvantages
Costs are shared, good for expensive Profits have to be shared if project is
projects successful
Might have disagreements over important
Shared knowledge of two businesses
decisions
Risks are shared Different methods of running business

Franchise
● A franchise is an agreement of a business based upon an existing brand/business
● The franchisor is the main business/brand
● The franchisee is the individual to start up franchise
● In a franchise, the franchisor allows the franchisee to trade under its name and (sell)
its products for a fee
● The franchisee pays an original fee to franchisor and a percentage of its profit for the
privilege
● Franchisor provides support, such as:
o Advertising
o Legal advice
o Employee training
o Financial advice
● Franchise agreements last 5 – 20 years, if franchisee cancels the agreement early there
may be large fines
Risk, Ownership & Limited Liability
● Risk - the uncertainty of profits or danger of loss, events that could cause business to
fail
● Ownership – who owns the business (partnership = partners, LTDs and PLCs = the
shareholders)
● The people with risk are usually the owners
● Liability – how much the shareholders of a company are liable for the debts in the
business
o Limited Liability – liability of shareholders is limited to the amount of
money they invested (PLC & LTD)
o Unlimited liability – owners of business are held responsible for all the debts
of the business (not just their investment) (Sole trader & partnerships)

Public Sector
● The public sector includes every business owned by the government.
● Businesses in the public sector are public services, i.e. education, transport, hospitals,
and police
● Usually these businesses have been nationalized (used to be private sector but
government bought it)
● Capital comes from taxes, by tax payer

Advantages Disadvantages
Reduces wastage of resources (if a
Low efficiency due to lack of competition
monopoly)
Easily manipulated by the government to
Allows access of essentials to everyone
exploit citizens
Continued even if in losses Not flexible as profit is not a main aim
Keeps in mind social costs of decisions Will have to be subsidized if in losses,
(non-profitable) opportunity cost
Business Objectives
● Business objectives are aims or targets a business works towards
● Benefits of having business objectives:
o Employees have a clear target to work towards
o Decisions made keeping in mind objectives
o Clear & measurable objectives will make sure the entire organisation works
towards the same goal
o Managers will be able to compare performance
o A business objective maybe changed if economic conditions change or one
objective has already been achieved
● Private sector business objectives:
o Business Survival - Adjust to business environment, change price of products
if necessary
o Generating profit – pay a return to owners or provide finance to invest
further in business
o Returns to shareholders - discourage shareholders from selling their shares.
Can be increased by increasing profit or increasing the share price
o Growth of business – increase salaries, economies of scale. only achieved if
customers are satisfied with the product
o Market Share – the proportion of the total market sales by one business,
gives good publicity, more influence over suppliers and customers
o Service to community – provide jobs, support disadvantaged groups in
society, protect environment

Stakeholder objectives
● A stakeholder is any person with a direct interest in the performance of a business
● There are two types of stakeholder groups:
o Internal Stakeholders work/own the company (owners, managers, workers)
o External Stakeholders are outside of the business (consumers, government,
banks)
● Each stakeholder group has different objectives for the performance of the business
● Internal Stakeholder’s objectives are payments or profits, they want business growth,
so value of investment increases or they get higher status/power
● Customers objectives are reliable products, value for money, good quality, good
design and good service
● Government objectives include: money from taxes, will employ more people,
increase country’s output
● Banks objectives are to make profit out of loans
● Since different stakeholders have different objectives, it may cause conflict, to try to
please all the stakeholders
● For example: customers want cheap products but workers want higher salaries.
● Therefore, managers have to compromise to decide which objectives are best for the
company