Académique Documents
Professionnel Documents
Culture Documents
Contents
Chapter Title
Page
iii
ix
1
2
2
8
16
27
28
28
42
45
Strategic Choices
Introduction
The Life Cycle Concept
The Nature of Strategic Management
Analysis of the Business Environment
Organisational Growth
57
58
58
59
64
80
91
92
92
94
97
98
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107
108
108
115
127
131
ii
Chapter Title
Page
139
141
141
143
146
151
154
163
164
164
168
175
179
Going Global
Introduction
Growth Options in a Global Perspective
The Global Financial Environment
Globalisation and Culture
Limitations to Globalisation
189
190
190
193
198
205
213
214
214
225
237
245
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ABE website www.abeuk.com. You should ensure that you refer to the Members
Area of the website from time to time for advice and guidance on studying and on
preparing for the examination. We shall be publishing articles which provide general
guidance to all students and, where appropriate, also give specific information about
particular units, including recommended reading and updates to the chapters
themselves.
Additional reading It is important you do not rely solely on this manual to gain the
information needed for the examination in this unit. You should, therefore, study some
other books to help develop your understanding of the topics under consideration. The
main books recommended to support this manual are listed on the ABE website and
details of other additional reading may also be published there from time to time.
Newspapers You should get into the habit of reading the business section of a good
quality newspaper on a regular basis to ensure that you keep up to date with any
developments which may be relevant to the subjects in this unit.
Your college tutor If you are studying through a college, you should use your tutors to
help with any areas of the syllabus with which you are having difficulty. That is what
they are there for! Do not be afraid to approach your tutor for this unit to seek
clarification on any issue as they will want you to succeed!
Your own personal experience The ABE examinations are not just about learning lots
of facts, concepts and ideas from the study manual and other books. They are also
about how these are applied in the real world and you should always think how the
topics under consideration relate to your own work and to the situation at your own
workplace and others with which you are familiar. Using your own experience in this
way should help to develop your understanding by appreciating the practical
application and significance of what you read, and make your studies relevant to your
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personal development at work. It should also provide you with examples which can be
used in your examination answers.
And finally
We hope you enjoy your studies and find them useful not just for preparing for the
examination, but also in understanding the modern world of business and in developing in
your own job. We wish you every success in your studies and in the examination for this
unit.
Published by:
The Association of Business Executives
5th Floor, CI Tower
St Georges Square
New Malden
Surrey KT3 4TE
United Kingdom
All our rights reserved. No part of this publication may be reproduced, stored in a retrieval
system or transmitted, in any form or by any means, electronic, mechanical, photocopying,
recording or otherwise without the prior permission of the Association of Business Executives
(ABE).
The Association of Business Executives (ABE) 2011
ABE
Learning Outcome 1
The learner will: Understand the significance of the environment on business activity.
Assessment Criteria
The learner can:
1.1 Explain the features of
business activity.
Indicative Content
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Learning Outcome 2
The learner will: Understand the structure and organisation of business.
Assessment Criteria
The learner can:
Indicative Content
Learning Outcome 3
The learner will: Understand the competitive and political environment facing businesses.
Assessment Criteria
The learner can:
Indicative Content
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Learning Outcome 4
The learner will: Understand the impact of the macro-economic environment on business.
Assessment Criteria
The learner can:
Indicative Content
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viii
Learning Outcome 5
The learner will: Understand the influence of the global economy on business.
Assessment Criteria
The learner can:
Indicative Content
Learning Outcome 6
The learner will: Understand the impact of socio-cultural influences and technology on
business decisions.
Assessment Criteria
The learner can:
Indicative Content
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practices.
6.2.3 Discuss the costs and benefits to businesses of
implementing environmentally friendly (green) policies.
Assessment Criteria
The learner can:
Manual
Chapter
1. Understand the
significance of the
environment on business
activity.
Chaps 1 & 2
Chaps 2 & 3
Chaps 1 3
3. Understand the
competitive and political
environment facing
businesses.
Chap 3
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Chap 2
Chap 4
Chaps 5 & 6
Chaps 5 & 6
Chap 5
Chaps 7 & 8
Chap 9
Chap 5
Chaps 7 & 8
Chap 9
Chaps 7 & 9
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Chapter 1
The Nature of Business
Contents
Page
Introduction
A.
2
2
3
7
B.
8
8
11
12
13
C.
16
16
18
18
20
Summary
22
Answers to Activities
23
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INTRODUCTION
This chapter is intended to provide you with the basic framework of business: the reasons for
starting a business, the categories, ownership and legal status, basis of accounting rules and
a discussion of the business as a transformation process.
As you work through the chapter, you will find some activities to help you to reflect on each
part in order to develop your understanding of the issues involved.
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with a third party for members to buy insurance products, holidays or publications
at a discounted rate.
Clubs which provide a variety of activities catering for the specific interests of
their members, such as sports facilities (for example, rugby, football or tennis),
dinner clubs for members to meet new people, young farmers clubs for those
working in agriculture, etc.
Charities which can be formed for many reasons, but always for the benefit of
a defined group of people. For example, the National Trust owns and preserves
properties and open spaces for the general benefit of UK citizens, the friends of a
local hospital provide resources to help care for the very ill, and various
children's' charities exist to assist disabled or disadvantaged children.
Think point
What is the key purpose of the businesses in your country and of the organisations that you
have worked for?
Make a list of five "for profit" and five "not-for-profit" businesses that you have regular
dealings with.
Each of these categories has a distinct set of characteristics which define their nature and
purpose.
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Profit Maximisation
Making profit is normally essential for a business to survive in the long term. There are
unusual exceptions, such as where the owners have sufficient funds to ignore profit levels
and run the business as if it is a hobby, but these are rare. In most cases, the level of profit
is crucial to most stakeholders who depend on the organisation for an income. At the most
basic level, the profit generated must be sufficient to make it worthwhile to continue to
operate of business.
However, profit goals can vary in the way they are set, measured and applied to different
types of business for example, as time progresses, larger companies, in particular, seek to
achieve some accounting measure such as a specified level of return on capital employed
(ROCE) or income per share.
Economic theory states that businesses should have the over-riding goal of profit
maximisation. In economic terms, profit is defined in two ways:
Normal profit which is the minimum return that owners must make on the capital
sum they invest to prevent them from closing that business and moving their capital to
an alternative source, which returns more income from that same capital sum. This
could be another business or an interest bearing investment.
This approach is a practical application of the economic term "opportunity cost". This
concept describes the situation in which as an individual investor uses his/her money to
support a particular firm, s/he loses the opportunity of investing it another way where a
better return might be received.
Activity 1
What is the opportunity cost of you studying for this qualification?
See the suggested answer at the end of this chapter.
Using opportunity cost, normal profit can be seen as the return available on a risk free
investment, plus an additional return for the risk involved in different type of investment:
Normal profit = rate of riskless interest + risk premium
The risk premium will depend on the amount of business risk of a particular enterprise.
A retail business would usually have fairly low value of risk premium compared to new
high technology or mineral exploration business.
In summary, the normal profit is the level of profit that will just satisfy the owner and
encourage him/her to remain in business.
Supernormal profit This is the excess of profit above normal profit. If firms earn
supernormal profit they will definitely prefer to stay in business.
This type of profit potential will attract new firms into the industry sector and create
competition for the existing businesses. In the short term, this may be unlikely as there
will not be time for new firms to identify this characteristic of the business sector, but in
the longer term, their entry is likely to reduce the level of supernormal profit and
possibly force some firms to close their businesses.
An example is firms selling computer equipment. When few people wanted to buy
computers, prices and profit levels were high, but as demand increased, more firms
entered the market and prices dropped. Now that most businesses have computers,
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higher profit levels are to be found in associated areas, such as information security
where intellectual capital must be protected for the firms to retain their competitive
edge.
Market Share
Gaining a share of the market for a particular product is essential for a business to survive. If
it is not possible to achieve a viable level of sales, the firm will fail.
In the short term, most new entrants to a market aim to gain market share through market
penetration. However, market share is often linked to competitive advantage, particularly
in the longer-term, whereby a firm attempts to achieve and maintain its position in the market
by offering a better "deal" to its customers than that offered by its competitors in the same
market. This can be in terms of price, quality, service, etc.
The importance of this can be seen in a firm such as Coca Cola, which has the biggest share
of the non-alcoholic drinks market but is always seeking to improve this, partly in order to
reduce the possibility of its closest rivals such as Pepsico gaining further share.
Growth Increasing Market Share
Often firms are forced to grow to survive in their market sector. If they fail to grow, their
competitors may take a more aggressive approach and force them out of business.
Expansion can be accomplished by internal and/or external growth that results in a growth in
their share of the market in that industrial sector:
External expansion is achieved when the business joins with another firm through a
joint venture (strategic alliance), merger (mutual agreement) or acquisition (takeover).
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Simon (1957) proposed that decisions were taken in conditions of uncertainty and ignorance.
He believed that decision-makers could rarely obtain and evaluate all the information which
might be relevant to the making of the best decision. Instead, they work with limited and
simplified knowledge in order to reach acceptable choices (satisficing), rather than pursue
the best choice where one particular objective is fully achieved.
The reason for this could be
Time pressure
The adoption of satisficing models of behaviour, instead of maximising, has been found
useful in the theory of the firm and corporate behaviour.
Cyert and March (1963) perceived the firm as a coalition between shareholders, managers
and customers. In their publication "A Behavioural Theory of the Firm" (1963), they reasoned
that organisational goals and the outcomes of decision making were a compromise between
those of these various stakeholder groups. They also recognised that the compromise
reached would depend on the relative power of the different stakeholder groups.
A satisficing strategy minimises conflict between different parts of the organisation. In
practice, this usually results in setting targets for production, sales, profit, research and
development, stock levels and so on. Each period's targets is usually set with reference to
the target or the outcomes from the previous period, the logic being that there is certainty
about the previous year's achievements. Using past performance to predict the outcomes of
an uncertain, unknowable year ahead is seen as better than a 'wild' guess (reflecting Simon's
approach to decision making).
The targets set are also likely to take supply and demand into account, be influenced by
competition in the market and the economy in general. If there is conflict between parts of
the organisation about the level of targets, this may be resolved by bargaining on the agreed
target outcomes with the result depending on the departments or managers that wield most
power in that firm. (This aligns with Cyert and March's approach.)
If the targets are not achieved there will be an investigation as to why this situation has
occurred and how to rectify it. If it is not possible to meet the targets, they may be reduced
or, if they appear too easy to achieve, increased.
Coalition governments are a practical example of satisficing. The UK's Coalition Government
elected in 2010 was formed by an agreement between the Conservative and Liberal
Democrat political parties. The Conservatives pledged to abolish rises in National Insurance
for employers and employees planned by the former Labour government, while the Liberal
Democrats promised to give "substantial increase" in personal tax allowances to benefit low
and middle-income workers from April 2011. The compromise was to keep part of the
planned National Insurance rise, the employee element, and to increase capital gains tax on
non-business assets to pay for a rise in personal tax allowances, but one which was lower
than the Liberal Democrats had planned.
Technical Excellence
This is a frequent objective of research organisations and engineering firms. Innovation and
technological advances may be considered as more important than sales or profit
maximisation.
The pursuit of excellence may bring the kind of reputation which builds sales and profit in the
longer term. For example, Rolls Royce is renowned for its excellence in engine technology.
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Think point
Which companies do you recognise as having a good reputation for corporate social
responsibility?
Do you see any of these as having conflicting social and business goals?
Do you have doubts about the authenticity of any companys stated commitment to the good
of society as a whole?
Not-For-Profit Business
The primary purpose of not-for-profit businesses will be to fulfil a social need of some kind.
Thus, the objective of a healthcare organisation might be to meet the healthcare needs of its
community whereas a community play group's might be to make basic social and learning
skills accessible to all pre-school children.
However, revenue maximisation remains a key objective of these types of business in order
that they have the resources to achieve that purpose. They will aim to generate a high level
of income while keeping costs to a minimum in order to maximise the use of that income for
the primary purpose.
Associated with this, many not-for-profit businesses have high level of service as an
objective aiming to provide the highest possible level of service or the best service
achievable for a given cost. The UK National Health Service aims to do this.
Not-for-profit businesses may also seek to generate the maximum income in order to extend
the services and benefits they provide. There are many organisations which are supported
by government bodies to run certain services such as education, travel and so on. This
support, often in the form of a subsidy, may cover the cost of providing the service for a
certain level of users, but any additional revenue can be used to provide all sorts of special
offers to get more people to travel or attend basic skills courses and so on. It can also be
applied to other objectives including staff development, management excellence or
outstanding customer service.
Note, though, that whatever objectives they try to achieve, singly or together, the ultimate aim
of not-for-profit businesses is, as with profit-making organisations, to survive.
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Activity 2
Choose two for-profit and two not-for-profit companies in your country.
(a)
Find out the purpose of their businesses what their main objectives are.
(b)
Examine those business objectives and compare the rationale behind any differences
(c)
Try to find out how their main business objectives have changed over times and for
what reasons.
Non-corporate organisations are those which do not have a separate legal identity
from their owners. The main forms of non-corporate organisations are sole traders and
partnerships.
Corporate organisations are those where the legal status of the organisation is
separate from that of the owner. The main categories of corporate organisations are
private limited companies and public limited companies (plc).
Very often an individual will start a business working on his/her own as a sole trader.
Alternatively two or more individuals may work together in a partnership. In both cases, sole
trader and partnership, the business may grow larger and the owners will decide (or not) to
change the type of legal business status to a private limited company or a public limited
company. (There are some types of organisation in the UK, such as solicitors, that are not
allowed by law to form either type of limited company.)
Before we go on to examine particular aspects of the legal status of these different types of
organisation, there is a further important distinction to consider that between limited and
unlimited liability.
Unlimited liability means that the individual owner or owners of an organisation have
unlimited liability for all debts or actions taken by the business. If, say, the organisation
fails, the owner(s) would be liable for the full extent of any debts of the organisation and
would have to use all their personal resources to meet those debts.
Limited liability means that the responsibility of the owners of a business for its debts
or actions is limited in some way. In practical terms, this means that the shareholders
who are its legal owners are not liable for any debts of the organisation beyond the
amount they have paid or agreed to pay for their shares. They may lose all the money
they have invested in the company, but cannot be called upon to pay any more. (Thus,
the term "limited" in public or private limited companies means that the organisations
or more properly, the owners/shareholders enjoy limited liability.)
Non-corporate Organisations
As noted above, the main forms of non-corporate organisations are sole traders and
partnerships.
Sole Trader
This type of business is owned and managed by one person who provides the financial
resources and makes all the business decisions. Since the owner makes all the business
decisions, s/he is responsible for the success or failure of the business.
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The sole trader is the most common form of business ownership in many countries. Typical
examples of sole traders are small shops, builders, window cleaners, electricians, caterers
and plumbers. In the UK, approximately 20 percent of sole traders operate in the
construction industry, 20 percent in retailing and 10 percent in catering.
In most cases in the UK, there are no restrictions on the ability of a person to set up and run
a business as a sole trader. S/he can start up a business at any time and does not need
complete any specific documentation s/he merely advises the Her Majesty's Revenue and
Customs (HMRC) of the date the business commenced. (There are a few exceptions where
special licences need to be granted, for example, opening a retail wine and spirits shop or
starting a taxi firm.) In other countries the rules can be very different especially those
countries where trade is highly regulated a good example being Italy where all businesses
must be approved by the local council and are very restricted in their operation.
The key legal principle of sole trader status is that the proprietor of the business is liable for
all the debts of the business that is, has unlimited personal liability. An important
consequence of this is that if s/he takes out a loan to support the business or its growth, s/he
will normally have to provide some form of personal security such as his/her house
against any failure of the business to repay it. If the business is unable to make the
repayments, the bank will seize the property that was taken as security for the loan. This can
make investment capital difficult to obtain, and lack of investment capital often severely
restricts growth of the sole trader firm.
Partnerships
The legal definition of a partnership was put forward in the Partnership Act 1890 as:
"The relation which subsists between persons carrying on a business in common with a view
of profit".
Partnerships offer a business the opportunity to share skills and workload, and importantly, to
raise more capital than would be available to a sole trader. Common examples of
partnerships include the practices of doctors, solicitors, accountants, estate agents,
architects and auctioneers.
There are two main types of partnership ordinary and limited partnerships.
Ordinary partnerships
There are two types of such partnerships
(a)
(b)
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If there are no procedures for operating and dissolving the partnership, the
individual members can suddenly be faced by all the financial difficulties caused
by unlimited liability for all the debts of the partnership.
Limited partnerships
The Partnership Act 1907 states that a limited partnership shall consist of no more than
twenty limited partners and include one or more persons who are termed general
partners. General partners have unlimited liability whereas limited partners have
limited liability. From 20 December 2002, the restriction on the number of partners was
lifted.
Limited partnerships must be registered with Companies House which will issue a
newly registered limited partnership with a certificate. This will be conclusive evidence
of the partnership's formation. In addition, such partnerships are required to register in
that part of the United Kingdom where their principal place of business is situated or is
proposed to be situated.
As noted above, one or more persons in a limited partnership are general partners who
are liable for all debts and obligations of the partnership i.e. they have unlimited
liability.
In addition, there will be one or more persons called limited partners, who contribute a
sum of money as capital, or property valued at a stated amount, to the partnership.
Limited partners are not liable for the debts and obligations of the firm beyond the
amount contributed, but are unable to receive back any part of their contribution to the
partnership during its lifetime. They also cannot take part in the management of the
business and do not have power to oblige the firm to any action; if they do, they
become liable for all the debts and obligations of the firm up to the amount drawn out,
received back or incurred while taking part in the management of the company.
The same person cannot be both a general and a limited partner at the same time.
An individual or a legal body such as a company may be a partner in a limited
partnership, either as a general or as a limited partner.
The limited liability of limited partnerships means that they are able to raise any capital
needed more easily, and more finance can be raised in this kind of business
organisation than by a sole trader.
Partnerships are usually set up by writing out a deed of partnership which is witnessed
by a solicitor and sets out the important details such as how the profits and losses will
be shared. In a limited partnership arrangement, income can be distributed to partners
in a way that minimises the tax liability. This means the partners can pay the taxes on
their individual shares of the profits, rather than pay taxes on the partnership itself.
Limited partnerships are much less common as it is easier to form a limited company to
achieve the same purpose
Activity 3
Take a walk around your local area and see what proportion of businesses are sole traders
or partnerships, and in what business specialisations.
Find out how easy is it to become a sole trader or to establish a partnership in your country.
Are there any restrictions on setting up such a business?
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Articles of Association this is the document which sets out the rules by which
shareholders and the company will be administered, for example voting rights, powers
of directors.
Memorandum of Association this document sets out the company name, status,
address of the registered office, objectives of the company, statement of limited liability
and amount of guarantee.
Statement of Capital this gives details of the types of share (ordinary, preference,
etc.), the amount paid up and unpaid on each share, the number of shares issued, the
nominal value of shares issued, voters rights and the shareholder's details.
Public limited companies must also issue a prospectus which describes the history of
the firm, its future prospects and the terms on which it offers its shares.
To take reasonable care, skill and diligence and to give consideration to matters that go
beyond the Balance Sheet and impact of the business operation on the environment
and community.
The Companies Act (2006) also introduced some significant changes to the way companies
were registered and included a reduction in the time allowed to file the company accounts as
well as making it mandatory to submit the Statement of Capital when applying for
incorporation. They now must also complete a Statement of Capital when filing annual tax
returns and notify Companies House if the amount of capital changes.
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A private limited company is one in which the owners hold a percentage share of the
value of the company. Often this is dictated by the amount of the capital sum or the
value of the property that each person contributed to the company.
There must be at least two directors
Owners of private limited companies have limited liability for the debts of the company
up to the amount they originally invested.
Private companies do not trade their shares to the public, but can offer shares to
business contacts. This constraint often restricts raising capital for growth so that most
private limited companies remain relatively small.
A public limited company (plc) is a company that trades shares nationally and or
internationally. It can sell shares directly to the public or through an investing
institution.
A plc is owned by the shareholders who have bought an interest in the company. Their
liability is limited to the value of their original purchase of shares.
In the UK, a public limited company must satisfy the following conditions:
The right to offer its shares (and debentures) to the general public
A certificate from the Registrar of Companies that states these requirements have
been met
Charitable Status
In the UK, applications for charitable status are usually made to the Charity Commission. An
organisation may apply for charitable status if its aims are exclusively for the "public benefit".
There are currently four categories under which an organisation may qualify:
Educational advancement
Poverty relief
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Charities with an annual income of less than 1,000 do not need to register. (There is also a
category of "exempt charities" in England and Wales who do not need to register, including
Industrial and Provident Societies whose objectives are exclusively charitable. However they
must still register with the HMRC.)
Charities do not have owners in the same sense as non-charitable organisations. Rather,
they have "trustees" who have responsibility for the running of the charity and for its property,
finances and the employment of any staff or volunteers.
There are significant advantages for organisations dedicated to the public benefit to be
registered as charities, including:
Charities do not normally have to pay income tax or corporation tax and most other
taxes
Charities are perceived and regarded in a way that can make it slightly easier to raise
funds than it would be as a non-charitable body.
Obtaining charitable status can take a long time and the organisation is subject to
considerable controls, as the Charity Commission imposes complex trading and
financial rules to ensure that all money raised, and any surpluses, can only be
distributed in accordance with the charitable objectives of the organisation.
The trustees can be paid only reasonable expenses, which could restrict the type and
complexity of professional assistance from those in senior positions that the
organisation can call on.
Charity law also restricts what charitable organisations can do and how they are run,
including that trustees avoid any situation where charitable and personal interests
might conflict, that employees of a charity cannot usually serve on its governing body,
and that charities are not allowed to undertake political campaigning.
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Partners may be an individual or a company and different rules apply in relation to their
position. In simple terms, these are as follows:
Where the partner is an individual, he/she will be self employed for tax purposes and
must pay income tax on his/her share of the partnership profits. S/he must complete
documents relating to the partnership as well as his/her own self employed tax return.
Where the partner is a company, its partnership profits must be included in the
accounts of the company itself and, as such, will be liable to corporation tax.
Profit and Loss Account (now known as the Statement of Comprehensive Income)
The period reported on in the accounts is called the "Accounting Period" or "Financial Year".
Among other uses, the accounts are used by HMRC to work out tax due.
Activity 4
Complete the following table on the advantages and disadvantages for businesses of the
different legal entities.
Type of
Organisation
Advantages
Disadvantages
Sole Trader
Partnership
Limited
Partnership
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Type of
Organisation
Advantages
Private Limited
Company
Public Limited
Company
Company Limited
by Guarantee
Charitable Status
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Disadvantages
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Factors of Production
Traditionally, there are three accepted factors of production land, labour and capital. More
recently, it has been proposed that a fourth should be added entrepreneurship. This is
considered a vital addition in a business world that is becoming increasingly competitive.
Land
Land as a factor of production can be interpreted in two ways:
The space occupied to carry out any production process, such as the land
needed for a factory or office, or to grow crops
The basic resources within the land, sea or air which can be extracted for
productive use, such as metal ores, coal and oil.
Labour
Labour refers to any mental or physical effort used in a production process. Some
economists see labour as the ultimate production factor since nothing happens without
the intervention of labour. Even the most advanced computer can only provide outputs
as a result of some human involvement.
Capital
This term is also used in several senses. There are two main categories:
Real capital consists of the tools, equipment and the human skills employed in
production, which can be either:
Financial capital, which is the fund of money which is usually needed to acquire
and develop real capital, physical or human.
All of the production factors are closely related with most production requiring some
combination of all the factors. Only labour can function purely on its own, if the need for
space is ignored for example, an unaccompanied singer or singers. However, the addition
of a musical instrument and some training usually provides a better product, and resources
and labour are needed to make the instrument and financial capital to make it.
The majority of economic history evolves from people's success in increasing the quantity
and quality of production through the accumulation of human capital and the development of
technically advanced physical capital.
Modern firms depend for their survival and success on both their physical and their human
resources. Human resources are scarce and talent is at least of equal value to the
successful firm as the physical resources it needs to manufacture its products, even when it
has adequate capital available.
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Scarcity of Resources
At any period of time, there will only be a limited quantity of the production factors available
to businesses. For example:
Hence, an economy would only be able to produce a limited output with all resources it has
available. In order to progress, it must find ways to increase its resources.
By the population of the country increasing, through either an increase in the birth
rate, which is a normal trend in some countries, but in others, such as UK, the
birth rate has been falling over a number of decades, or by the immigration of
people of working age from other countries.
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is often the case that innovating is easier for a smaller firm where there is less structure in
the way operations are carried out and where it takes less time to influence others to invest
in an idea and an oft-cited example to support this is that some of the most important
inventions have been declined by large companies (for example, Xerox declined the personal
computer).
Nevertheless, this identification of enterprise in terms of individual risk-taking raises a great
many problems when we attempt to apply it in a general way to the modern business
environment. Much contemporary business activity is controlled by very large international
and multinational companies such as Microsoft, Toyota, Sony, Philips and Unilever who are
constantly challenged to continue to recruit and foster enterprise. This can be seen
effectively as developing the skill levels of the existing labour supply and, indeed, most
universities now run MBA courses and modules in entrepreneurship in an effort to supply
"ideas" people to existing organisations. The notion that large companies do not innovate is
also contradicted by the fact that the personal computer was taken up and developed by
IBM.
OUTPUTS
Land
Labour
Capital
Entrepreneurship
Tangibles products
Intangibles services
The output could be a combination of all four inputs above. For example, a fashion designer
producing a new dress or suit, will need resources such as material, labour (to cut, sew,
check and pack), real capital in the form of machinery (to sew and pack the item) plus
financial capital (money) to buy the physical and human resources. The combination of the
risk the designer takes in terms of innovating, using sales skills and being intuitive as to what
will appeal to a potential customer are all a part of entrepreneurship.
The outputs are the tangible dress or suit and the intangibles are aspects such as the quality
of the product and the status or confidence the customer receives from the dress or suit.
The nature of the transformation process will differ from one business to another and firms
are constantly competing to add value to retain competitive advantage, improve profit level
and/or combine the inputs in a way that will reduce costs. Cost reductions are achieved by
producing more with the same level of scarce resources, or by producing the same amount
(or more) with lower levels of inputs. This can involve changes in the way in which the
factors of production are applied for example, through new working practices, investing in
new technology, motivating staff or modifying the way goods and services are produced.
Classifying Production
Production is usually classified into three types:
Primary the extraction of natural raw materials from land, sea or air, including
agriculture and fishing
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Secondary the conversion of primary materials into more useful physical forms
through construction and manufacturing, for example, taking copper extracted from the
earth and making copper tubing, or refining oil into various useful liquids such
petroleum and diesel. It also includes the production of further products from the
outputs of other secondary production, such as the manufacture of cars from steel,
plastics and rubber.
Note that an individual business may span all the different sectors. For example, a farmer
could grow fruit, manufacture jam and then sell it in his/her farm shop and so be involved in
primary, secondary and tertiary production.
The proportion of employment in each of these sectors is often an indication of the stage of a
country's development and/or available resources. Generally, advances in development are
associated with a move from, firstly, predominantly primary production to secondary
manufacturing, and then into tertiary service-based economies. For example, compare the
following proportions for the UK and Ghana.
Figure 1.1: Employment by Sector (UK and Ghana)
UK
Ghana
Primary
Secondary
Tertiary
Activity 5
Find out the proportion of total employment in each of these sectors in your country.
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10.52
10.51/2
10.51/9
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Activity 6
You are thinking about setting up a business to provide web design, hosting and search
engine optimisation. You have approached a number of friends who are interested in joining
you in the business. As a group of five people, you have 20,000 that you could invest to
start the business.
(a)
What types of legal business status should you consider and why?
(b)
What factors should you consider when deciding on the main purposes of the business
and why?
(c)
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SUMMARY
Businesses are set up for two main purposes to make profit for their owners, or "not-forprofit" which aim instead to provide services for the benefit of (particular parts of) society.
For-profit businesses can have a variety of key objectives such as sales maximisation or
growth in market share, rather than being solely about profit maximisation.
The legal status of the business defines particular operational rules applying to the business
organisation, including those about the way in which it presents its accounts. There is a
basic distinction between corporate and non-corporate forms of organisation, the former
including private limited companies and public limited companies (plc), and the latter
covering sole traders and partnerships.
A further distinction between business organisations is that of the liability of the owners for
the debts and commitments of the organisation. In limited liability businesses (which
includes all corporate businesses and certain types of partnerships), the owners are
considered to be separate entities from the business itself and are only usually only
responsible for debts and commitments to the extent of the property they originally invested.
Unlimited liability means that the owner does not have a separate legal status from the
business and is responsible for all debts and commitments made.
Businesses may be considered as transformation processes that convert resources into
products and services. The resources required for this process are termed factors of
production and there are generally considered to be three such factors land, labour and
capital. A fourth and more recent addition to factors of production is entrepreneurship; an
ability to visualise the unconscious future need of a customer and to innovate a product or a
modification to a product to satisfy that need and to find ways to sell it successfully.
Production, and businesses, are divided into three economic categories primary (extraction
of natural resources and agriculture), secondary (manufacturing) and tertiary (services).
Production, and businesses, may also be further classified into industry types or sectors
under the standard industry classification (SIC). Such classification enables the
development of comparative data to show trends in production and employment within and
between different types of industry.
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ANSWERS TO ACTIVITIES
Activity 1
The opportunity cost of you studying for this qualification is any other activity you could be
carrying out instead during the same time period such as earning money on a part-time job,
enjoying leisure activities with your friends and helping your family with some of the domestic
tasks. You could also include the financial cost of your studies, in which case the opportunity
cost would be what you may otherwise have spent the money on (or, perhaps the return
possible from investing the same sum).
Activity 4
For this task, you should have been able to think of several aspects not mentioned in the
text. The following is a fairly complete list and many will be covered in later chapters. If you
have identified any additional points, well done.
Type of
Organisation
Advantages
Disadvantages
Sole Trader
Simpler tax
Free to make own decisions
No difficult legal contracts to
start the business
All profits are the owner's
Partnership
Limited
Partnership
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Private Limited
Company
Public Limited
Company
Company Limited
by Guarantee
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Charitable Status
25
Activity 5
(a)
It is likely that you would be a "for-profit" type business unless the group is intending to
offer a "not-for-profit" service to some sector of the community.
The options for legal status would be to form a partnership or a private limited
company.
A legally binding limited partnership agreement would be sensible as one of the original
team might leave the organisation and the others will be left to pay all the commitments
if the business should fail. In that case, though, one person would have to be a general
partner and assume unlimited liability.
You could also consider setting up a private limited company and allotting shares
according to the capital you have invested. The documentation and legal formation can
be relatively straightforward, and as the owners you will all have limited liability.
However, there will more restrictions on the way you operate and a more complex tax
regime to comply with.
In summary there are advantages and disadvantages to each option. As a group you
have to make the choice between being the owners of a company with more freedom
but unlimited liability, or the more complicated operation (with less freedom to act) and
more complicated tax affairs which comes with limited liability.
(b)
The business objective will probably be survival in the first instance, but you would also
want to set some positive goals which will enable you move forward after establishing
the viability of the business in the market. This may be to gain a particular market
share and to maximise sales to start with. Profit maximisation is likely to be an
objective when the business is on a sound footing.
Having one or two main purposes allows you to set your goals or targets accordingly
and work towards them. However, remember not to have too many objectives or you
may lose focus and fail!
(c)
The possible ways that the factors of production may impinge on your business
include:
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Labour You and your colleagues may not be sufficient, on your own, to make
the business a success and you would, then, have to employ additional staff.
More importantly, you and your colleagues may not have all the skills required to
make the business a success. If the missing skills are scarce, then, if you can
find individuals with them, you may have to pay more to acquire their services.
26
Alternatively, you could develop those skills by training one the founders or taking
on an untrained person and developing that person. If the skill is crucial to the
initial success of the business, then it could be a big cost. However, this has to
be balanced against failure without that skill.
Land This should not be an issue as, usually, IT based firms require only small
premises and you could even start operations out of your home or garage!
Capital This is, with labour, is often the most scarce resource. 20,000 may not
go very far in covering start-up costs, so decisions will have to be made about
how the capital you have is spent, keeping some for day-to-day running costs
and unforeseen emergencies. You will have to create forecasts for spending and
income and monitor these carefully so that you do not incur cashflow problems in
the early stages. Technology also changes quickly and it may be that having the
most up-to-date equipment is important and, then, you may need to budget for
changing some of it regularly.
Enterprise Are you entrepreneurs? Who are the ideas people? As a small
organisation, you should be able to make fast decisions and thus get your service
to market quickly. However, you need to consider what will make potential
customers perceive your service as superior to that of your many competitors in
this area.
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Chapter 2
Introduction to the Business Environment
Contents
Page
Introduction
28
A.
28
29
30
31
34
34
37
38
40
41
B.
42
42
43
43
C.
45
46
47
50
51
Summary
54
Answers to Activities
55
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INTRODUCTION
This chapter provides an overview of the manner in which organisations structure
themselves so that they are able carry out their business effectively. We start by looking at
ways the internal environment can be organised. While there are a number of classical ways
of attempting this, we also reflect on less conventional structures that firms have adopted in
an attempt to cope more adequately with the needs of modern business and/or globalisation.
The external environment of the company can have an affect on the way in which the internal
organisation is structured, but its most important influence is on business planning.
Organisations need to continuously monitor and review the external environment for change,
and assess how such change may impact on both the content and implementation of their
business plans. Managing and responding appropriately to changes in the external
environment is a crucial process for survival and prosperity, especially in the fast moving
world of business today, and it is this which we examine in the second half of the chapter.
Change is no longer a step process which must be handled on a periodic basis it is a
continuous process that impacts greatly on success, failure and mediocrity.
Think Point
What issues do you imagine Mr Liu, the founder of Lenovo, encountered when organising his
team to start the business?
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Mr Liu would have had several issues, but perhaps the key ones were:
What role each person would play in the new organisation to maximise their strengths
What skills did they not have and how would they acquire them.
Underlying this, and the first step in creating an organised structure, even in the initial
expansion from one to two people, is the division of work. The first task, therefore, should be
to list the tasks to be performed and decide who has the best skills and experience to
complete each task. The next step is to decide how each person is going to relate to the
others in carrying out their tasks particularly in terms of decision-making and management
authority.
Thus, we can say that all organisations require a system for:
Organising work into functions so that people can specialise and decisions are carried
out efficiently.
Different structures provide these systems and are used to ensure that plans and decisions
are made on the basis of informed knowledge and that decisions are understood and carried
out effectively by all. In every case, good communication is essential.
Forms of Organisation
Many forms of business organisation exist, providing alternative structures for different
purposes. In all cases, whatever the type or size of the organisation, general organisational,
management and leadership will be the same; it is the way in which these principles are
applied that varies. The kinds of questions that will be asked include:
Should all the business functions come under one line of control or should each be
separate?
In time, the solutions to these questions will alter and it will be external factors as well as
internal preferences that will influence the move to new formats. For example, in 2010 Kraft
Foods, one of the largest firms in their sector, was organised into three geographical units:
However, the North American and European operations were then organised by product
category, but the Developing Markets by location.
Structures must allow for change and development, to enable the organisation to respond to
technical innovations, social and environmental developments and, above all, competition.
Thus, Kraft changed its organisational structure for Europe in 2009 to provide centralised
category management:
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"In line with a revision in strategy, the European operations were reorganised to be
based upon a pan-European centralised category management and value chain
model. The European Biscuit, Chocolate, Coffee and Cheese categories were
changed to become fully integrated business units, further strengthening the focus
on these core categories and to ensure that decisions are made faster and closer to
the customers and consumers. Each category is fully accountable for its own financial
operations, including marketing, manufacturing and R & D. Category leadership based
in Zurich, Switzerland, reports to the Kraft Foods Europe President. These business
units now make up the Kraft Foods Europe segment." (Authors emphases)
In small organisations, there is not so much specialisation. In a partnership of three or four
people, for example, one person may be responsible for all the accounts, purchasing and
marketing. The accountant in a small to medium sized business will need to be credit
manager, cost clerk, wages clerk and purchasing controller as well.
Large businesses, though, need a high degree of specialisation to manage all the work.
Communication between specialists then becomes a key issue and is the fundamental
challenge when deciding on the organisational form. There can easily be a loss of cooperation and control in large organisations with highly structured specialist departments,
which can adopt their own business plans and operational priorities. Any structure must
reflect the priorities of the business and be capable of adapting to changes in the
organisation's environment and objectives. We shall return to this later.
Information can often flow freely without time-consuming and frustrating formal
communication networks, but personalities can damage business effectiveness and
personal arguments or divisions can literally ruin a business.
(b)
A strong and effective informal structure can make it extremely difficult for a successful,
family-managed or individual-entrepreneur-dominated company to transform itself into
the kind of professionally managed corporate organisation that the financial institutions
and operating capital markets expect in a large public company.
(c)
When professional managers are brought into an organisation, they can quickly find
themselves in conflict with the informal structure.
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The superstructure, which is how employees are grouped into various departments or
sections.
Line and function are the names given to the two different types of authority that exist in
organisations.
Line Organisation
Traditionally, line relationships have been the most important in shaping the structure of the
organisation. The key elements are:
(a)
There are direct lines of authority, linking superior and lower ranking employee/
subordinate directly.
(b)
There is a chain of command, which means that each subordinate knows from whom
he/she is to take orders.
(c)
At its simplest, line organisation is a direct flow from the top to the bottom of the
organisation.
Board
of
Directors
Senior
Management
Operational planning
Set objectives
Strategic decisions
Middle
Management
Administrative decisions
Junior
Management
Supervisors
Operating decisions
Operatives
Communication flows up and down. Information about plans and decisions is communicated
downwards through the levels of the hierarchy, while information required so that senior
levels of management know how well targets are being met by those at a lower rank, flows
upwards. This upward communication flow will include information on sales, output, stocks,
orders and finance.
Henri Fayol identified the features of the hierarchical line organisation in the early 20th
century. According to Fayol, the two key "principles" of management are:
Unity of effort everyone in the organisation should be working towards achieving the
goals of the organisation.
Unity of command each member of the organisation should have one clear superior
to whom he/she is responsible. The span of control should not be too wide; ideally no
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person should supervise more than five or six subordinates. (We shall consider this in
more detail in the next section.)
Line organisations fall into two categories which reflect key aspects of their structure:
(a)
The number of levels in the hierarchy which then defines its height as either a tall or a
flat structure
(b)
The number of lower ranking employees that each manager or supervisor manages,
making the structure either wide or narrow. This is also known as the span of control.
Tall Structures
Tall structures have many levels, as demonstrated by Figure 2.2.
Figure 2.2: Tall Organisational Structure
Director
Assistant directors
Divisional managers
Section heads
Team leaders
Supervisors/foremen
Junior staff/operatives
Disadvantages
Possible confusion of objectives between
the numerous levels
Possible communication problems both
ways, top to bottom and vice versa
Slow decision making and implementation
Tendency to be bureaucratic, generating an
increasing number of levels
Career progression and promotion can
seem very slow, and those at the bottom
may be discouraged
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Flat Structures
A flat structure has relatively few organisational levels, as shown in Figure 2.3.
Figure 2.3: Flat Organisational Structure
Director
Departmental managers
Team leaders
Operatives
The advantages and disadvantages of flat structures are essentially opposite to those of tall
structures:
Advantages
Good communication
Smaller risk of divergence between the
objectives of one level and another
More flexible and less bureaucratic
Short ladder of promotion
Disadvantages
Some lack of clarity in authority and division of
work
Requires greater flexibility at all levels with
people being prepared to undertake a wider
range of activities. This calls for dedicated and
well-trained employees.
In recent years, there has been a reaction against the hierarchical type of organisation
shown in Figure 2.1. Instead of the "tall" structure shown there, with several layers of
management and supervision, firms have been changing to "flat" organisation structures.
In the 1990s, in many organisations, layers of middle management were cut as responsibility
for decisions and functions was pushed down to the lowest practical level in the business.
The main reasons for this included:
A better educated and trained workforce meant that employees could be given
the opportunity to manage their own work
New technology made it possible for shop floor workers to schedule, control and
maintain their machinery and organise their workload
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Activity 1
In what types of industry might you find either a tall structure or a wide structure? Make a
note of your answer below:
(a)
tall structure:
(b)
wide structure
Span of Control
The span of a manager's or supervisor's control refers to the number of subordinates which
he/she controls. When an organisation decides the span of control for each manager it will
consider the following points:
(a)
(b)
Complex work
Naturally the experience and quality of the manager or supervisor must also be taken into
account the more able the manager, the wider the span of control s/he can operate.
Therefore, the key variables in deciding on the width of the span of control are the nature of
the work, the quality of the subordinates and the quality of the manager or supervisor.
There is often a relationship between the height of the structure and the span of control.
Narrow spans of control are most often associated with tall structures, while wide spans of
control may be associated with flat structures with fewer levels each manager has more
people to control.
Functional Organisation
This is an organisational structure arranged into specialist groups or departments. Most
organisations have at least a degree of functional organisation since it provides for the
grouping of specialist work within one area.
All organisations have similar specialised business functions but the importance of each of
them varies, according to the size and objectives of the firm. Functions include sales and
marketing, finance/accounting, human resource management or personnel, security and
production. A sole trader will have to manage and complete all functions alone. In smaller
firms some of the functions will be merged to form one role.
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(b)
Job design
Record keeping.
Security
Security is essential to safeguard people, premises and materials. Knowledge
management and personal data now forms an essential part of this function although
the IT department is more likely to manage these aspects of security.
(c)
Marketing
Marketing is concerned with ensuring that the products and or services of the business
are purchased by consumers. It is involved in the whole process from research into
new products through to sales. Responsibilities may include:
Producing a strategic marketing plan that aligns with the organisations strategic
plan
Market research
Product management
Public relations
A large company will have a Marketing Director with managers for specified functions.
(d)
Production
The objective of the production department is to provide an agreed quantity of products
in line with the marketing plan. Products have to be of appropriate quality and made at
the right cost.
Quality control is an essential part of production. It is responsible for:
setting standards
checking
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monitoring production
following up sales.
Internationally recognised quality standards such as IS0 9001 series are adopted by
many firms. Quality control is equally vital in service industries. Many retail stores,
banks, hotels and transport firms employ specialist agencies that send out mystery
shopper or inspectors posing as customers to check on the way customers are
actually treated.
(e)
Purchasing
Purchasing is the specification and sourcing of materials and components required for
all the firm's operations. It may form part of the production department or may stand
alone, with separate department sourcing the requirements of all the other
departments.
Purchasing can be a key element within a company, particularly in respect of costs and
the supply of components as they are needed. As a result, many organisations have
strict purchasing systems. For example, in American Express a 50 strong Global Real
Estate & Procurement Services EMEA team is responsible for acquisition of all goods
and services across the organisation and forms an integral part of the business
structure.
Just-In-Time manufacturing is a relatively recent development, involving component
parts being delivered to the factory only as they are required in the production process
and reducing (sometimes to zero) the holding of stock. This reinforces the importance
of purchasing and stock control. Holding too much stock is costly for the organisation
as more effective use of the investment capital could be made in other parts of the
business. If stock control is not well managed, production may be held up resulting in
lost employee hours.
The use of IT based purchasing and inventory as well as the ability to source materials
globally has given purchasing a much more responsible role in assisting companies to
manage costs, remain competitive and therefore improve shareholder return.
The internet has allowed both suppliers and purchasers to gain very detailed
information on the quality and price of goods from different competing firms. This has
made the role of purchasing easier in many ways.
(f)
Obtaining the funds required to run the business. This can be long term capital
raised through share issues, long term borrowing possible by issuing debentures
or short term working capital.
Managing these funds. In large organisations this is the job of the Treasury
Department that will also manage foreign exchange dealings. BP, for example,
has its own foreign exchange dealing room to do business with the banks.
Provision of information to the Board, shareholders and tax authorities. All the
financial accounts required by law and the information for investors and analysts
are its responsibility.
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(g)
37
Internal budgets and financial information must be produced for every department
and section. This may be carried out by Management Accountants who do these
for each department. They will also provide budget control information, usually
on a monthly basis.
Credit management and control are important functions. There may be a large
department in firms that work with huge numbers of customers on a credit basis.
Ensuring that payment is made on time is essential for managing the cash flow
and for maximising interest on income. This function is sometimes outsourced
debtors are handled by factoring companies, who pay the organisation a
guaranteed percentage of the invoice, while deducting an agreed percentage of
the invoice as their fee for collecting the debt.
(h)
Information Technology
Personal computers (PCs) are an essential tool in all modern organisations and can be
either physically or wirelessly networked into systems, linking everyone in an
organisation. In large and small organisations, on all continents, electronic
communication has transformed working practices.
Although some countries still do not have extensive access to computers or the
internet, this situation is rapidly changing as emerging economies that use IT
extensively in business, become committed to introducing the computer to school age
children. For example, in 2008, the Uruguay Government launched a campaign to
provide a laptop for each primary school child.
Many organisations in developed countries possess computers with more processing
power per employee than they need. This has happened as prices have fallen and
firms have purchased the newest models. This has meant that emphasis in some IT
departments has shifted from provision of new machines to securing the data that is
stored on them. This is the challenge that IT departments increasingly face as keeping
confidential data is essential to retaining competitive advantage.
Outsourcing Functions
In the last decade or more, many whole specialist functions or parts of the traditional
functions have been outsourced. The work has been contracted out to other firms who either
have greater expertise in that area and/or can complete the work at lower cost.
The larger the organisation the more interdependent are its parts and the greater the
problems of communication, coordination and control. Outsourcing is perceived as one way
to overcome some of the problems.
Staff Relationships
Line management describes the direct relationship between a manager and his/her
subordinates. "Staff" relationships describes the indirect relationships between different
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functional departments where some interact in an advisory capacity with managers in other
departments. For example:
A personnel assistant who has no direct line management authority may advise or even
require a line manager to take particular actions in respect of some aspect of human
resource management such as performance appraisal or job description for new
recruits.
Similarly, a Finance Controller may offer advice (on request or as one of their
responsibilities) to managers elsewhere, so that she/he can forecast budgets, raise
limits of authority on budgetary expenditure and so on.
Many medium to large companies have an IT department that provides a help desk for
computer issues and manages all aspects of electronic communication and security
within the firm.
Functional authority gives the staff manager the clear right to instruct line managers in other
departments on certain specified activities or procedures, wherever these are being
undertaken in the organisation. For example, the Human Resources Manager may be given
functional authority over redundancies in all departments of the organisation or the
Accounting/Finance Manager may be given authority over budgetary planning and control of
other departments. Within these specified areas the staff expert's authority takes
precedence over that of the line manager, but in all other areas the line manager's authority
is unquestioned.
This type of arrangement explains the dual role of many managers as a line manager within
their own department and a staff manager with specified functional authority in other
departments of the organisation.
Issues with Staff Relationships
Problems may arise when staff department experts try to control the conduct of line
managers in other departments.
Line managers may reject the guidance being offered to them, because they feel that it
is they who will carry the ultimate responsibility for their department's performance.
Many line managers resent the interference of staff experts whom they consider to be
too "theoretical".
Some experts argue that having both line and staff managers, complicates the
structure of authority because it infringes the principle of "unity of command".
The situation is further complicated by the fact that staff managers are also line
managers in their own departments. For example, the manager of an accounting
department exercises line authority over his/her own subordinates and may resent the
intrusion of "advice" from a staff manager from, perhaps, the personnel department
about people management matters.
Functional authority can work well at the higher levels, but problems may arise when lower
ranking employees, such accounts or personnel administrators are sent in to work in other
departments. These assistants may be called upon to report both to their staff managers and
to the line manager of the department in which they are located. This can be very frustrating
and demotivating as often they will receive conflicting instructions and/or guidelines.
Matrix Structures
The matrix structure combines two structural dimensions simultaneously for example,
functional and product divisions, or geographical and divisional. BP used this type of
structure extensively in the 1990s.
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A common form of such organisation is for regional managers and centralised functional
divisions to have a formalised relationship as shown in Figure 2.4.
Figure 2.4: A Matrix Structure
Managing Director
Matrix
heads
Director
Marketing
Director
Finance
Director
R&D
Director
Production
Director
Personnel
Manager
Region A
Manager
Region B
Manager
Region C
Disadvantages
Similar types of structure are often employed for organisations working in a project-based
manner, when the emphasis is on multi-disciplinary teams involved in complex projects.
Project teams or taskforces are important building blocks in many organisations. They may
have relatively few members, drawn from higher or lower levels of specialist departments
depending on the nature and importance of the task being tackled and they are also flexible,
coming into being to tackle a given task and disbanding when the task is finished. This type
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of structure can help build team spirit which lives on, ready for new taskforces to be formed
as needed.
The most common types of such groups are temporary project groups, set up to investigate
and recommend new working strategies or to introduce a new product or service.
(a)
(b)
lack of co-ordination
constant breaking up and reforming of project teams can hinder the accumulation
of knowledge over time.
Mintzberg's Model
The structure of an organisation, then, is the formal pattern or framework of interactions and
co-ordination designed by management to link the tasks of individuals and groups in the
achievement of organisational goals. Mintzberg's work in the area of organisational structure
is useful as it also considers management. Mintzberg, identifies five key elements to an
organisation's structure.
Figure 2.5: Mintzberg's Model of Organisational Structure
(1)
STRATEGIC APEX
(Senior Management)
(4)
TECHNOSTRUCTURE
Quality Control
Maintenance
Work Study
Human Resource
Management
(2)
MIDDLE LINE
(Middle Managers)
(5)
SUPPORT STAFF
Finance Functions
Legal Functions
Administration
Press and Public
Relations
(3)
OPERATING CORE
Sales
Marketing
CUSTOMERS/CLIENTS
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Strategic Apex Senior management takes the ultimate decisions for the
organisation. It establishes the core values which are revealed in the organisations
mission statement.
Middle Line This reflects the authority structure (infrastructure) linking senior
managers to middle managers/supervisors and then to the workers in the operating
core. Information flows both ways along this line.
Operating Core This consists of the people who make the goods and/or perform the
services. In small organisations, this may be most of the organisation.
Technostructure The function of this element is the co-ordination of the work of the
organisation. A key technique for this is Total Quality Management (TQM) where
standardised high quality production is the objective.
Support Staff The function of this element is to provide the indirect services required
by the organisation; the legal, financial, press and publications experts and
professionals.
Flexible organisations can adapt by allowing certain sections to expand, whilst increasing
productivity can bring lower numbers of workers to the operating core. This model
demonstrates the importance of senior, middle and supervisory management.
Firms can do business using only their website as a means of communication with both the
customer and supplier. Financial transactions take place electronically and the website can
contain the database with the information concerning customers and suppliers. Web
analytics provide the data the organisation needs to measure return of marketing investment
and so on.
Similarly, a firm using electronic business methods can operate globally from a small office
and have employees, consultants or freelance associates working anywhere in the world
from their own home base.
There are advantages and disadvantages of the virtual organisation:
Advantages
Lower administration costs.
Fewer and potentially lower employee
costs.
Bringing in specialists as necessary from
anywhere globally.
Instant communication.
Part time and flexible working for
individuals with other responsibilities such
as bringing up young children.
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Disadvantages
Control of employees working hours and
quality of service.
Electronic communication can be subject to
connection issues.
Some parts of the world will be relatively
inaccessible as they have not yet adopted
the technology
42
What are the threats and opportunities from the external environment in the short and
longer term?
(ii)
(iii)
How can we take maximum advantage of the opportunities which may exist?
(iv)
What advantages do we have over our competitors and how do these changes help
us?
(v)
Political
Organisations are influenced by government policies such as those concerning
taxation, political orientations, legislative structures, trade union power and so on.
Firms also attempt to influence government thinking in these and other relevant areas
to their own advantage by lobbying, providing party funds and through their trade or
professional associations, etc.
(b)
Economic
Firms operate in conditions of economic booms and lows (recession). Interest rates
change, tax rates change, the money supply can alter and investment levels go up and
down, as people try to guess likely future market movements, etc.
In the global economy, exchange rates can have an important effect on business
performance and since stock markets throughout the world are linked to one another
electronically, change can happen and be communicated extremely quickly, resulting in
an instantaneous impact on firms.
Energy costs play an increasingly significant part in business activity. The world is
dependent on a few nations for its oil and gas.
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Pricing and pay policies of large organisations can affect the wider economy
particularly as companies compete to recruit and retain scarce talent as well as
maintaining profit levels.
(c)
Social
The culture of an organisation is affected by the culture of the society in which it
operates. Changes in lifestyles affect the market and thus the running of an
organisation, not only employee practices, but the nature of products and services
demanded. Social mobility, demography, family size, etc. can all contribute and have
an effect on the human resources inputs and the market(s) in which an organisation
operates.
(d)
Technological
The level and focus of government and industrial research and development
expenditure has an effect on technological changes in the environment. The nature of
such changes and the speed of technology transfer will have an influence on an
organisation's own technological preferences. Product life cycles appear to get shorter
and shorter, particularly in the electronics industry, and shape change.
Identifying change
An organisation must constantly monitor progress in achieving its objectives and
identify changes in the internal and external environments that may be impacting
positively or negatively on meeting those objectives. It is then in able to adapt in ways
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Change areas
The organisation needs to be aware of the areas in which change is most likely for
example:
Location of employment
Working practices
Technology and globalisation are two key external influences which have enormous
impact on these areas, often beyond what could have been imagined.
Customer power to demand the products and services they require and the companies
they will buy from has also had a great influence. Social networking sites and online
purchasing have given consumers the ability to research the best products and to
quickly advise large numbers of people of the shortcomings of products. These two
factors alone have transformed the nature of competition and impact strongly on
working practices.
(c)
Responses to change
Some organisations are very responsive to change and have the culture and structure
needed to support it. Some are proactive when it comes to change they plan for
change, making contingency arrangements to buffer any changes that may affect them.
Other firms, mechanistic organisations, react to it in a crisis situation, when it is too late
change is not usually related to their corporate strategy.
(d)
(e)
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Time
Which resources
should be retained?
How quickly?
Power and
Influence
Does the leader
have sufficient
power and influence
to implement the
change
management?
Breadth of
Experience
Is there enough
breadth of
experience, views
and opinions to
assist the change
process?
STRATEGIC
CHANGE
PROGRAMMES
Attitude
Capability
Capacity for
Change
What resources do
we have for the
change?
Money? Time?
Middle managers who fear that changes in structure such as moving to a flat or matrix
one will adversely affect them through a reduction in their authority and power.
Employees who fear that change will affect the status quo, separate them from friends
and colleagues with whom they currently work or end in redundancy.
Uncertainty about what the changes involve results in substantial resistance to change
by individuals in an organisation, which can result in, at best, indifference to new
strategies and at worst hostility and defiance.
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The involvement of the HR Manager in planning how to approach change and then to
implement the agreed plan is a crucial factor in a successful outcome. This is
particularly important during a merger or acquisition when two organisations are
combining to form one bigger entity.
(b)
(c)
Communication is the key not everyone can be involved in the change to the same extent,
but everyone does have something to add.
Change should be communicated through as many channels as possible so that everyone
will have the opportunity to understand that change needs to happen. Channels include:
Group meetings
One-to-one sessions
Online questionnaires
Traditional written mechanisms such as memos, circulars and using notice boards.
Warning! Where proposed changes are significant and particularly when they involve
complex issues, the use of memos and notices should be minimised. They are
impersonal and make the employee feel isolated from the change, can cause low
esteem and alienation if their opinions and feelings seem not relevant.
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Feedback should be treated and be seen to be treated, as valuable and important, while the
use of more than one technique is likely to provide a more appropriate set of solutions.
Effective communication is thus crucial to the issue of managing strategic change in
organisations and in particular in trying to minimise or avoid resistance to any such change.
Change Models
Theoretical models can assist organisations in planning change.
(a)
Step 1: Unfreeze
This involves the organisation "unfreezing" existing attitudes and behaviour.
Individuals go through a process of "unlearning" old habits, old perceptions and
old ideas about how change will affect them.
Step 2: Change
This involves a "change" in behaviour. Individuals modify their old ways and
adopt new ways of thinking about change how it should be implemented and
how it can be positive rather than negative.
Step 3: Refreeze
The final stage involves "refreezing" the newly-adopted behaviours and attitudes.
The organisation may need to offer positive reinforcements, such as incentives,
to encourage individuals to accept the changes.
leadership
communication
Effective training can be used to create a major change in the attitude of employees,
which must then be made permanent by creating the necessary structures, procedures
and incentives to support the new culture.
A major task for management is to produce the initiatives necessary to achieve the
unfreezing step. Good communication is the basis for this:
Creating good team spirit through company identification schemes, such as logos
advertising, badges, etc.
This model can be used when individuals are opposing change, or when management
wants to gain acceptance for a change that directly affects employees, such as a
change in working conditions.
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(b)
Time saving
Record
Quality
Production
Skills
Plan
change
systems
to
become
fully
IT-based
Redundancy
Communication
Cost
Global reach
Force field analysis concentrates attention on the identification of the driving forces and
the restraining forces, their strengths and how they can be modified. Lewin suggested
two ways of dealing with change through this form of analysis:
(i)
Strengthen the driving forces by encouraging those associated with the change
and driving it, to educate and convince those who oppose it that it is for the
organisational good.
(ii)
Movement in the desired direction can most readily be achieved by firstly reducing or
removing restraining forces. Increasing driving forces before reducing restraining
forces often increases the restraining forces in reaction. Merely trying to force change
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through may cause its own problems people can be uncooperative if change is forced
on them.
Once restraining forces have been reduced, attention can be given to the driving forces
and to gaining further employee commitment through such actions as:
Showing staff that the new systems would introduce variety and interest to their
jobs and give them skills which make them more valuable to the business and to
employers generally.
The force field model can be used effectively with employees in workshops as
part of the process of aiding understanding of the nature of change. It is
appropriate to all levels of staff and easy to administer.
Each individual or group can be asked to produce two lists the forces for and against
change and to evaluate why the change is needed. Once the analysis has been
carried out, the group can asses whether the project is viable and then examine how to
address the two opposite forces identified. Involvement of employees in this way can
often generate new ideas that enhance the initial plan.
This type of workshop activity should help to break down resistance to change
and is particularly useful in getting staff to understand for themselves that change
is necessary for business survival.
Activity 2
Your company is thinking of sending production to a cheaper country. They will retain all the
other business operations in your location.
(a)
Write a list of all the factors for the change and another list of factors against the
change?
(b)
(c)
How could you increase the number of forces for change and reduce those against
change?
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Only a very specific chemical catalyst will change the rate of a standard chemical
reaction and the catalyst used in one reaction will not work in another. Thus:
Initial substance
Final substance
B (desired outcome)
A (no change)
C (unwanted outcome)
But
Or
You need to ensure that you use the right change agent to achieve the desired
outcome.
Similarly you can alter the rate of a reaction by an increase or decrease in pressure or
temperature i.e. changing the environmental conditions can have an effect as well.
You need, therefore, to ensure that the conditions are right for the change agent to
have the desired effect.
Very often a new CEO and/or senior managers are recruited to effect change, to act as a
catalyst and change the working environment. Companies also seek assistance from outside
agents or consultants who have not absorbed its current culture or values and can offer
alternatives routes for accomplishing the same change.
However, it is not always necessary to recruit new management it may be that an existing
enlightened manager who is able to look beyond traditional approaches can have the same
effect.
Schein describes the role of change agent as follows:
".to help the organisation to solve its own problems by making it aware of organisational
processes, of the consequences of these processes, and of the mechanisms by which they
may be changed. The ultimate concern is for the organisation's capacity to do for itself what
he/she has done for it."
The role of the change agent, then, is not to solve problems, but to be a facilitator, helping
the organisation to discover how to solve them itself. The change agent is there to set in
motion the collection of information and the building of models for the organisation, prior to
indicating where intervention may be of use. The agent is also there to decide which
techniques are the right ones to use in a particular situation and to guide their use.
The change agent is also a powerful intervention tool, acting as a trigger for action. Much of
their influence springs from the way they relate to the organisation. Therefore, they must live
the values they are trying to implant.
Change Agent Programmes
Some companies develop change agent programmes where they bring together a group of
people who are given specific training and tasks to assist the organisation in making the
planned change.
Change agents are leaders who work across the organisation and its business units and are
not limited by the traditional organisational structure. These employees are freed from dayto-day tasks in order to focus solely on leading and driving change. They implement new
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processes, directly or indirectly, train employees on new procedures and act as role models
to demonstrate new and better ways to work.
Change agents might spend most of their time visiting areas undergoing change, auditing
progress, or advising managers on how to improve performance. A change agent
programme requires:
close integration between the change agent team and the organisational areas
targeted for transformation
shareholders
managers
employees
customers
The role of managers, employees and customers was considered earlier. It is not so widely
recognised that shareholders and the community can impose a lot of pressure on an
organisation to change working practices.
(a)
Shareholders
Shareholders have control of strategic resources and can remove or increase the
supply of money to the organisation. They can bring pressure to bear through:
their voting power at Annual General Meetings, both with resolutions supporting
(or otherwise) change and the appointment of directors who will ensure that their
will is put into effect
In these ways they act as a controlling influence on what the business is able to do.
(b)
Community
The members of the wider community have a political role to play. This is clear where
governmental organisations are involved and they can vote for or against particular
policies and proposals on spending, etc. Public pressure can also be a strong factor,
preventing or pushing for change in policies and plans. This can be effective on private
companies as well, particularly where communities feel their environment is
threatened.
Think Point
You should now reflect on the issue of change in the organisation in which you work, or one
in which you have worked recently. Think through the following questions so that you have
some of your own examples of change and the way in which organisations handle it.
(a)
What changes have you witnessed in your organisation in the past two years?
(b)
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(c)
How many of these changes do you feel were a result of what was happening outside
the organisation?
(d)
There are obviously no right or wrong answers to this as it will depend on your particular
circumstances. However, think carefully about where the pressure for change came from.
Where it came from external factors, consider how PEST analysis can help to classify it for
eaxmple, economic factors such as the credit crunch or social factors such as the growing
importance of corporate social responsibility. What changes were proposed in terms of the
internal organisation and what issues arose because of this (for example, the threat of
people losing their jobs), or was the response to the pressure to change made in respect of,
say, adapting existing products to meet new customer needs or by raising prices.
How well the organisation handled the change will again depend on your own perception, but
do you yhink it was successful or not, and why? How was the change was managed
compared to the methods mentioned here, and would some of these have supported a
smooother transition?
Activity 3
Finally in this chapter, we present a short case study of the development of Lenovo, the
Chinese computer company we introduced earlier. Consider the following summary of its
development and then answer the questions that follow.
In 1984, 11 entrepreneurs had a vision to bring the advantages of information
technology to the Chinese people. With approximately US$25,000 to invest and
the determination to turn their research into successful products, this team
opened their business in a rented bungalow. Today it is one of the largest
technology firms in the world.
Its founder, Liu Chuanzhi, was determined and politically shrewd. Mr. Liu and his
colleagues had no experience of running a private company, no idea about
modern computers and a formal education that had been cut short by the Cultural
Revolution. As they built Lenovo, they had to teach not just themselves, but a
generation of Chinese bureaucrats how to run and regulate a private corporation.
Much of the credit for Lenovo's success is given to Mr. Liu, who pushed
boundaries while staying just the right side of the ideological line. The solutions
found to the various problems of the company's development changed the way
China does business.
Mr. Liu launched incentive schemes and share options to motivate Lenovo's staff,
handing out suitcases of cash (and risking imprisonment to avoid the
government's 300% tax on bonus payments). He applied pressure for employees
to own their own homes, a revolutionary initiative in 1992. Lenovo was the first
Chinese company to create advertisements that did more than just name a
product and its price, so introducing brand building to China. Though urged to
develop a Chinese chip and fight Western competitors on quality, Mr. Liu
resisted. Seeing that Chinese science lagged behind, he focused instead on
cutting prices and copying Western technology and sales methods.
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Questions
(a)
List Lenovos internal strengths and weaknesses when it started its business in 1984?
(b)
How did the external environment impact on the decisions the company had to make
about the way it ran and expanded the business?
(c)
What were the biggest challenges for Mr Wu in changing the Chinese business model?
(d)
What lessons about managing change can be drawn from this case study?
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SUMMARY
In order to survive and prosper, organisations must be aware of the need to effectively
organise their internal resources to maximise performance.
The internal structure chosen will depend on the organisation's purpose, size and owner
preferences. All organisations will develop structures based to some degree on functional
specialisation, but alternative groupings are possible based on geographical location or
types of production or service. Matrix and project structures both involve different levels of
employees from diverse functional groups coming together for a specific purpose.
Structures may be tall or flat. A tall structure has many hierarchical levels and is found most
often in large scale organisations, including many in the public sector. Communication is
likely to be poor and decision making is slow. A flat structure has fewer layers so
communication will be better and decision making faster. However a manager will have
more subordinates to manage that is, a wider span of control.
There is a basic distinction between line and staff relationships.
Staff relationships refer to the exercise of management authority or advice from outside
of the line management. This is usually where authority stems from specialist
professional knowledge or skills.
The external environment also influences the way in which the business is run, but is harder
to control as it comprises forces that the organisation can only usually minimise by adopting
appropriate practices. These forces are political, economic, social and technological. They
will vary at different time periods and their nature will often depend on location. The impact
of these forces requires organisations to change if they wish to have continued success.
Change is a continuous process for business today. However, there is often significant
resistance to change for reasons such as:
Uncertainly
Poor communication
Actively involve employees in planning the change by instigating activities that will help
them to:
(i)
(ii)
(iii)
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ANSWERS TO ACTIVITIES
Activity 1
(a)
Tall structures are traditionally found in large organisations, particularly those where
there are strong bureaucracies such as government establishments and possibly
former government firms that have been privatised, for instance telephone and rail
companies. However, this is becoming less common now.
(b)
Flat structures are most often associated with small companies, particularly those in the
creative industries such as advertising and design, and with IT companies.
Activity 2
(a)
Examples of the factors for and against the change might include the following:
For:
Against:
Quality
The answer will depend on the list you generate. In the above list, there are more
negatives that positives and some negatives seem particularly important such as risk
and quality. However, it may be that high quality is not so important and the country is
fairly low risk.
(c)
The company could instigate a joint venture or licensing agreement with a company in
the cheaper country, which would reduce both sets of risk and possibly communication
and control problems. The company could also put in a quality control system that
could monitor the quality of products from the home country. Either of these initiatives
would reduce the negatives.
Activity 3
(a)
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We can see from the case study that three of the four PEST factors were in evidence:
The political environment, with a high level of State control, was not supportive of
such a development. This meant that political risk was high.
Economic factors linked with this, limiting the way in which employees could be
rewarded through bonuses.
Technology in China was limited and advances were not appreciated by the
State.
(c)
Mr Liu had to find ways around the problems involving introducing capitalist schemes
such as share incentives and cash bonuses which were, at the time, illegal.
(d)
We can see the practical application of both Lewins Force Field or Scheins models in
the way in which Mr Liu addressed the problems. He had to unfreeze the existing ways
of operating and did this by finding methods which reduced the negative forces holding
back the development of his company and promoted the greater commitment and
flexibility needed to fuel change.
We can also see how a change agent, in this case a single person, can be effective in
even the most difficult environmental situation.
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Chapter 3
Strategic Choices
Contents
Page
Introduction
58
A.
58
B.
59
60
C.
64
66
68
69
70
71
75
78
D.
Organisational Growth
Advantages and Disadvantages of Small and Large Businesses
Growing the Business
Financing Growth
80
80
83
84
Summary
88
Answers to Activities
89
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Strategic Choices
INTRODUCTION
This chapter is concerned with the decisions organisations make and how these change
during the firms life cycle.
When an organisation starts in business it will usually have values that it wishes to operate
by and these will very much influence its strategic choices. The values will not be the same
for every organisation and neither will its goals. We examine profit and not-for-profit
organisations to establish what the difference in their values and hence their strategic
choices may be.
We look at the influence of internal factors the strengths, weaknesses, competences and
capabilities and how these affect what an organisation does and how it operates. The
external environment will also affect the firms choices and in many ways, these will be out of
its control. We examine the opportunities provided by the external environment as well as
the threats to its continued survival.
Not many companies will be able to ignore competitors and what they are doing. Examining
the competition, to assess how to reach organisational goals, is a vital step to take in the
strategic plan and helps to enhance business performance. Michael Porter is the leading
guru in this area, but we also look at the merits of benchmarking as a strategy.
As small firms become more successful they make the choice of whether to grow bigger or
remain as a small business. There are pros and cons to both alternatives and if growth is the
chosen route, the firm needs to determine how best to structure and finance it. At the end of
the chapter, we evaluate growth options and the financing methods which underpin them.
Maturity
Slow growth
Decline
Growth
Development
Time
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This life cycle represents the progress of the company slow development with low market
share, followed by rapid growth, then growth slows as the organisation matures and
eventually declines.
We can illustrate this process by considering the case of Xerox.
Xeroxs history from 1947 - 1980 demonstrates the phases of the industry life cycle well. It
was originally formed in 1908 and produced photographic paper, but it was not until it
became the market leader in plain paper copying in 1960s that is growth became
outstanding. It reached the mature state probably in early 1970s. In 1977 its patents ran out
and competition became fierce so that by the 1980s its market share had declined
significantly.
However, some large companies which have moved into decline, have managed to regain
their industry position, at least in part, after some years. This was the case with Xerox which
revived its fortunes by becoming The Document Company in the 1990s and later adapted its
model to become an outsourcing business. In early 2000, the company went into
administration in the US and was in danger of bankruptcy. Once again it managed to
reinvent itself into what is again a thriving company.
At each stage in its life cycle, a company will make different choices about how it drives its
business forward, as we can again illustrate with Xerox:
In the early development stage, a new company will be innovative and seek to
differentiate itself from the competition in its market sector. In this stage, Xerox
developed its patents which gave it a competitive advantage and allowed it to start its
growth.
During its growth it was able to demand its own price as competitors were unable
compete owing to patent protection (high barrier to entry) and customers were forced to
pay the high price demanded. It thus underwent massive growth in the 1960s and
early 1970s, and by the late 1970s it was in the mature stage.
However, with its patents running out, competition entered the market. Barriers to entry
fell significantly, prices reduced and competitors were now able to produce plain paper
copiers with superior features. Xerox did not foresee this change in the environment in
time and it passed its decline stage without realising it was happening.
A new set of strategic choices was required, as its purpose turned to finding a way to
survive in a different market environment.
Its purpose
Strategic management is concerned with deciding on the organisations long term goal and
making choices about how to achieve that goal within the parameters in which it is working
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Strategic Choices
that is, deciding what strategy to pursue. Each firm will have a different set of parameters as
the factors listed above will all vary considerably in every case. So, for example, as we
discussed in Chapter 1, the business aims could be maximising:
profit
market share
revenue share
product development
growth
Vision Statement
Values
Objectives
Implementation
Monitoring/Control/Review
(a)
The vision statement sets down what the organisation's aspirations are in other
words, what it wants to achieve in the foreseeable future.
The values are the principles the company and its employees must work within,
as it attempts to achieve its vision.
These tend to be fixed for a number of years before the organisation may want to
reconsider them in the light of the parameters within which it is now operating.
Most organisations will spend some time formalising their mission, vision and values
and will often write them out as documented statements for all their stakeholders to
see. However, some organisations find these difficult to express and it is only by their
actions that we can try to establish the purpose, aims and values.
We can illustrate these key elements in the strategic planning process by considering
three examples:
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Xerox
Mission and vision statement:
"Through the world's leading technology and services in business process and
document management, we're at the heart of enterprises small to large, giving our
clients the freedom to focus on what matters most: their real business."
Core values:
"One thing that never changes is our core values:
Think Point
What differences do you notice in the mission, vision and values of these three
organisations?
Xerox has a "for profit" type of mission and vision, focused on revenue generation and
business to business activity. It publishes these statements given on its website and,
from these, you could relatively easily evaluate Xeroxs business actions and determine
whether it meets its own written standards.
Lambeth NHS does not state what its core values are in its strategy document, but
relies on a generalised "doing good" approach. Do you notice the differences in
emphasis of this public sector organisation compared with a large private sector
corporation? It is often more difficult for not-for-profit to make precise statements since
they serve a variety of stakeholders.
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Strategic Choices
Google gives little information except that it appears to have a more philanthropic
mission than the standard for profit firm. Its mission is published on the investor area
of its website, but there is no vision statement or list of values. It states values
occasionally in other text (where one of these is "teamwork"), but does not make a
conventional statement.
For profit organisations' missions and visions are likely to be based on shareholder
value or revenue generation, although some commercial companies in Asia Pacific, for
example, have purposes which are nearer to that of not-for-profit organisations in the
West such as the NHS.
Activity 1
Find out what the mission, vision and core values of your own organisation are (or those of
an organisation you have worked for or studied with)? Are they stated explicitly in documents
and, if so, how widely available are they? Are the organisation's stakeholders aware of
them?
What are the main differences between the mission, vision and core values of your
organisation and those of Xerox and of Lambeth NHS? Can you explain why they should be
different?
(b)
Setting Objectives
Following on from the establishment of the mission, vision and values for the
organisation, the next stage is to set objectives. These are very specific statements of
what the organisation wants to achieve in a stated period of time, in order to realise its
mission and in accordance with its vision and values.
Objectives mean very little if they are not SMART objectives:
Specific stating exactly what is to be accomplished
Measurable how progress will be quantified
Achievable realistic, it is possible to achieve the goal
Results orientated it is focused toward getting the result stated
Time bound within what time scale.
Activity 2
A company might state that it wishes to improve sales of product X by 10% by the end of the
quarter.
Is this a SMART objective?
See the suggested answer at the end of this chapter.
When a company is planning its objectives it cannot do this in isolation. It must take
into account a number of factors such as:
its weaknesses
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competitors.
63
We will examine these factors in more detail in the next section of this chapter.
In setting objectives, there are two important aspects to consider:
(i)
(ii)
(c)
(d)
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Strategic Choices
Budgets
Quality control
Balanced scorecard
Customer feedback
Employee feedback.
Monitoring systems are vital to the achievement of goals. The organisation needs to
measure progress and either address problems in implementation which are preventing
the achievement, or amend the objectives themselves if the set goals do not appear to
be feasible and/or to take advantages of new opportunities to exceed the stated
outcomes.
However, before the firm can get to this stage, it needs to carry out an analysis of its
environment to enable it to set appropriate, SMART objectives.
SWOT Analysis
Competitor Analysis
Benchmarking.
Note that many organisations, particularly smaller ones, do not always do these consciously
or in a formal manner, but carry out certain parts of the process in an informal way.
In this section we will look at each of these techniques in turn. One or more of these usually
forms the basis of the choices made by organisations.
We shall start by visualising the organisation as being at the centre of a layered structure
such as an onion, as shown in Figure 3.2.
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Macro-environment:
broad environmental factors
Competitor
competences and activities
The
Organisation
The individual firm is a very small part of a much larger sphere of influence which impacts on
the way it manages its internal resources and reacts to changes that occur in that external
environment. In many cases the organisation has little control over its environment but must
adapt and make choices about how to adapt so that it can survive and prosper, as discussed
in Chapter 2.
The environment may be divided into the internal and external environments, and different
types of types are appropriate to each. Here we shall examine the following:
SWOT analysis
Gap analysis
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Strategic Choices
SWOT analysis (again! we shall consider the differences between internal and
external SWOT below)
Benchmarking
Weakness
Hard working
Generous
Impatient
Analytical
Suspicious
Innovative
Good communicator
Ambitious
Sometimes our strengths can also be weaknesses and vice versa. A person who is
ambitious may not be patient with those who are happy with their life or job and so find it
difficult to build relationships with colleagues at work who do not share their attitude to life. A
suspicious person also may find it difficult to trust others but in some circumstances, this can
be a strength, such as when negotiating for a new apartment with someone you do not know.
A similar situation arises in companies. Imagine a company ABC with a list of strengths and
weaknesses compiled by its managers:
Strength
Weakness
Cash rich
Technology poor
Innovative
Credit control
Sales skills
Union strength
Loyal employees
Cautious in expansion
Customer service
Knowledge management
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While this company values "cash rich" as a strength, if the company was a plc this would be
seen as a weakness by financial experts since the cash could be working to improve the
companys performance. Poor credit control may also link with being cash rich and
demonstrates poor use of financial resources.
However, in times of economic downturn, having cash reserves can be vital to the survival of
the company. A cash rich company can be independent and its managers can innovate
without having to answer to shareholders or financial institutions. The Armani business, for
example, is cash rich and run without external loans, allowing Giorgio Armani to make the
business decisions he chooses without pressure from outside. Many Asia Pacific companies
are family run and independent of banks or other lending institutions and operate with a
similar philosophy.
Loyal employees can be a great strength, but they may also be unwilling to change and this
might account for technology being poor. So, is the company innovative or just thinks it is?
Will it lose its market leadership through the weaknesses?
The power and influence of trade unions varies from one organisation to another and from
one country to another. In the UK the role of unions has changed considerably in the past 30
years. Legislation has weakened their power to negotiate national wage rates and to strike.
However, many unions have become involved in assisting with employee development and
working with companies more closely, on health and safety issues for example. Unions also
offer their members access to legal services for issues inside and outside the workplace,
such as personal injuries like deafness from machine noise and road accidents. Hence trade
union presence may add a strength to the organisation rather than be perceived as a
weakness. On the other hand, in some countries, unions are more powerful, particularly
where employee working conditions are poor, and their power can be perceived as being a
weakness in terms of potential threat to the organisations business performance.
The level of technological competence and capability is an increasingly necessary strength
within the majority of organisations. It is not only important in production, but in sales and
marketing, value chain and general communication. The internal technological competence
that is a strength today can quickly transform into a weakness.
Thus, in carrying out the internal analysis, the group responsible for doing so must look at the
list they produce objectively some weaknesses can also be strengths and vice versa.
If the organisation is to produce an analysis of its internal environment that will help it to
plan for the future, being objective is crucial.
Organisations must seek to build on their strengths and reduce weaknesses to improve
future performance.
Marketing
Customer service
Financial capability
Talent management
Innovation.
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In the Italian fashion industry, for example, design and marketing are two of its core
competences.
The sustainability of these competences must be monitored if the company is to continue to
thrive they may need to be updated. For example:
Organisations are constantly seeking to improve the value chain by cutting costs,
reducing the time between manufacture and delivery to the customer and so on.
GAP Analysis
At its simplest, this planning activity is a case of establishing where the organisation is now
and where it would like to be in the future and examining how to close the gap. For example,
if an organisation manufactures 5,000 units and makes a profit of 50,000, what must it do to
manufacture the same number of units and make a profit of 55,000.
The gap is 5000 profit. How could the present operation be changed to meet this goal and
what is realistic? There are many alternatives to examine to close the gap for example:
Cut costs
Increase prices
Reduce waste
The technique can be used in any area of the business to improve on the present situation.
It just needs the identification of the key gaps which are holding back the achievement of
objectives. Examples are:
In HR assessing employee skills now and those that will be needed in the future.
Activity 3
Imagine you want to start a business now offering web design to small companies and make
a profit of 6,000 by the end of your first year.
Make a list of what skills and physical resources you are likely to require.
What might be your strengths and weaknesses in terms of reaching this goal?
What activities and resources will you need to employ to allow you to reach your goal?
See the suggested answer at the end of this chapter.
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Company infrastructure
Human resource management
Technology development
Procurement
Primary activities
Margin
(a)
Inbound
logistics
Operations
Outbound
logistics
Marketing
& Sales
Service
Primary Activities
These are:
Operators which turn these inputs into the final product or service
Marketing and sales which make consumers aware of the products or services
available
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(b)
Secondary Activities
These provide the infrastructure that enables the primary activities to take place and
are:
Few organisations will be able to complete all the value chain functions in house and
may be part of a larger value network.
In deciding how this will work most effectively, the firm must assess in which parts of
the value chain it has most expertise and then find other organisations to work with it to
set up an efficient and effective network.
Firms may outsource certain activities because it is cheaper to do so or the external
organisation has greater expertise.
Organisations often ultimately acquire companies that are originally part of their value
network in an attempt to improve the value chain. For example, Coca Cola acquired
bottling operations in North America in 2010, in an attempt to maintain its leadership
position in response to Pepsicos acquisition of its bottlers earlier. The value chain is
now considered one of the most important sources of competitive advantage.
Threats
Integration issues.
Again some opportunities also pose threats. Acquiring a supplier may well increase the
efficiency in the value chain and reduce costs, but not if the newly acquired firms employees
cannot adapt to the organisations working practices and/or culture.
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Political Factors
This refers to the role of governments and affects all organisations to a certain extent.
Some governments work with a free market policy in which private companies can
thrive while others are under state control. The latter are called planned or command
economies which are state owned and controlled. There are now far fewer global
command economies than in the past, and even China has evolved from being purely
state owned towards a proportion of free market economy in the past two decades.
Since the early 1980s the UK has privatised many former state owned industries such
as electricity, gas, water and railways. However, while this has created more
competition in these fields, there has also been an increase in regulation.
Central and local government that are state owned and are large employers. Any
changes in their policies can have a significant effect on private business. Since the
Government is also a customer of the private firm, shrinking that sector has an impact
on the level of private business operation.
On a national basis, pressure groups exist to influence government and politicians;
their activities can also have a major impact on industries and individual firms.
Government departments frequently consult pressure groups about new regulations
and legislation.
Government policy also has substantial implications for companies wishing to globalise
their operations. Some will insist on very specific conditions for an overseas firm to
operate in their country.
Very often the organisation is faced with increased costs, to comply with new
regulations. For example, in recent years the UK, as a member of the European
Union, has been forced to apply EU Law to working hours and other employment terms
and conditions.
(b)
Economic Factors
Economic factors include exchange rates, economic cycles and different growth rates
around the world. Organisations have to be prepared for the risk of exchange rate
changes which, if their currency weakens, makes importing supplies very expensive
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but makes exporting the goods or services offered more attractive to the countries
affected.
(c)
Socio-cultural Factors
These influences concern different cultural and demographic factors.
(d)
Is the population ageing and how does this impact on the sales of the firms
product or service in that country?
Older age groups generally have the most disposable income. How can the firm
adjust its product or service to maximise revenue from this sector?
How will the demographic change affect employee recruitment? More women
have entered the workforce than in the past and demand for part time jobs has
risen. This has also meant less time being spent on domestic tasks such as
cooking and opened up opportunities for companies to provide larger ranges of
ready-made meals.
Technology Factors
This is a rapidly changing factor that influences the organisation in a number of ways:
(e)
Communication is faster
Monitor and control of quality of all aspects of the business can be more effective
Technical skills may be needed in the workforce which are not currently available
Virtual working is now normal practice for large numbers of employees and
entrepreneurs.
Legal Factors
This refers to regulation which can be national or regional. An example is recent
Corporate Governance Regulations which governments have applied to organisations
wishing to float shares on the stock exchange.
Health and safety legislation and employment law have been developed in all EU
countries in the last 50 years, and are being continuously extended by the Parliament
in Belgium, resulting in sometimes quite drastic changes in operational costs.
Restrictions on mergers and acquisitions, to prevent the growth of monopolies, and
hence the national and international power of individual large firms, operate in many
developed countries, including the UK and USA.
Governments are increasingly collaborating to produce legislation to reduce global
emissions and regulate financial transactions and reporting.
(f)
Environmental Factors
The earth has finite resources which are rapidly diminishing. Organisations are under
a lot of pressure from consumers and governments to conserve resources such as
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water, energy and raw materials. In addition, the manufacturing process can cause the
emission of harmful substances into the air, rivers and rubbish dumps.
Many large and small organisations have green corporate policies which state their
specific commitment to effective use of resources and responsibility in their interaction
with the environment. Such policies can have the effect of making their products more
attractive to some consumers, acting effectively as a strategic marketing tactic. In
many cases, these policies also allow the organisation to reduce costs, for example, by
recycling waste or pursuing research to reduce the proportion of raw materials required
to produce a product.
(g)
Ethical Factors
These concerns have always been present internally and externally for example:
Nations and regions of the world have different ethical principles, some of which are
based on their cultures.
Organisations planning their business strategy may have to take into account cultural
ethical differences, but may also have a policy which states what they stand for and so,
ethically, the types of business practice they will not engage in.
Large multinationals such as Coca Cola have published Corporate Governance and
Ethics Policies that their employees and suppliers must adhere to.
We now present an outline STEEPLE analysis for you to consider the range of factors
covered.
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Economic
Social
Environmental
Technological
Ethical
Legal
Restrictions on mergers/acquisitions
Activity 4
Think about the car industry and make a list of the STEEPLE factors that might affect the
strategic choices of a car manufacturer. What changes might you see in that list in 10 years
time?
See the suggested answer at the end of this chapter.
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(ii)
(iii)
Threat of substitutes
(iv)
(v)
Suppliers
Potential Entrants
Industry
Competitors
Rivalry between
existing firms
Buyers
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(a)
The cost of switching to another company is low i.e. it does not cost the buyer
to change its process or machinery
The buyer could produce the product or service themselves and result in closure
of the supplier
There are many other suppliers in the same business so finding alternative
suppliers is easy. If the purchase has specific qualities, then the buyer will be
less powerful.
Large organisations who buy products, services or components from a firm also have
the buying power to force down the price they pay, reducing the supplier organisations
profits.
(b)
There are few suppliers in the market in which case, you will be forced to pay a
higher price than if there was a wide choice of suppliers for a component or
service since there is little ability to switch suppliers
Looking back at our Xerox example earlier, prior to 1977 the company had immense
power as a supplier there were no other suppliers of plain paper copiers in the
market, alternatives (coated paper copiers) were both expensive and copies were of
low quality. Once the patent ran out, Xeroxs power as a supplier dwindled as there
were a lot of suppliers available. The power of buyers became stronger.
(c)
Threat of Substitutes
If the firm produces a product or service that is unique and/or makes large profits, there
will be a huge threat from new entrants, attracted by profit margins, offering substitute
products.
The business needs to be aware of:
The ease and extent of cost for a customer to switch to a substitute product
The threat from competitors bringing out a more advanced or technically superior
product
Xeroxs business came under immense threat from substitutes in 1977 because:
Most of its machines were rented, so the cost of switching was low
The pricing was cheaper so that the new suppliers could gain quick entry to the
plain paper copier market.
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77
Any one company trying to set up a plain paper copier company prior to 1977 would
have experienced impossible barriers to entry. Apart from having the patent, the brand
identity is so immense that Xeroxing is still the term used by many when discussing
taking a photocopy.
(e)
There are many competitors of similar size operating in the same market
Products or services are similar then buyers can easily and cheaply switch
suppliers for example, supermarket rivals
There is low growth in a market and price competition is strong, this results in low
profits and companies leaving the market
The business has high fixed costs it will need to keep volumes high to make a
reasonable amount of profit and may therefore cut prices to make volume sales
Barriers to exit are high, companies will try to survive in a downturn by cutting
costs owing to excess capacity in the market.
The type of industry it should target or leave when making its strategic choices.
(b)
(c)
The industries where the five forces tend to work for them.
How the organisation can raise barriers to entry to prevent others gaining their market
share through:
How badly its competitors are affected by the changes in the industry structure.
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Cost leadership
Differentiation
Niche/Focus.
A business which followed none of these strategies would become "stuck in the middle".
Figure 3.5: Porter's Generic Strategy Model
Differentiation
Cost Leadership
(a)
Stuck
With No
Clear
Strategy
Focus
(b)
Strategy 2: Differentiation
This strategy involves offering some unique selling (or service) proposition (USP) that
the competition do not have. Prices may not be too important to buyers of products
sold under this strategy and it often follows that customers become brand or product
loyal.
(c)
Strategy 3: Focus/Niche
The company aims at very select market sectors and will be charging higher prices or
offer special USPs. The company can concentrate on its key products for specific
targets, acquire a reputation for being "specialist", or can simply attack sectors of the
market which are being ignored by the competition.
Porter's strategy model allows a company to decide which overall "type" of marketing they
want to adopt. If the firm is powerful and rich in resources they may well choose to follow a
Cost Leadership or Differentiated strategy. Smaller firms may be forced to adopt a Niche
strategy because their product offering has a very specific market.
Benchmarking
There are several approaches to benchmarking that allow strategic planners to make choices
about their future actions.
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Historical benchmarking
This is reflecting on performance in previous years to identify any changes that need
making. The issue with this technique is that it is subjective and may leave an
organisation feeling complacent. It is not actively looking externally to judge what
changes competitors may be taking or how the external environment could impact on
the organisation in the future.
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Xeroxs benchmarking model is now taught in business schools and regularly used by
companies when making strategic choices.
The impact of benchmarking, as it was with Xerox, is often to change behaviours.
However, there are some potential negatives such as:
It may not be used to ascertain why the process benchmarked works so well if it does
not compare competences between organisations. For what reason is distribution
better in company X than company Y? What are the underlying competences of
employees in both firms?
It may change focus in an unintended manner. School league tables in UK were meant
to provide benchmarking comparisons between teaching quality, but have led to a
narrow focus on the questions that will be asked rather than improving thinking skills
and application of knowledge.
D. ORGANISATIONAL GROWTH
Most firms begin as small organisations and if successful, can grow into multinationals.
Hotel Chocolat began with two people making mints and has grown into a multimillion
business.
Case Study 2: Hotel Chocolat
Hotel Chocolat was founded by Angus Thirlwell and Peter Harris in 1993. Angus had
speciality food retailing in his genes. He had spent his childhood in the Caribbean
where he developed a love for cocoa and the region. A further influence on his taste
for real food was the two years spent living and working in France. In 1987 his first big
idea was the production of corporate mints.
He and Peter Harris each contributed 5,000 and started the Mint Marketing Company
from home. Most of their time was spent in Cambridge library with scissors and glue,
using the library's colour photocopier to print logos off companies' literature, which
were then shrunk and wrapped around packs of mints. A company in Holland was
employed to make the mints.
By 1990, the Mint Marketing Company had hit 1m in annual sales and had landed
contracts with British Airways and various hotels.
In this section we examine the advantages and disadvantages of large and small businesses,
and look at the methods by which businesses grow.
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(a)
There are 4.8 million small businesses in the UK (up from 4 million in 2003) of
which 3.6 million businesses are sole proprietors and 444,000 are partnerships
(Small businesses are defined as those with 10-50 employees)
Small and medium-sized firms employ more than 59.8 per cent of the private
sector workforce
Staying Small
Advantages of small companies
Less bureaucracy.
Competition may be too strong for example, production costs are likely to be
higher than in a larger business where economies of scale can result is offering
similar lower priced goods
Customers may have less trust in a small business especially if it is selling goods
or services overseas
The ability to attract finance to improve areas of the business such as product
development is often limited.
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Grow Large
Organisations may be forced to grow to meet customer demand or may make a
conscious decision to expand the business. While there are many well known
multinationals such as Pepsico, Walmart, Kraft Foods and BP, there are numerous
large companies that are much smaller. Growth may start by exporting to some
overseas markets and eventually expanding into a global company which has become
considerably easier since the removal of trade barriers by many countries.
Conscious decisions to grow can be a result of spotting opportunities. For example,
many multinationals are exploiting opportunities in emerging markets where the
disposable income of consumers is forecast to show significant growth in the medium
term, and where resources, including cheaper labour, are available. Opportunities too
arise where governments support external companies in order to grow their economies
and increase business expertise, including the skills of their people.
Advantages of large companies
Lower risk, as not all business is concentrated in one location and subject to
market conditions in that location; reduces reliance on home market
Access to less expensive resources which impacts on prices and profit levels
Tendency to bureaucracy, meaning that decision making and change can be slow
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Marketing may not be appropriate in new locations (if company becomes global).
Horizontal expansion
The company continues to make the same product or provide the same service,
but increases sales (market share). It may produce additional versions of the
same product or service. For example, a chocolate manufacturer may move into
organic chocolate production.
Vertical integration
This is when the company extends its part in the whole production process for
example, the chocolate manufacturer decides to open a shop at the factory to sell
the chocolate (forward integration) and/or grows the cocoa to make the chocolate
(backward integration).
Hotel Chocolat now grows cocoa in St Lucia, produces the chocolates and has
many shops selling the chocolate all over the world.
Diversification
This is the third method of external expansion. A firm decides to offer a product
or service that is different from its core business. Hotel Chocolats Boutique
Chocolate Hotel opened in December 2010 offering guests luxury
accommodation on the cocoa plantation in St Lucia.
The disadvantage of this method of growth is that internal resources can become
stretched as the firm grows.
(b)
External Growth
Here, the company accomplishes growth either by joining with another company
(strategic alliance) or acquires a company (merger or acquisition). The options are:
Joint venture
This usually occurs when organisations work together on a specific project, the
original organisations remain independent. This spreads the financial risk
between them and provides each with access to a wider variety of skills and
resources. The difficulty here may be in identifying a suitable partner and
agreeing terms.
Merger or acquisition
A merger takes place when two companies of approximately equal size form a
new company by joint agreement.
Acquisition is where a larger organisation buys a smaller one which becomes
integrated into the larger firm
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Franchising
Franchising occurs when the company (the franchiser) permits the franchisee to
carry out specific activities such as manufacturing, sales or distributions. The
franchiser remains responsible for marketing activities and protecting the brand.
Many of Coca Colas bottlers operate under franchise agreements.
Licensing
In this situation another organisation pays a fee to use the intellectual property
rights, such a trademarks, patents, or technology, under defined conditions. For
example when you buy a Microsoft Product such as the Student Version of Office,
you are the sole person licensed to use it and pay a special fee as a student.
If you are not a student or you allow others to make copies, then you are not
keeping to the terms of the licence.
The subject of growth will be discussed in some detail in a global context in a later chapter.
Financing Growth
There are a number of methods of financing growth, some of which are applicable to different
stages in the organisational life cycle.
Initial capital investment is required to begin a small firm. This is usually in the form of loan
from a bank or by using personal savings.
Working capital is then required for the day-to-day running of the business paying wages,
paying creditors, purchasing small items such as stationery, advertisements and so on. This
will either come from sales made and/or the support of a bank overdraft facility.
In the early stages of the business it is quite common for firms to have cash flow problems
where the amount of revenue earned is insufficient or not paid quickly enough by debtors,
and the business cannot pay its day-to-day bills. The owners will often rely on a bank
overdraft to relieve the problem. However, if this does not solve the issue in the short term,
the firm will probably close.
When larger amounts are required for purchasing large items or expansion of premises,
funding research and development projects and so on, the business will need to consider
longer term financing. There are several options available including bank loans and venture
capital. We consider four such options briefly here.
(a)
Overdrafts
Advantages
Disadvantages
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(b)
Disadvantages
Cannot technically be
withdrawn as long as the
borrower honours all of the
terms of the facility
(c)
Leasing
Advantages
Disadvantages
(d)
Disadvantages
Possibility of takeover is
increased when the shares are
widely held.
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Activity 5
Finally in this chapter, we present a further case study of the development of Xerox.
Consider the following summary of its development and then answer the questions that
follow.
Case Study 3: The Company with Nine Lives
Xerox can trace its roots to 1906, when a photography-paper business named
the Haloid Company was established in Rochester, New York. In 1958 Haloid
changed its name to Haloid Xerox, reflecting its belief that the company's future
lay with xerography, although photography products were still more profitable.
That balance quickly changed with the success of the Xerox 914 copier.
Introduced in 1960, it was the first automatic Xerox copier and the first
marketable plain-paper copier. Demand for the 650- 914 model exceeded
Haloid-Xerox's most optimistic projections and Fortune later called the copier "the
most successful product ever marketed in America". Sales and rental of
xerographic products doubled in 1961 and kept growing.
However, by 1985 Xerox's worldwide plain-paper copier share had dropped to 40
percent, from 85 percent in 1974.
In 1988, Xerox underwent a $275 million restructuring, cutting 2,000 jobs and
creating a new marketing organisation, to get new technologies into the
marketplace more effectively. Xerox's comeback was so impressive that in 1989
its Business Products and Systems Unit won Congress's Malcolm Baldridge
National Quality Award for regaining its lead in copier quality. Xerox had
demonstrated its ability to change.
In 1994, Xerox began calling itself The Document Company to emphasise the
wide range of document processing products it produced.
April 1998, Xerox announced yet another major restructuring, as its shift to the
digital world led it to spend more on overheads than its competitors. The
company eliminated 9,000 jobs over the next two years. The cuts came at a time
when Xerox was enjoying record sales and earnings as well as a surging stock
price, so the company was clearly proactive in maintaining the momentum it had
gained through its impressive 1990s resurgence.
This resurgence, however, came to a crashing halt during the later months of
1999. For both the third and fourth quarters, Xerox was forced to issue warnings
that its profits would be well below the expectations of Wall Street analysts,
sending its stock tumbling.
Sales and profits were hurt by a number of factors, several of which were out of
the company's control, including the strength of the dollar against European
currencies, heightened competition from Japanese rivals, particularly Canon,
which launched new lines of midrange and high-end copiers that ate into Xerox's
market share, a slump in the sales of high-end copiers and printing systems late
in the year because of Y2K fears, and a severe economic downturn in Brazil, a
long-time key market for Xerox that had been responsible for about 10 percent of
sales and an even-larger portion of profits.
In March 2001, Xerox sold half of its stake in Fuji Xerox to Fuji Photo Film for
more than $1.3 billion in cash, reducing its interest in the joint venture to 25%. In
another key move, Xerox outsourced about half of its worldwide manufacturing
operations to Flextronics International Ltd., at the same time selling to Flextronics
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plants in Canada, Mexico, Malaysia, the Netherlands and Brazil. Several other
non core operations were also sold off as part of this overhaul, which in total
culled 11,200 positions from the payroll. During 2001, a separate restructuring,
which aimed to sharpen the company's focus, saw Xerox eliminate product lines
aimed at the small office/home office business segment. Approximately 1,200
more employees were laid off. Xerox eliminated its stock dividend that year to
conserve cash and in August, Mulcahy was named CEO. She replaced Allaire as
chairman in early 2002.
Late in 2000, the Securities and Exchange Commission (SEC) launched an
investigation into Xerox's accounting practices for the period from 1997 to 2000.
The SEC eventually found that the company had been improperly accounting for
revenues associated with office equipment it leased to customers, booking more
of the lease revenue up front than was proper and thereby artificially, if
temporarily, inflating revenue and according the SEC, misleading investors. In
April 2002, Xerox agreed to pay a record $10 million civil penalty to settle the
charges.
In addition to shedding unprofitable businesses and lines of business, and
eliminating tens of thousands of workers from the workforce (which was reduced
by one-third from the beginning of 2001 to the end of 2003, from 92,500 to
61,100), Xerox vastly improved its balance sheet. Total debt was reduced from
$18.64 billion in 2000 to $11.17 billion in 2003. Perhaps most importantly, Xerox
moved aggressively to regain lost market share by introducing 38 new products
during 2002 and 2003 as well as a wide range of new document-related services.
Through the CEOs able leadership and dogged pursuit of a turnaround, Xerox
was able to post strong results for 2003. Net income of $360 million was the
firm's highest profit level since 1999. Debt was reduced further during 2004 to
less than $10 billion and the now cash rich company was poised to begin
pursuing acquisitions again. From the real possibility of bankruptcy when she
took over, CEO Mulcahy had engineered at least the beginnings of a remarkable
comeback, though the competitive environment showed no sign of becoming less
brutal.
Questions
(a)
Identify three separate and different examples that show Xerox changed its strategic
choices over the years.
(b)
Describe how the external environment has impacted negatively on Xerox in a way that
was beyond its control.
(c)
What actions did Xerox take as a result of the impact of the external environmental?
(d)
(e)
From the limited information in the case study, describe the strategies Xerox used to
grow the business.
(f)
Which of Michael Porters generic strategies has Xerox focused on? Provide
supporting evidence for your answer.
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SUMMARY
Organisations exhibit life cycles in a similar way to that of products, with different
characteristics at each stage.
The strategic choices they will make will depend to some extent on the stage they have
reached in the business life cycle.
All organisations whatever their size have to make strategic choices about how the firm can
survive and prosper in the future.
The stage in the life cycle can be very important. An organisation in the development stage
may have few or no competitors. An example of this was the early days of online recruitment
when there was little competition.
A company in decline will have to examine every aspect of its business and decide what it
can do to either adapt its operation or change its products or services to regain momentum.
In either case, when making strategic choices, firms need to carry out a structured
examination of their internal and external environment so that they can make informed
choices:
Internal strengths and weaknesses identifying the competences and capabilities that
can be built on and the weak areas that need to be improved, and listing the actions
required to make improvements. Similar results could be obtained from a SWOT or
Gap Analysis.
A company may choose to grow larger or not. This may be a personal preference of the
owner, but the situation may be forced owing to customer demand.
If the organisation chooses to grow it will either grow through use of its own resources or by
alliance with or acquisition of another company. Again the choice made will depend on the
stage in its life cycle and the STEEPLE factors surrounding the other organisation.
Growth will require financing whether this is short term working capital or a long term
financing vehicle. This is yet another choice for the firm to make.
Making the right strategic choices is vital for organisations of any size. A systematic
approach is more likely to result in appropriate decisions for an individual firm.
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ANSWERS TO ACTIVITIES
Activity 2
In terms of SMART, we can say that:
S
M 10% is measurable
A
it is focused on results
The objective does appear to fit the criteria as in a real situation we would be able to look at
past sales and the business environment to determine its achievability.
It is, therefore, not quite a SMART objective.
Activity 3
The skills and competences are likely to include innovation, entrepreneurship, marketing and
good communication. The physical resources should include hardware and software of
various types, working capital, work space and a business plan.
Strengths and weaknesses will depend on the circumstances. Appropriate strengths may be
knowledge of small business operations, experience in successful web design for small firms
and technical ability, while weaknesses could be lack of knowledge of running a business,
poor financial skills and so on.
The activities and resources that you will need to employ again depend on the
circumstances, but you may need financial backing to meet the forecast cash flow, a
colleague with business and/or financial skills, and a database of growing and successful
small companies.
Activity 4
The STEEPLE analysis for the car industry might be along the following lines
Political
Economic
Socio-cultural
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Strategic Choices
Environmental
Technological
Ethical
Legal
Restrictions on mergers/acquisitions.
Activity 5
(a)
When it lost its patents Xerox could no longer ignore the competition and had to
create a new marketing organisation to get new technologies into the market
place quicker. (1988)
(b)
In 1999 the negative impact included the strength of European currencies against the
dollar, a slump in sales of high end copiers, Year 2K fears and a severe economic
downturn in Brazil, one of Xeroxs key markets.
(c)
(d)
This allowed it to recover its financial strength by 2003 and to recover market share by
introducing 38 new products in 2002-3.
(e)
It used a joint venture with Fuji (which it subsequently sold). In 2004 "it was poised to
begin pursuing acquisitions again". It acquired many non-core businesses in 2001, so
had been involved in conglomerate operations previously.
(f)
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Chapter 4
Market Structure and Business
Contents
Introduction
Page
92
A.
Perfect Competition
Conditions for Perfect Competition
Contestable Markets
Views on Perfect Competition
Disadvantages of Perfect Competition
92
92
Error! Bookmark not defined.
933
94
B.
Monopoly
Sources of Monopoly
The Case For and Against Monopolies
94
944
955
C.
Monopolistic Competition
D.
Oligopoly
Oligopoly and Anti-competitive Behaviour
Non Collusive Oligopoly
Game Theory
97
988
98
100
1011
Summary
1044
Answers to Activities
1055
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INTRODUCTION
The focus of this chapter is on how the degree of competition within a market affects prices,
resource use, profit levels and efficiency.
There are four different market structures and it is the difference in the number, type and size
of the firms in the market, as well as the nature of the product itself, that affects the type of
competition and extent to which companies can control price.
We also examine the ways in which firms attempt to keep their prices high, legally and
illegally, and the tactics they use in competing for market share.
Competition
The concept of competition is fundamental to understanding the different market conditions
considered in this section. As consumers, when we think of competition, it suggests a choice
which is a desirable state of affairs. Thus, if you wish to buy a new netbook computer,
there will be a choice of makes, colours and technical features. In some cases, you can
negotiate on prices with the supplier knowing that some suppliers charge less than others.
Owing to our ability as the buyer, to choose and apply pressure on prices, we expect
competition to oblige producers and distributors to use their resources efficiently and keep
production and distribution costs low. Competition is also, therefore, usually thought to be a
very powerful force to ensure production efficiency.
Competition is consequently regarded as a desirable feature of markets. Most of the major
modern market economies have legislation and institutions concerned with preserving or
increasing competition. How firms plan to effectively compete against each other will be
covered in Chapter 5.
However, there are variations in the degree of competition in different types of market, and
this can have a significant impact on issues such as price, costs and market share:
Figure 4.1: Degrees of Competition
Great competition
Perfect
competition
No competition
Monopolistic
competition
Oligopoly
Monopoly
A. PERFECT COMPETITION
A perfectly competitive market is one where suppliers and consumers essentially have no
control over prices. This occurs because there are so many suppliers and consumers and,
as a consequence, the market is very competitive and the market itself determines price.
In such a market, buyers and sellers are said to be "price-takers" that is, suppliers wish to
sell all that they can produce at the market price, and buyers are indifferent as to which
seller's product they buy at that price. The price is determined by the level of demand (from
buyers) and supply, which will fall into balance. Surpluses and shortages will guide the price
and on each occasion the market will settle at the equilibrium price where demand is equal to
supply.
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93
All goods are identical and therefore equally acceptable to the buyer
The buyer is indifferent to which supplier s/he buys the goods from as long as they
conform to any description adopted by and understood in the market.
(b)
(c)
(d)
(e)
Contestable Markets
The lower the barriers, both natural and artificial, the more contestable the market.
Contestability is a powerful force in determining the behaviour of suppliers in a market. If
producers know that they can easily be challenged by new competitors, they will behave as if
they were subject to competition because they will not wish to provide incentives for new
firms to come into the market.
Incentives for new contenders to enter the market would include the potential to earn
supernormal profit or the existence of buyers who were dissatisfied with existing goods,
standards of service or prices.
The market is being regulated in this case by potential competition and existing firms will act
to ensure this does not occur.
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It prevents producers from making the profit necessary to provide funds for investment
and research, to find better ways of producing goods.
(b)
Competition can be wasteful, as the resources of each of the competitors are doing the
same things. If there were fewer competing firms, total costs could be reduced and
some resources freed to produce something else.
(c)
Firms dislike perfect competition because there is no price stability since prices follow
changes in demand and supply.
If communications are good, then supply can adapt very quickly to price changes
caused by changes in demand. The result is that prices are constantly adapting to new
equilibrium positions. (This is demonstrated well by the Stock Exchange it is one of
the best examples of a market that is close to perfect competition, since prices change
in real time owing to the use of electronic communication methods.)
(d)
For manufacturers, swiftly moving prices are untenable. They can survive in such a
market only if they could keep changing the prices paid for production factors, including
the wages paid to workers. Producers want stable or, preferably, rising prices.
(e)
From a social standpoint, perfect competition is far from ideal. Perfect competition,
which economists perceive to be in the consumer interest, cannot exist together with
stable wages and secure employment conditions.
B. MONOPOLY
Monopoly is the opposite extreme to perfect competition. It exists when there is only one
supplier for a particular product and there are no close substitutes for that product. The firm
has complete control over prices.
Many state owned organisations are monopolies. The amount of power a monopoly has
depends on the barriers to entry to the market.
Historically, almost all monopolies are subject to destruction by the continuous improvement
in technology. For example, the Post Office used to have a monopoly in the delivery of lowprice letter mail in Britain, but did not have a monopoly in personal and business
communication. Traditional mail has declined in the face of competition from mobile devices,
email, online purchasing, telephone and private firms of leaflet distributors. In addition, it has
failed to implement electronic sorting methods sufficiently quickly to retain its monopoly.
In the UK, telephone, water, gas, electricity and railways are a few examples of state
monopolies that have disappeared as result of government privatisation policies.
Sources of Monopoly
Monopoly can arise in three ways.
Law
(a)
Law
Some countries may grant a company the right to be sole supplier of a product or
service (e.g. telephones) in return for some measure of state inspection and control
over profits and prices.
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In Britain, before 1979, it was usual for such monopolies to be public corporations
under public ownership and control. Privatisation changed this and resulted in a policy
which separated regulation from operation. British Telecom (BT), for instance, is a
private sector company with shareholders. In the case of BT, there still remains a
virtual monopoly, as other firms found the barrier to entry too high. However, the
extensive use of mobile phones has reduced its monopolistic status significantly.
Because many of the privatised monopolies were utility companies, providing essential
services to the public, a system of watchdog regulatory bodies was established to
control prices to consumers and to adjudicate if there were complaints. Examples are
Ofgem for gas and electricity companies and Ofwat for water companies.
Patents and copyright law provide for a more limited type of monopoly. These
concepts are similar in most countries. The essence of both a patent and copyrighting
is that the inventor of a new product or idea is granted exclusive rights (usually by the
State) to benefit from the product or idea for a limited number of years in effect,
monopoly control over its use. If rival suppliers are unable to develop a competing
product without breaking the patent, this form of monopoly can be very valuable, such
as the monopoly enjoyed for some years by Xerox as mentioned in Chapter 3
(b)
(c)
Market control
A monopolist's output is the total market supply and the demand for its product is the
total market demand.
This can only be sustained, without the protection of the law, by exercising some form
of control over the market which prevents competition from arising. There is evidence
that Microsoft did this in the past through aggressive pricing, buying up rival companies
and/or their technologies, and bundling different technologies together.
The monopolist's size and ability to produce for the whole market enables it to achieve
economies of scale, so that costs and, therefore, prices are actually lower than they
would be under perfect competition.
The monopolist employs professional managers who make more efficient use of
available resources than small owner/managers, who often lack managerial skill.
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Monopolies can grow a market which did not exist previously a good example being
the success of Microsoft in standardising the PC market which allowed for its
phenomenal growth from the 1980s.
The monopolist does not always maximise profits, but is content with just a satisfactory
level of profit.
Some element of abnormal or monopoly profit is desirable, so that the firm can:
(i)
spend money on research and gather funds for further capital investment;
(ii)
have the incentive to take risks and innovate and sometimes suffer losses that
would cripple smaller firms.
Supernormal Profit
In perfect competition, firms are restricted in the amount of profit that they can make because
they have no control over profits and there is very aggressive competition. In a monopoly
there is no competition, allowing the monopoly to set the price and make substantial profits.
It may then use those profits for R & D and investment, as mentioned in the last point above,
or it may simply take the profits for the benefit of the owners.
A monopoly may not have the incentive to be super efficient as is the case with firms in
perfect competition who must survive. The monopoly has no competition in the market
place, but it can still make substantial profit without operating at high efficiency.
The Case Against Monopolies
We can summarise the disadvantages of monopoly as follows:
no incentive to invest in new production process and products because of existing high
monopoly profit and absence of competition from other firms
lack of customer focus limited choice and poor product quality due to lack of
competition.
Activity 1
What monopolies do you know of in your country?
As a consumer, what are the main advantages and disadvantages of these organisations for
you?
See the suggested answer at the end of this chapter.
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C. MONOPOLISTIC COMPETITION
Monopolistic competition has many of the same characteristics as perfect competition:
there are many firms with unrestricted entry to and exit from the market
perception by buyers that the products of the various firms are good substitutes for
each other.
It is in this last point that monopolistic competition differs from perfect competition. Although
the products are considered to be good substitutes, they are not the same (i.e.
homogeneous). Buyers do express preference for one seller's product as opposed to
another's.
It is, therefore, the buyers perception of the substitutes that differentiates monopolistic
competition from perfect competition. Although the product may be effectively the same, it is
the branding which alters the buyers perception of the substitute as being equivalent.
Sellers use marketing to increase this preference and grow brand loyalty. This enables them
to increase the price.
However, the individual firm will be prevented from raising the price too significantly and
taking supernormal profits, as can a monopoly, since the substitutes do not have that
substantial a difference. Its price will still be closely influenced by the market price for the
class of product.
The negative perception of monopolistic competition is that it is not really in the best interests
of either consumers or business firms:
Price is higher and output lower than would be the case with perfect competition
Profits are confined to the normal minimum required to keep firms in the market
Firms cannot achieve the profits needed for investment and research or the high output
levels necessary for economies of scale.
Brand advertising
Possibly also by patent protection or keeping processes secret from their competitors.
The best examples of monopolistic competition come from retail trade, including restaurants,
clothing stores and convenience stores, and in certain technology markets, such as
smartphones.
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D. OLIGOPOLY
Oligopoly is the market structure where supply is controlled by a few firms that are large in
relation to the market size, although there may also be a number of smaller firms in the
market.
As a result of there being so few dominant firms they will observe the actions taken by each
other very closely and react accordingly to protect their market share. Oligopolistic firms are
therefore interdependent.
Very often the firms are also large, by any standards, and are likely to be oligopolists in
several markets.
Oligopoly is common in the advanced industrial countries but there is no single model which
can be held to apply under all circumstances.
Examples of oligopolies in the UK
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take action to restore their position. Thus, they will incur higher marketing costs and have
lower economies of scale, and it is likely to make prices higher.
Case Study
In 2007, British Airways was fined 270 million by the Office of Fair Trading
for price fixing after it admitted collusion in fixing the price of fuel
surcharges (which were added at a time of huge, unexpected increases in
oil prices) to customers booking its flights. The US Department of Justice
fined it an additional $300 million for the same reason. It was stated that
BA had colluded with Virgin Atlantic on at least six occasions between
August 2004 and January 2006 and that during that time, surcharges rose
from 5 to 60 per ticket. Virgin Airlines reported the collusion to the OFT
and became, therefore, immune from legal action. Consumers who were
affected by this illegal action were entitled to apply for refunds.
The least-cost firm, which can force competitors with higher costs to follow its prices,
even though they cannot maximise their own profits at the levels it sets.
A firm which is typical of others in the market and which becomes a barometer of
market conditions. If this firm feels that a price change is necessary, then it is likely
that others will feel the same.
The largest and the dominant firm in the market. The most common model of this
situation assumes that this firm, because of its size and the economies of scale it can
achieve, is able to achieve lower costs than the others. The lower its costs compared
with the other firms' costs, the greater will be its market share and consequently, its
dominance in the market.
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There are only a few firms who know each other well
Firms are willing to share reliable information on general and production costs
The incentive for each member of a cartel to cheat on the other members
The incentive for a member to sell more than its quota as agreed in the cartel
Reluctance of firms to share full information about their true costs, prices, sales and
profits can lead to disagreements and lack of confidence that others will stick to the
rules.
Collusive behaviour is more common than is generally recognised and with globalisation,
many markets such as air cargo, steel, oil and cement are oligopolistic. Governments
competition authorities try to prevent or break up collusive agreements between firms, to
protect consumer interests against the monopoly exploitation such collusion is intended to
achieve. Their effectiveness is, though, dependent on the power of the cartel.
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Activity 2
Describe the type of competition which exists in the airline industry.
If two large airlines merge, what do you think will be the affect on the consumer?
Why is there unlikely to be a price war between competing low cost airlines?
See the suggested answer at the end of this chapter.
Game Theory
Firms in an oligopolistic market situation recognise that their price and output decisions are
interdependent. The significant implication of this is that the normal relationships between
price changes and the consequent changes in sales and sales revenue depend on how other
firms respond to a firm in the market changing its price.
This interdependence creates uncertainty for firms as they determine their production and
pricing decisions. One method of assessing the implications of any such decisions is to use
game theory.
For example, when making a decision on whether to increase the price or not, the firm will
need to consider such questions as:
"If I increase my price 20 per cent, can I manage it without losing market share?
How will the other firms in the industry retaliate?
What if my main competitor responds by reducing rather than matching my price
increase?"
Game theory is about strategy and deciding on the particular strategy which the player thinks
will be the winner. Just like placing a bet, the firm will assess the chances involved of the
reaction one action has on another, and success in the game will depend both on how the
firm thinks its rivals will react and how willing it is to take the chance. In some circumstances
the firms price strategy will win the game and it will achieve its goal of greater profits or price
leadership. However, there is no certainty and the firm could be the loser.
There are various types of game.
(a)
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(b)
(c)
Price Promises
These are another example of the application of game theory. PC World, a large IT
retailer in the UK, has promised to beat the price of any other competitor and not only
to match it but beat it by 10% of the difference. Since PC World is very large it is likely
that this promise will be seen as credible by other retailers and so their prices are likely
to match. PC World will not want to lower its profits and gambles on the fact that no
other store will want to either.
However, such promises usually have some conditions. Can PC World beat every
other store in the UK on price? It will not take such a big risk, so it hedges its bet by
attaching conditions on the unit purchased requiring any rival store to be within 30
miles and have stock ready for delivery.
In this situation the market is unstable. A price war is a likely consequence, even when
firms have a collusive agreement, if at least one firm to the agreement thinks that it can
come out the winner in such a situation.
(d)
If both say nothing there is sufficient evidence to sentence them for one year
(ii)
If one confesses he will get six months in prison and the other will get 10 years
(iii)
If both confess to the crime they will each get 5 years in prison.
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Each prisoner must choose to betray the other or to remain silent. Each one is assured
that the other would not know about the betrayal before the end of the investigation.
How should the prisoners act?
If prisoner 1 coperates he will get only six months and prisoner 2 will get a long
sentence. However, prisoner 1 does not know how prisoner 2 will react to the same
question if he also cooperates they will both get 5 years. For prisoner 1 this is better
than getting 10 years if he says nothing and prisoner 2 cooperates.
They will only both end up better off if they collude and say nothing. However, the
police will prevent this action. They will also try to persuade each prisoner that the
other is bound to confess. Option 3 then is the safest strategy.
The actual position taken by the prisoners will depend on:
-
In this game, as in most game theory, the only concern of each individual player
(prisoner) is maximising the outcome for him/herself (minimising his or her own
sentence) without any concern for the other person's outcome.
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SUMMARY
There are four possible market conditions:
Monopoly where there is only one firm in the market and there is no competition.
Monopoly firms are like to be large and very bureaucratic. They are able to charge
high prices and earn supernormal profits which can be invested in R&D (innovation).
Governments will sometimes intervene so that two companies cannot merge to form
one larger monopoly and thus reduce competition.
Monopolisitic competition this has many of the features of perfect competition, but the
buyer perceives a difference in substitutes owing to branding. The seller increases
advertising to increase brand loyalty and can ultimately increase price, but only within
what the market will allow it cannot earn supernormal profits as a monopoly can.
Oligopoly where a market has only a few very large firms. The firms are often
diversified into several markets. There is no model for this type of firm. Oligopolies try
to keep prices high by collusion or price fixing which is illegal in some countries.
Supernormal profits are usually only possible for monopolies and in certain cases,
oligopolists.
Game theory can be used by firms in an attempt to determine the outcomes of competition.
Oligopolies may use it to assess whether and by how much they can raise their prices and
hence profits.
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ANSWERS TO ACTIVITIES
Activity 1
Your answer will probably include all state owned companies or powerful large companies
with existing patents.
The advantages of monopolies can be that:
The product (goods or services) they provide is standardised and you know what to
expect
Where it involves an important utility or similar key product, it may be argued that the
supply of that product is safer under state control
High prices
Activity 2
The airline industry is predominantly an oligopoly, dominated by a few firms who form
alliances to keep the price high. Low cost airlines are a threat to this, although in the early
days of low cost, the large airlines had the power to force the lower cost airline out of
business. (Laker Airways was the forerunner of Ryanair, Easyjet and other small European
airlines.) It could be argued that there, in fact, two separate oligopoly markets in operation
one comprising the main carriers and another being the low cost ones.
If two large airlines were to merge this would reduce competition, which could result in higher
prices and lower services.
Since low cost airlines operate on low profit margins, a price war might mean that they would
both end up making insufficient profit to continue in business. Competition is more likely on
branding and on the cost of "add-ons".
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Chapter 5
A Macro-economic Perspective on Business Economic
Systems
Contents
Page
Introduction
108
A.
Macro-economic Systems
Planned Economy
Market Economy
Mixed Economy
108
109
111
112
B.
115
115
117
123
124
126
C.
127
127
128
130
131
D.
131
131
134
135
Summary
136
Answers to Activities
137
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INTRODUCTION
An economic system can be defined as the organised way in which a nation allocates its
resources and apportions its goods and services.
In this chapter we will examine the three most common economic systems:
(a)
Planned (or command) economy where the State makes all the decisions concerning
production of goods and services
(b)
Market economy where the owners of private businesses make the decisions which
will vary according to supply and demand
(c)
Mixed economy where production decisions are a combination of those made by the
State and private business.
National economies are dependent on the flows of production and money. We will look at
how the national income is measured and the information this gives us about the efficiency of
work and living standards in different countries.
The level of economic activity varies over a period of time in a cyclic manner. Its peaks are
the boom periods and the troughs are known as recessions. We investigate the reasons for
this periodic behaviour and what governments can do to smooth the extremes of boom and
recession.
A. MACRO-ECONOMIC SYSTEMS
The study of economics focuses on unlimited wants and limited resources. As a result, in any
economic system three questions arise:
(a)
(b)
(c)
How will the goods and services be distributed amongst the population?
the Government decides the answers to the questions given above giving rise to the
economic model of a planned (or command) economy
buyers and sellers make all the decisions and the Government plays no part giving
rise to the economic model of a free market economy
a combination of both the Government and buyers and sellers make the decisions
giving rise to the economic model of a mixed economy, which has elements of the
market and planned economies.
Think Point
Which type of economic model has been adopted by your country?
Can you identify any examples of either a pure planned economy or a pure free market
economy?
The vast majority of economies around the world today are mixed economies. It is difficult to
have a pure free market economy as there are certain aspects that any Government will wish
to control for the good of all its citizens (and we will return to this in more detail in later
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chapters). Planned economies were a feature of Communist states and have become less
popular following the break-up of the Soviet Union. Possibly the only example of a fully
planned economy now is in North Korea. Cuba is also sometimes cited as an example,
although it could be argued that there are also elements of a market economy present there.
Planned Economy
Central economic planning, known as a planned or command economy, is best known as the
model that was adopted by the Soviet Union following the Bolshevik Revolution of 1917.
The total direction and development of the nations economy was planned and administered
by the Government from that point. This type of economy has since become associated with
other communist or socialist countries.
The Soviet Government operated its economy on the basis of a five year plan, which
attempted to arrange a balance between demand and output. The primary purpose of
central planning in the Soviet Union was the attainment of the five year goals that state
authorities formulated.
The key features of the model are that it:
The Government decides what should be produced and in what quantity as a result of
its forecast of demand
In the Soviet Union everyone involved in the process answered to the State, obeyed all its
directives and practised self discipline for the benefit of the State. This is common practice in
planned economies.
(a)
Long term projects can be planned without fear of a downturn in the economy,
which can result in projects being left unfinished.
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Free education
Free healthcare
Disablity allowances
110
(b)
Often the forecasts are wrong and products are just left to rot for example, in
the 1960s and 1970s the Soviet govenrment quota on tractors was too high and
unused ones were left to rust as they could not be sold.
The price mechanism set by the State does not always benefit the State for
example, the relative income from different uses of the same materials is ignored,
as in the case of nylon given above. Massive amounts of state income that
would have resulted from the manufacture and sale of hosiery was missed
because parachutes, which sold for a low price, were seen by the goverment as
the priority.
There may be issues of poor quality, probably through the lack of incentives other
than to reach numeric goals.
Many planners and administrative support workers are involved in each step,
leading to slow decision making, lack of innovation and corruption.
Where unions exist, as happened in Poland, their primary role was to ensure that
the production goals of the state planning commissions were met.
Prices were set without any relation to cost, supply and demand
Within command economies, secondary economies often spring up. Because of the lack of
choice and poor quality of goods, consumers often resort to the black market to obtain
superior goods, with corruption and moonlighting being involved in obtaining such goods.
Resources meant to meet central planning needs may also be diverted to satisfy consumer
demand, shifting scarce resources away from the Governments priorities. All these types of
behaviour conflict with the philosophy of central planning.
Some of the communist governments that continue to exist are moving away from a totally
centrally planned economy. China is a good example, where its government has adopted
some market economy techniques, although strong State control is still in place. Its universal
healthcare system, which was based on central planning, has largely been dismantled and
replaced with various health insurance schemes, mostly funded by member contributions.
As a result, many private sector employees and the self-employed are often without any
cover and must bear the entire cost of health care themselves.
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Market Economy
A market, in economic terms, is defined as an area within which forces of demand and
supply for a particular economic good can communicate and interact so that the good can
be transferred from seller to buyer. An economic good is said to afford utility (usefulness) to
people.
Therefore, a market economy is characterised by:
private rather than public sector control of production, distribution and consumption
Market economies work on the assumption that market forces, such as supply and demand,
are the correct system for the allocation of resources. That way producers know how much to
produce, based on the demand for their products at every price. Therefore, private
businesses make the decisions rather than the State.
(a)
(b)
Any individual or firm has the right to act on his/her/its own account to satisfy the
needs of others
There is more innovation as firms look for new products to sell and cheaper ways
to produce goods and services
The size, power and cost of the state bureaucracy is reduced, as various
activities that are usually associated with the public sector are taken over by
private enterprise
No industry subsidies
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The market economy is the most popular system in the current global market place.
However, no economy can claim to be a purely free market economy, as some intervention
from government always occurs.
Mixed Economy
Those in favour of the free market believe that central planning wastes resources, and that a
free market ensures that consumers receive the goods they prefer, at an economic price,
produced efficiently by competitive firms hoping to make a profit.
In reality, most societies operate some form of mixed economy partly planned and partly
free market. These economies are still generally referred to as market economies as the
amount of State intervention is limited.
In the UK there is a mixed economy. Most decisions are made by the market i.e. by
consumer supply and demand. So, what the consumer chooses to buy creates demand, and
this demand is crucial in a firms decision-making process about what to produce, how to
produce it, as well as how to distribute and price the goods.
The efficiency of the free market in the UK is very high, so the market makes most of the
economic decisions. However, it is generally accepted that there a range of decisions about
production and the supply of services which have a wider impact on society and must be
taken by the Government of that society. These decisions include those relating to
infrastructure such as road building; school and hospital construction, and to public services
such as military spending and the supply of medicines in hospitals. These activities are
usually carried out by government employees and progress controlled centrally. (Later in this
chapter we will look at how some government funded projects may be completed by market
based means rather than using public sector employees).
This mix in the economy is also be very political, with decisions about which parts of the
infrastructure and what public services should be centrally planned varying depending upon
prevailing central government policy.
(a)
(b)
Employee rights
Environmental protection
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Activity 1
The following case study considers the development of a mixed economy in China. Read
through it carefully and then answer the questions which follow, using just the information in
the case study.
Case Study: Chinas Hybrid Economy
China is no longer a planned economy but it is not yet a fully capitalist
economy. The State still wields power through the allocation of massive
state resources and effective control of large-scale SOEs (state owned
enterprises), which continue to dominate key sectors of the economy.
Despite formally being transformed into joint-stock companies (selling
shares to private investors), the major banks are still effectively controlled
by the State. Currently, state owned and state holding enterprises account
for roughly half of all (non-property) urban investment in fixed assets.
At the same time, the party-state, a powerful apparatus with massive
financial resources, continues to exercise general political direction over
the economy. Sweeping measures taken by the regime to facilitate the
recent Olympic Games demonstrated the power of the State to mobilise
resources and sweep away obstacles to its policy objectives. There was
phenomenal public expenditure on the Games, the Government ruthlessly
cleared residents from large areas of Beijing and heavy industries were
shut down in a desperate attempt to reduce air pollution for the duration of
the Games.
How much of the economy remains under the direct control of the State?
While the class character of the State is not determined mechanically by
the percentage of state ownership, the changing balance of ownership is
an important indicator of the direction of change. But it is not easy to
determine the state/private balance of ownership. Different studies give
different figures. Will Hutton wrote in his book, Writing On the Wall:
"Chinas approach to private ownership means that attempting to assess
how much of China is public and how much private is a fools errand
because it cannot capture how the Party is trying to develop Leninist (in
reality, ruling party) corporatism." Like many other commentators, Hutton
shows how, in practice, the State has effectively retained control of former
SOEs that have become joint-stock companies. With many apparently
privatised companies, "the shareholder and accounting structure is such
that at any time the Party can regain control if it is necessary".
SOEs and corporations controlled by the State (including joint-stock
companies) accounted for 49.6% of industrial output in 1998. In 2004, this
had declined to 38%. Central government (as opposed to provincial and
local government) accounted for 23.7% of the workforce of all Statecontrolled firms but 48% of their assets.
" the decline in the state share of output has been much more gradual
than the decline in state employment. As state ownership has become
increasingly concentrated in large, capital-intensive firms and as demand
for energy and raw materials has pushed prices up for those firms statecontrolled companies have sustained only a small decline in their share of
total output.
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Questions
(a)
(b)
To what extent do you believe it is moving to a market economy? Again, use quotes
from the article to support your argument.
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That production is all organised by business firms in the private sector and government
organisations in the public sector (government sector).
That all goods and services produced are exchanged through a market based system,
with households paying money to buy products and firms paying money to households
for the use of production factors (land, labour and capital).
A proportion of production is organised by the State and its agencies (and paid for by
revenue raised in the form of taxation by the State from households).
Figure 5.1 shows the circular flow of production and consumption the goods and services
produced by firms/government and consumed by households that in turn provide factors of
production such as labour and capital. These are known as real flows.
Figure 5.1: Flow of Production and Consumption
Firms
Produce
Employ
Factors of production
(land, labour, capital)
Sold through
factor markets
Bought through
product markets
Households
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Figure 5.2 shows the counter-flow of money, which represent the flow of payments made in
respect of the flow of production and consumption.
Figure 5.2: The Counter Flow of Money
Firms
Receive
Pay
Factors rewards
Expenditure
Income
Households
In these diagrams, households represent all individuals and families, and firms represent all
the various types of organisation (including government).
These basic diagrams assume that the total volume of production is immediately and totally
consumed, i.e. nothing can intervene to enlarge or diminish this continuous circular flow. The
models also assume that there is no foreign trade, no taxation and no government spending,
and that total income is all spent on consumption.
However, the real world is not quite like this, so we need to take account of a number of
additional factors:
1. Leakages from the circular flow
Not all the income received by households is immediately spent on goods and
services; some income is saved. We can develop an important equation from this:
Income (Y) is either spent on consumption (C) or saved (S). Therefore:
Y=C+S
Therefore, any increase in income will be divided in some way by consuming more and
saving more. The amount of any increase in income which is consumed is often
referred to as the marginal propensity to consume. The greater the propensity to
consume, the higher will be the proportion of total income that is consumed at any
given income level.
Another part of the total income of households is not actually spent on goods and
services, or saved, but handed over to government authorities as taxation, either taken
directly from income or indirectly through taxation included in the purchase price of
certain goods and services.
Yet another part of the total income is spent on goods and services produced by other
national economies; imports from other countries.
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Firms enter the circular flow as buyers of goods and services, such as factories,
machines and research, so that they are able to increase their capacity to produce.
This is called investment or capital accumulation.
The Government must also be seen as a separate element within the circular flow,
producing goods and services on behalf of the community as a whole. (These include
building roads, schools and hospitals, maintaining law and order and a defence against
external aggression.) All of these are combined under government expenditure.
Firms supply other countries with exports of their products. Trade is a two-way
process.
When these adjustments are taken into account, an amended flow diagram is produced.
The first three items can be regarded as leakages from the circular flow of economic activity,
because they reduce the purchasing power of total incomes. The second three can be
regarded as injections into the circular flow, because they increase total purchasing power
and demand.
Figure 5.3: Leakages from and Injections into the Circular Flow
Injections of expenditure
Firms
Leakages from
income
Business investment
Savings
Government expenditure
Taxation
Exports
Imports
Households
P=Y=E
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Data on aggregate economic activity in the UK is published each year in the United Kingdom
National Accounts (the publication which is also called the Blue Book). It defines economic
activity as follows:
"In its widest sense it could cover all activities resulting in the production of
goods and services and so include some activities which are very difficult to
measure.
Economic activity or production generates output that is carried out by
organisations using inputs of labour or capital and good and services to produce
outputs of other goods and services.
These activities range from agriculture and manufacturing to service producing
activities to the provision of health, education, public administration and
defence: they are all activities where an output is owned and produced by an
organisation, for which payment or other compensation has to be made to
enable a change of ownership to take place."
The annual value of the Gross National Product (GNP) is an estimate of the total money
value of all the final goods and services produced in a given one-year period by the factors of
production owned by a particular country's residents. (This includes economic activity
outside the countrys borders).
To avoid double counting "final" goods and services means goods and services sold or
otherwise provided to their final consumers. An example of this is that the value of steel sold
to a car manufacturer to make a car will not added separately into the GNP or GDP totals
because its value is already included when we add in the final sales price of the car to the
customer.
GNP and GDP are very closely related concepts in theory and in actual practice the numbers
tend to be very close to each other for most large industrialised countries.
The differences between the two measures arise from the fact that there may be foreignowned companies engaged in production within the country's borders and there may be
companies owned by the country's residents that are engaged in production in some other
country, but provide income to residents.
For example:
Country X receives 10 billion in income from its overseas investments in country Y in
a given year.
In the same period, country Y receives 3 billion from its investments in country X.
The GNP of country X will be larger than GDP in that year.
Calculating GDP
Gross Domestic Product represents the gross value added by the whole of the communitys
economic activity; it does not include indirect taxes and government subsidies.
The Blue Book actually show two versions of GDP based on expenditure.
(a)
(b)
The second measure of GDP is calculated by deducting the total value of expenditure
taxes and other indirect taxes and adding back the total of subsidies paid to producers.
This measure shows the "true" cost of production of output, since indirect taxes are not
a true cost of production despite the fact that they appear as part of the cost when the
goods and services are purchased. Similarly subsidies reduce the prices paid for
goods and services below their true cost of production.
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The figure for GDP based on basic prices is the one normally used. It is considered to be the
fairer reflection of true expenditure on goods and services total expenditure includes
government spending on final consumption and much of this is paid for from expenditure
taxes. If we value GDP at market prices, then we are, in effect, including expenditure taxes
twice; once when they are paid by the consumer and again when they are used to pay for
goods and services by the various government bodies.
Similar adjustments need to be made to take account of subsidies. These are payments
made by government to producers and have the effect of reducing market prices. To obtain
the true cost of goods and services any subsidies need to be added back.
Given that, though, there are a number of issues which mean that some economic activities
remain outside of the scope of the official figures for example:
The desire to evade taxes the extent of the hidden (or black) economy in some
countries is estimated as being as high as 2050 per cent of the official economy.
The contribution made to economic and social welfare by unpaid parents and others
who perform services within the family.
The official figures also ignore unpaid voluntary activities within local communities and
amateur sporting activities.
The way in which production, especially service production, is valued may cause further
problems.
Where goods and services are distributed through unregulated markets in a market or
mixed economy, we accept that market price is a fair method of arriving at their value.
However, in a planned economy, where the State is the sole provider of a service and
the sole employer of the factors used to produce that service, we cannot be sure that
the recorded value bears any relation to the value to the community or to their value
in another country where similar services are distributed.
There is also the problem of comparing accounts when these are prepared in different
national currencies.
Note, too, that equivalent estimates of GDP (or GNP) produced in a given year may
theoretically be arrived at through at least three different accounting approaches, depending
upon how the transactions that determine the prices of final goods and services are
calculated:
Therefore comparison between countries will require knowledge of the basis of the
calculation.
Trends and Comparisons in GDP
In 2008 the UK GDP by industrial sector was broken down as follows:
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The share of GDP accredited to manufacturing has been declining for many years and is a
common trend in the older industrialised countries in North America and Western Europe. In
recent years, manufacturing has moved increasingly to Far Eastern countries, particulary
China.
The move away from manufacturing to services reflects both rising living standards in these
countries, where people spend an increasing proportion of incomes on services instead of
goods and changes in the pattern of world production. Financial services, for example,
accounted for 8.3% of UK GDP in 2007 having risen steadily from 5.3% in 2001. The
proportion of GDP accounted for by education, health and social work has also increased in
recent years for a number of reasons:
changes in technology affecting the work performed and equipment used by these
services
the age structure of the population, as the rising numbers of older people put more
pressure on the health services
changes in economic and social conditions, with the expansion of education, to cope
with the demands of a technology based society and social work, to cope with the
casualties of that society.
Manufacturing still provides a very large part of the wealth of the community, but it has
changed from the labour intensive manual process of the past into a complex, computer
based process, with ever more focus on lean manufacturing to reduce costs and to enhance
quality.
Figure 5.4: Trends in UK Domestic Product Real GDP Quarterly Growth
4
2
0
-2
-4
-6
-8
2005 2006 2006 2007 2007 2008 2008 2009 2009 2010 2010
Q3
Q1
Q3
Q1
Q3
Q1
Q3
Q1
Q3
Q1
Q3
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The borderline between the new manufacturing processes and services is blurred for
example, assembling a computer is clearly a manufacturing process but designing the
software and systems that control the computer and all the other equipment in the factory,
depend on the services. Fewer people are currently employed in manufacturing than in the
past owing to the increasing use of technology and the outsourcing of services such as
design, catering and distribution.
The UK Office for National Statistics produces a number of economic indicators relating to
the UK economy. At the end of 2010, the five year trend in GDP growth is demonstrated in
Figure 5.4.
As the bar chart demonstrates, the Gross Domestic Product (GDP) increased 0.8 per cent in
the third quarter of 2010, compared with an increase of 1.2 per cent in the previous quarter.
The ONS (Office for National Statistics) explained these trends as follows:
Total services output rose 0.6 per cent in the third quarter, compared with a rise of 0.9 per
cent in the previous quarter. The largest contribution to the growth in this quarter was from
business services and finance and government and other services.
The trend in the UKs GDP as measured per head of population is shown in Figure 5.5.
Figure 5.5: Trend in UK GDP and GDP per Head 1990 - 2008
160
150
GDP
140
130
120
110
100
1990 baseline
90
80
70
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
Between 1990 and 2009, GDP grew in real terms by 47 per cent. However, following a
steady increase between 1992 and 2008, GDP decreased by 4.9 per cent between
2008 and 2009.
GDP per head followed a similar trend. Whilst there was an overall increase of 36 per
cent between 1990 and 2009, GDP per head decreased by 5.5 per cent between 2008
and 2009.
The growth in GDP as compared with that of other nations gives a measure of the relative
strength of the UK economy. The graphs below (Figures 5.6 and 5.7) indicate that the UK
GDP per head was growing faster than that of other nations (shown in the graph) up until
2006.
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Figure 5.6: GDP per Head for Several Industrialised Nations, 1990-2006
250
220
UK
190
Australia
US
Germany
Sweden
Japan
160
130
100
70
1990
1992
1994
1996
1998
2000
2002
2004
2006
150
100
50
0
Japan
Germany
UK
France
G7
(Excluding
UK)
US
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In 2008, GDP per worker was higher in the US and France than in the UK (by 33% and 9%
respectively). Germany had a similar output to the UK in 2008, whilst Japans GDP per
worker was 8% lower than the UKs.
A countrys growth may look very different when output per head is examined; a nation may
have high growth but still be inefficient in terms of per capita output.
Activity 2
(a)
(b)
(c)
(i)
Why do you think there was a decrease in UK GDP and GDP per head
in 2008-9?
(ii)
Can you give reasons why the GDP line is higher than the GDP per head line?
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Note, though, that some countries may have an interest in ensuring that figures are not too
accurate. A country hoping to obtain maximum help from and make the smallest possible
contribution to United Nations institutions will wish to keep its national income figures as low
as possible.
National Product and Comparative Living Standards
Owing to all the points outlined above, careful use should be made of national product or
national product per capita or per head figures for the purposes of comparing living
standards. This becomes particularly important when we make the comparisons between
countries with different economic and social systems, or attempt to measure changes over
long periods of time.
When we talk about the standard of living, there are important aspects that cannot be
measured in terms of economic activity. A person may have a higher real income if
employed in 2010 than his/her mother had in 1990, but if they are unemployed and have little
prospect of employment, is their standard of living any higher?
Elements in the standard of living that are not included in any Gross National Product
calculations include opportunities for travel, for changing employment, freedom of speech
and religion, freedom to walk the streets without fear of violent crime, arbitrary arrest or
political coercion. Working hours and leisure time are also ignored as is the value of the
environment.
Some countries attach great importance to protecting their environment and preventing
pollution and other actions that degrade the physical environment, whereas in other countries
the environment may be ignored in both private and government decisions. The physical
environment may be so damaged and polluted that it damages people's health and reduces
living standards. Some countries, such as China and India, are currently achieving very high
rates of real economic growth using conventional measures of national income but at the
expense of large scale damage to their physical environments (including their supplies of
water).
Material living standards measured by real GDP per capita can increase at the same time as
the quality of life deteriorates and the former is the cause of the latter.
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Boom
Boom
upturn
downturn
Recession
Recession
Time
Maximum possible output can grow over a period of time due to:
Just as there is a maximum output level there is also a minimum amount of products and
services that a nation needs to consume a minimum consumption. In a recession there
has to be a bottoming out after which there is an increase in demand again.
Date
Duration
(Months)
Date
Duration
(Months)
23
13
11
24
10
23
10
18
11
14
16
13
43
16
13
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Between recession and boom the stage is called an upturn in the economy, demand
increases, growth in GDP occurs and businesses gain confidence. They begin to invest in
the business again.
After a boom there is a downturn in the economy, growth slows, demand falls and business
confidence dwindles.
The periods between boom and recession are not predictable. Some booms can be for
several years followed by a short recession. In 2008-9 the recession was deep and some
countries took two years or more before the upturn was detected.
However, as shown by the trend line on the graph over a long period, booms and recessions
even out to generally give a general rise in GDP.
The above table shows the pattern of recessions in the UK during the 20th century. It is
interesting to note that economics has not been able to predict booms and recessions in
many cases and could therefore be said to be an imprecise science based on these results!
Aggregate Demand
This is the sum of all demand in an economy:
Aggregate demand = Total expenditure on consumer goods & services (C)
+ government spending (G)
+ investment (I)
+ net exports (X M)
Net exports = Total exports (X) Total imports (M)
The equation is conventionally written as:
AD = C + I + G + (X M)
The trade cycle is affected by aggregate demand and this can change if any of the four
components that are used to calculate it alter:
Total expenditure will depend on consumer income and confidence if wages rise or
taxes are cut this will boost consumer confidence and they will buy more goods.
Amount of Investment depends on business confidence and interest rates low
interest rates encourage investment
Exports will decrease if the countrys currency is strong as goods will be too expensive
for other nations to buy and
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A change in goverment can also affect the aggregate demand for example, if an incoming
government was to seek to stimulate demand by lowering taxes and interest rates or to
increase government spending.
Random events can also affect aggregate demand. These can be national or international,
and may be political for example, September 11 and the 7/7 bombings in Central London
affected consumer confidence.
In a long boom period, continued fast growth can influence price rises and create inflation.
Recession means lower demand, resulting in rising unemployment, lack of growth and
investment.
Governments will adopt policies in an attempt to reduce inflation in a boom and stimulate
growth employment and investment during a recession to increase demand.
Managing inflation
Reducing unemployment
We shall look at each of these interventions in detail in the next section, after revisiting the
terms inflation, unemployment and balance of payments.
Inflation
Inflation is the term used to describe a condition of constantly rising prices. There are
several causes of inflation:
(a)
(b)
Inflation is a problem because it results in production and distribution systems becoming less
efficient since:
inflation creates a situation where consumer and business confidence reduces as there
is no constancy in the purchasing power of money.
In inflationary periods, savings lose their value and people who have saved for future needs
feel a sense of injustice.
If inflation is not checked, it increases in intensity until prices rise daily and all confidence in
money is lost.
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This condition of hyperinflation is usually associated with extreme political and social unrest
and uncertainty for the future. The best relatively recent example of hyperinflation was in
Germany in the 1920s, which caused social and political unrest providing the opportunity for
Hitlers rise to power. Germany recorded an astronomical inflation rate of 3.25 million percent
in a single month in 1923. Since the 1950s, hyperinflation has been confined to developing
and transition economies examples include Argentina (1989-90), Ukraine (1991-94) and
Zimbabwe more recently.
Trade difficulties are closely associated with inflation, which increases the prices of exports
and reduces the relative price of imports in world markets. Countries that have the most
severe rates of inflation find that their exports become more expensive and are difficult to sell
in world markets, while imports become cheaper and grow in volume.
Trade difficulties are detected in the structure of a country's balance of payments accounts
and are usually associated with deficits on the current account of the balance of payments
(see below).
Unemployment
Unemployment is an economic and a social problem.
Economic because production that could have been achieved is lost, since not all available
resources are employed in the production process. It is also social because generally work
is an important element towards a persons self esteem and standing in the community.
Someone who feels that they ought to be working, but who cannot find work can feel rejected
by society and sometimes resort to antisocial behaviour as a result.
Disequilibrium and Equilibrium Unemployment
Disequilibrium unemployment occurs when:
(i)
the aggregate (total) supply of labour exceeds the aggregate (total) demand; and
(ii)
there is a stickiness in wage rates such that those rates remain above the equilibrium
point where the supply of labour equals the demand.
Real wage unemployment where wages in a particular sector of the economy are set
above the equilibrium wage level due to legislation or by negotiated agreement
(perhaps by unions). This results in a reduced demand for labour as profits fall.
Equilibrium unemployment occurs where there are excess job vacancies in some parts of the
economy, but a lack of vacancies in others. There are a number of reasons for this:
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Seasonal unemployment which occurs when work is associated with events that
occur at particular times of the year. For example, people working in the tourist
industry in the UK are likely to be unemployed for most of the winter months, and
agricultural workers experience fluctuations in employment associated with the timings
of crop harvests.
Cyclical unemployment which occurs when demand in the economy is low and
there is a downturn in the business cycle, with workers laid off. Cyclical unemployment
particularly affects workers in the building industry, who will be re-employed in an
upturn in the economy.
Measuring Unemployment
Unemployment is usually quoted as a number of people or as a percentage of the working
population (or labour force).
Labour Force = employed people + unemployed people
In the UK, the unemployment figures are based on the number of individuals claiming
unemployment benefit. The method of measurement changes from time to time.
The International Labout Organisation (ILO) defines unemployed people as people of
working age without work who are available to take up a job offer within two weeks and who
are actively seeking work or waiting to take up an a work position they have been offered.
Countries have different ways of calculating their unemployment rate so it is difficult to
compare figures.
Regional Problems
In the United Kingdom and in other countries,the problems associated with inflation and
unemployment do not affect all areas of the country equally.
In the UK there is north-south divide. The south of England is much richer than the north.
The City of London as a prime global financial services centre has a marked effect on this
divide. In the southern areas of the UK, inflationary pressures seem to be greater, whereas
unemployment is generally more severe in the northern areas. In the less industrialised
regions or areas with a less developed service sector, the unemployment rate is likely to be
higher. A lot of manufacturing industry was based in the north of England in the early 20th
century but as this declined, services did not fill the void.
In Italy the divide is the other way around, a rich industrial economy in the north and a poor,
mainly agricultural economy in the south.
Think Point
Is there a regional divide in unemployment in your country?
Unemployment can be seen as both an economic and a social problem. What are the
implications of a regional divide in terms of both economic activity and social issues?
Regional differences in unemployment mean that certain areas have failed to develop as
successfully as others. Production is being lost to other parts of the country and this can be
self-perpetuating, with a lack of investment and the underuse or inefficient use of available
scarce resources.
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It also causes social problems and political discontent since individuals and groups tend to
think that they are well off or badly off, according to the comparisons they are able to make
with other people. Standards of living, based purely on disposable income, are generally
much lower in the north of England, although the pace of life tends to be slower and the
community is more intact.
Where there are such problems this can invoke large scale movement of people from one
region to another to find employment and this is a further possible cause of social unrest.
Families are divided and pressures build up on housing and other services in the more
prosperous areas. In the UK, migration to the south has been significant, although many
workers will commute south on a weekly basis rather than move away from their families and
communities. Of course another factor is the very high cost of property and of living in the
south compared with that in the north of the country.
Balance of Payments
A countrys balance of payments is a record of all the money flows from transactions
between that country and the rest of the world.
Current Account
This account records
(b)
(i)
(ii)
incomes flowing in and out of the country wages, dividends on shares, profits
(iii)
net transfers of money, such as money sent abroad from migrant workers or
support for, say, students in the UK received from abroad.
Capital Account
This records flows of money into (+) and out of () the country that are associated with:
(c)
(i)
(ii)
(iii)
(iv)
receipt of payments from other bodies for capital projects in the the country (such
as money received for capital projects in the UK that were funded by the EU.
Financial Account
The financial account records cross border changes such as:
(i)
shares
(ii)
property
(iii)
(iv)
government securities.
These are funds for the sale and purchase of fixed assets
For a balance of payments to actually be in balance, credits must equal debits.
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When the inflows of funds on the current account are less than the outflows, there is a
balance of payments deficit. Similarly if the inflows of funds are greater than the outflows,
there is a balance of payments surplus.
When the balance of payments is in deficit this may affect the exchange rate of the currency.
For example if there were a current account deficit in the UK, the demand for foreign
currency to pay for imports will be greater than the demand for sterling by customers
overseas to pay for exports. As a result the exchange rate of sterling will fall. This means that
imports to the UK will become more expensive and exports will be cheaper for overseas
customers.
When the balance of payments is in surplus the opposite situation will arise and the value of
the currency will rise. Then imports will become cheaper and exports more expensive.
Fiscal Policies
Fiscal policies relate to the use of government spending and taxation as instruments to
influence the economy.
The origin of this type of strategy is the work of John Maynard Keynes, a UK economist who,
in 1936 at the height of the great depression, published a book entitled General Theory of
Employment, Interest, and Money. The main theme of the book was that the aggregate
demand created by households, businesses and the Government was the most important
driving force in an economy, not the dynamics of free markets. His theory also states that
free markets have no self-balancing mechanisms that lead to full employment.
Keynesian economists urge and justify a government's intervention in the economy through
public policies that aim to achieve full employment and price stability.
These ideas have greatly influenced governments across the world into accepting a
responsibility to provide full or near full employment through measures that stimulate
aggregate demand. Keynesian economics established the following principles.
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(b)
If the economy is growing too quickly and there are inflationary pressures with prices
rising rapidly, the Government may reduce government expenditure and increase taxes
to reduce aggregate demand. This is a deflationary fiscal policy (also known as a tight
fiscal policy).
In the USA, President Obama implemented spending programmes such as Dollars for
Dishwashers in the hope of stimulating the economy. The idea was that consumers
would trade in old dishwashers and receive a rebate when they bought a new one,
stimulating production. Obama also attempted to create jobs through the American
Recovery and Reinvestment Act, another government stimulus package intended to
create jobs and promote investment and consumer spending during the recession.
In the UK, the government scrapage scheme for trading in cars 10 years or older, with
a 2,000 rebate given for the traded in vehicle, was a similar attempt to stimulate
growth in the rapidly declining car manufacture sector.
The Government's budget may show a deficit because government spending exceeds
the amount collected in taxes.
(b)
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Keynes believed that this was a necessary short term measure to stimulate the economy.
He also believed that the amount invested had a multiplier effect on growth for example:
In recent times most governments have run budget deficits. A budget surplus will occur only
if level of taxation collected is greater than government expenditure.
Limitations of Fiscal Policy
The Government may decide to deliberately alter expenditure or taxation levels, such action
is termed discretionary fiscal policy. Fiscal policy does, to some extent, automatically have
an effect on stabilising the economy through changes in expenditure and taxation. However,
this cannot prevent fluctuations it can only reduce their scale.
Cutting taxes has less effect on GDP growth than raising expenditure since:
Raising expenditure tends to ensure that all the money is spent and GDP rises
significantly, but
Lower tax rates will increase the disposable income of consumers but there is no
guarantee that all of the increase will be used to consume more goods/services.
The effect of fiscal policy on GDP, unemployment and inflation is very difficult to forecast for
the following reasons.
Crowding out
If the Government raises expenditure by xm, this action may lead to injections into the
economy of less than xm. This is because other types of injection into the economy
may decrease at the same time for example business investment. Check this by
looking back at Figure 5.3.
The Government will increase the budget deficit by increasing expenditure, but it will
have to either increase the supply of money to do this, or alternatively it can borrow
money from individuals and firms. When it borrows money it will compete with the
private sector to raise its finance from similar sources, resulting in an increase in
borrowing interest rates and so depressing the amount businesses will wish to borrow
and hence invest into the economy. This action is said to crowd out businesses from
borrowing and individuals from buying products/services on credit. Ultimately the
increase in government expenditure could be negated by the lack of consumption and
the fall in business investment.
Taxes
It is also not easy to predict how a change in taxes will affect savings, If individuals feel
that a cut in taxes is only temporary, or they lack confidence in the future for some
reason, they may not consume all of the additional disposable income.
Fiscal Rules
The UK, like many other governments is less likely to change fiscal policy automatically each
time the economy is in recession or boom. Instead, it will set a rule for the level of public
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finances, usually annually. Government expenditure and taxation levels are then adjusted to
meet the level of public finances required.
Monetary Policies
Monetary policy is fundamentally concerned with managing the money supply. It involves
government using interest rates and other monetary tools to influence the levels of consumer
spending and Aggregate Demand.
In many countries, the Government sets a target for the rate of inflation and the Central Bank
must adjust interest rates to keep within this target rate. The Government will also other
monitor other macro-economic variables such as growth and unemployment.
In the UK, monetary policy is set by the Bank of Englands Monetary Policy Committee,
which is independent of the Government. If the Committee fails to keep inflation within the
target rate of 2% they must confer with the Chancellor of the Exchequer.
How does Monetary Policy Work?
In the UK, the Bank of England studies inflationary trends in the economy. This involves
looking at a range of economic variables such as:
Unemployment
Consumer confidence
House prices
Economic growth.
(a)
Stimulating growth
The Government or central bank will increase the money supply to stimulate growth in
a recession. Lowering interest rates is aimed at increasing the demand for money
which then flows into the economy, increasing its supply to stimulate investment,
consumption and growth. Quantitative easing, or simply printing more money, is one
method of increasing the amount of money in the economy.
(b)
Reducing inflation
Increasing interest rates is intended to have the opposite effect decreasing the
money supply and reducing inflation. The Government can also sell government
securities on the open market, which are bought by investors who take money from
their banks to purchase the securities. This results in the banks having lower reserves
and, therefore, there is less money in circulation.
If interest rates are higher, businesses will find their costs of borrowing rising and they
will be less likely to increase investment, and may lay off staff.
An example of use of Monetary Policy occurred during the 2008 -2010 when both the UK and
the USA introduced quantitative easing as a part of monetary policy in an attempt to ease
the effects of recession. This involved creating money electronically to buy assets (such as
government bonds from banks).
Limitations of Monetary Policy
Interest rate rises may not have the desired effect on decreasing demand for money until
they have risen to a high level. Fluctuations in the demand for money also make managing
aggregate demand through interest rates difficult. Speculation about exchange rates,
interest rates and inflation add to this.
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However, using interest rates as a means of controlling inflation has come to be accepted
globally as an indication that a government is serious about keeping inflation under control.
The EU, for example, also has a target inflation rate which it controls by altering interest
rates.
The UK Coalition (Conservative and Liberal Democrat) government in 2010 and the
Margaret Thatchers Conservative government in 1979 reduced the public sector
massively. They perceive the public sector as being inefficient, and look to encourage
growth by stimulating supply in the private sector through better use of resources.
Such governments encourage increases in aggregate supply by rewarding individual
enterprise and initiative. Conservative governments in the UK have also seen this as a
way of reducing public expenditure and reducing the size of the public sector.
Governments often give direct incentives and rewards to businesses, for example:
Cuts in the taxation of company profits (Corporation Tax) which increases the
after tax profits of the business.
Restricting the power of trade unions to improve pay and conditions can be used as
another means of ensuring that private sector firms profits are sustained or improved.
In the Thatcher era, laws were passed to prevent strikes, picketing and closed shops.
Labour mobility can be improved by offering the unemployed advice, work experience
and training, and by providing better information on job vacancies.
Privatising nationalised firms such as rail, electricity and other utilities and
telephone
Introducing private sector (or free market) practices into public sector
departments
Using private businesses to carry out government projects and then maintaining it
on completion called a Public-Private Partnership.
Increased competition in general also reduces the power of unions, and globalisation
has created increased competition and has impacted significantly on the power of
unions, particularly in developed industrialised countries.
Activity 3
Summarise the main advantages and disadvantages of Fiscal and Monetary Policies.
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SUMMARY
Countries make decisions about how production will be managed. This will usually be
Market economy where supply and demand dictates the decisions which are made
by private business owners
A mixed economy which has elements of both systems as the State will wish to
produce goods and services that it considers vital for the community.
Gross National Product (GNP) which takes into account all products and services
produced and purchased by the countrys citizens wherever the live.
(b)
Gross Domestic Product (GDP) which is the market value of all final goods and
services produced and purchased within a country during a given time period. There
are two ways to measure GDP:
Real GDP is the value of production using a given base year prices, here
presented at constant (2005) market prices measured in millions of British
pounds.
GDP per capita is calculated by dividing either nominal or real GDP for a given year by the
population in that year. These numbers can be thought of as the average share of output per
person.
Calculations of GNP and GDP are useful for comparing the economic health of different
countries, but these should be use with caution as they may be calculated in different ways.
Governments intervene in the economy to manage unemployment, inflation, manage growth
and control the balance of payments. The main methods used in an attempt to control these
factors and so reduce the booms and recessions of the business life cycle are fiscal and
monetary policies.
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ANSWERS TO ACTIVITIES
Activity 1
(a)
(b)
Aspects typical of a centrally planned economy are shown by the following quotes:
state holding enterprises account for roughly half of all (non property) urban
investment in fixed assets
Olympic games demonstrated the power of the state to mobilise resources and
sweep away obstacles to its policy objectives. There was phenomenal public
expenditure on the games, the government ruthlessly cleared residents from
large areas of Beijing and heavy industries were shut down in a desperate
attempt to reduce air pollution for the duration of the games
the state has effectively retained control of former SOEs......that at any time the
Party can regain control if necessary
SASAC are powerful agencies of State control...authority over 196 key firms
inherent conflict with the Communist Party over appointment power....makes all
key appointments in the State Sector
The evidence here suggests there is only a very slow move away from the planned
economy. The signs of market economy described in this article are few:
Activity 2
(a)
GDP is the total market value of goods and services produced within the borders of a
country regardless of the nationality of those who produce them.
GNP is the total market value of goods and services produced by the residents of a
country, even if they are living abroad.
(b)
(c)
(i)
(ii)
There are different ways of measuring GDP at market prices and true
cost. The GDP per head may be based on different calculation method
The growth in population may have been greater than the growth in GDP.
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Activity 3
Fiscal Policies
Advantages
Disadvantages
Disadvantages
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Chapter 6
Governments and Business
Contents
Page
Introduction
141
A.
Pressure Groups
What is a Pressure Group?
Lobbying
Pressure Groups and Business
The Trade Unions as a Pressure Group
141
141
142
142
143
B.
143
143
146
C.
146
146
147
147
148
149
150
D.
151
151
152
153
154
E.
154
154
155
156
156
(Continued over)
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Summary
159
Answers to Activities
160
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INTRODUCTION
Chapter 5 concentrated on the use of fiscal monetary policies to manage the economy.
In this chapter the focus is on the reasons national governments intervene in the business
activities of firms at the micro-economic level and the forms that this involvement takes.
The extent to which governments intervene in the economy depends on their political
agenda. This will determine how much and in what ways it becomes involved.
As we discussed in Chapter 5, socialist governments favour a larger role for the State
than a non-socialist one. The State acts as both a regulator and a producer.
In non-socialist governments, there is a smaller State role and firms are encouraged to
improve operations in a free market environment.
A. PRESSURE GROUPS
Firms interact with government in various ways in order to influence policy on matters
relating to the operation of their business for example, on the extent of proposed new
legislation.
Acting on their own, very large organisations are likely to have the greatest influence on
government policies. This may result in being of advantage to business generally. However,
since some multi-national companies have a turnover greater than the GDP of single
countries, many perceive this as business practice being too powerful and potentially
damaging to society as a whole. Also acting on their own, some large organisations are
government suppliers and have direct contact with ministers, and so have a powerful
negotiating position. There is no guarantee that these firms will persuade government to
take certain actions or desist from others, but normally that their view will be considered
along with those of others.
More usually, though, businesses work together to influence the actions of governments, and
the groups which are formed to pursue this come under the general heading of pressure
groups.
Shelter - aim to help homeless people and promote policies to address their problems
These groups act on Governments to try and influence their policies, but perhaps one of the
most successful pressure groups of recent times was CAMRA the Campaign for Real Ale,
which campaigned against the practices of the large breweries in the 1970s in what they saw
as changing the nature of beer in the UK. Within a few years, its high profile campaigning
had such an influence on consumer behaviour (independent breweries selling "real" beer
flourished and the big breweries started losing trade) that there was a complete about-turn
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among the large breweries, who started producing traditionally brewed beer again
themselves and also selling the produce of independent breweries.
The activities used by pressure groups varies with the nature of the cause and the bodies
they are trying to influence. They can exert direct pressure on these bodies through letters,
petitions, demonstrations and direct actions against particular sites or activities (which,
although usually illegal, can be particularly effective). However, most pressure groups also
aim to build public support for their cause through these activities, as well as various
publicity campaigns, as a means of getting their cause recognised as both valid and widely
supported.
Lobbying
When established pressure groups want to influence the decisions of governmental policy
makers, there is the option of direct approaches to the people involved in the decision
making process.
Lobbying is the practice of individuals and organisations trying to influence the opinions of
MPs and Members of the House of Lords. Methods of lobbying vary and can range from
sending letters, making presentations, providing briefing materials and organising private
meetings.
In the UK, anyone can lobby a Member of Parliament or a Member of the House of Lords,
including:
groups of constituents
commercial organisations.
MPs and Lords are the target of many different lobbying interests, attempting to persuade
them to vote a certain way on a specific issue. Whilst, their decision will ultimately be down
to their own judgement and the influence (if any) that existing party policy has on them,
lobbying remains an important method of influencing government policy and decision
making. Indeed, there are firms specialising in lobbying and these are often employed by
large organisations to advance their own interests.
The same processes operate at local level where local councillors may be lobbied on matters
of interest to local constituents and businesses.
Corporate governance
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Social responsilibility with regard to the environment and the well-being of people
affected by a firm's actions
Ethics.
143
Lobbying the Government to implement policies that will benefit people at work
Representing British workers in international bodies, in the European Union and at the
UN employment body the International Labour Organisation
Union representatives work voluntarily in the workplace to support their colleagues at work.
Members receive assistance, support and representation on a range of issues from achieving
a better work-life balance to improving access to training and skills.
Although their power to influence the employer has been much reduced in the UK, the unions
still have a major role in some organisations and have contributed much to training and
development initiatives in recent years.
Marginal Social Benefit (MSB) is seen as an extra benefit to society from producing (or
consuming) a good or service'
(b)
Marginal Social Cost (MSC) which is the cost to society of producing (or consuming) a
good or service. This cost includes all aspects both financial and non-financial.
Socially efficiency occurs when Marginal Social Cost = Marginal Social Benefit.
A practical example of this concept is to assess the social efficiency of building a high speed
rail link between London and Birmingham, which goes through the countryside. Is the cost to
the environment, of taking away the publics leisure activities in that countryside and
residents' quality of life, plus the financial cost, greater than the benefit of passengers
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journey being one hour shorter than at present? If the marginal social cost is calculated to
be higher this project will be socially inefficient.
All governments intervene in business to ensure that social efficiency results, an outcome
which firms would not pursue if they were able to make their own decisions on this matter.
Imperfect Information
A perfect market is only possible if there is perfect knowledge of all the costs and benefits
that affect the individual. This is one of the basic assumptions about the operation of free
markets. However, it is rarely true.
Often a consumer will purchase a good or service without really understanding its features
until it has been used. The lack of accurate information may be worsened by the way that
firms market their products or services.
In business, firms are usually not well informed about their competitors, market opportunities,
costs and the potential productivity of their employees. Business forecasting is made in
conditions of uncertainty and ignorance about the future.
Type of Market Failure
There are two main types of issues which the market cannot efficiently deal with and require
some form of government intervention.
(a)
Externalities
When producers or consumers take actions that affect other people, but not
themselves, these effects are known as externalities. There are good and bad
externalities:
A good production example could be planting new trees which benefit the community in
many ways such as the visual impact, the exchange of carbon dioxide and oxygen in
the air and a haven for wildlife.
For consumption a desirable externality is car sharing when three or four people go to
work together in one car, reducing the traffic congestion as a result and making
travelling easier for others.
The provision of street lighting in an urban area is funded by local government, which in
turn raises revenue from local taxation. The residents of the area in which the lighting
is installed benefit from it through greater physical safety and less risk of road
accidents. However, others will benefit, such as people from other districts and towns
who did not pay for the lighting but nevertheless gain some advantage from it.
Bad examples include firms dumping used tyres in a private parking area, factories
dumping waste into rivers, air pollution from cars and factories and so on. The local
council has to pay to have these types of situations rectified; the cost is incurred by the
community and not by the firm. Individuals also cause externalities; examples of
consumption are dumping, excessive noise in public places, litter etc.
Since nobody owns rivers or the air, no individual or group can be charged for cleaning
them so the cost is borne by society; it is a social cost.
(b)
Public Goods
These are goods that are not practical or profitable for any private firm to produce and
can only be provided by the Government or by the Government paying private firms to
produce the goods or service.
(i)
Merit Goods
Merit goods and/or services are those of benefit to the public , but which are
likely to be under-produced or provided for by the private sector. Education,
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community centres and libraries are services that the government perceives the
public may consume too little of if decisions on levels of supply were left to the
free market.
The government, acting in the publics interest to ensure they consume sufficient,
can either provide them free or give subsidies.
(ii)
Demerit Goods
On the other hand when there are goods that people consume which the
government consider harmful, such as smoking and drinking alcohol, they act in
an attempt to decrease consumption, perhaps through taxation. These are
termed demerit goods.
Activity 1
(a)
(b)
Which of the following externalities are positive and which are negative, and why?
(i)
Litter
(ii)
(iii)
(iv)
Drinking alcohol
Consider the following short case study and then answer these two questions:
(i)
What is the externality that the UK government is trying to address using this
policy?
(ii)
What are the negative implications of the immigration cap for British and
Japanese firms?
Japanese Firms Lobby British Government
to Rethink Immigration Plans
Japanese firms are threatening to review future investments in Britain if the
Government goes ahead with plans to put an annual cap on immigration
levels.
Company bosses have told ministers that moves to limit the number of skilled
citizens from outside the European Union that can be employed in Britain will
seriously harm their businesses. Japanese firms are particularly concerned
about plans to curb the number of senior staff who can be transferred from
Japan on a short term basis, or intra-corporate transfers (ICTs), as well as
limits on recruiting skilled staff from outside the European Union.
The new centre-right Coalition government has decided to impose a cap on
immigration due to growing concern that non EU citizens are taking jobs that
could be done by skilled British people.
An interim cap was previously only imposed on skilled workers, but ICTs are
currently exempted. A new cap is planned for next year and ministers are
consulting on the size of the cap and which sectors should be covered,
including possibly ICTs.
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Anti-competitive Behaviour
We examined anti-competitive behaviour in Chapter 4. This behaviour is typical of some
powerful large suppliers and often results from collusion between them to fix prices. In turn
the consumer is forced to pay the asking price. Some governments do not condone this
activity and instigate legal means to minimise it.
The present UK legislation will be examined later in this chapter.
Use of resources
Environmental damage
Advertising legislation
Product safety.
Governments adopt policies to adapt the market to offset the failures in these areas and
there are three main methods of intervention:
Taxation
Subsidies
Taxation
Apart from its role in raising revenue to fund government expenditure, taxation is also used to
encourage either:
Lower consumption of those goods and services which are deemed harmful.
Thus, tax on cigarettes is used in an attempt to encourage people to stop smoking,
which is both bad for the health of individual consumers, but also has an externality in
passive smoking which results in injury to the health of others and induces extra costs
to the National Health Service.
Lower production of those goods and services which the market produces in excess of
what is required or deemed appropriate.
Thus, green taxes have been introduced by governments in an attempt to reduce
environmentally harmful practices. These have become an increasing concern to
members of the public with issues such as acid rain, air and land pollution and climate
change now under scrutiny.
Globally, green taxes and charges cover many different situations including:
Fuels for example, leaded petrol being taxed more heavily than unleaded
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To be fully effective the charge or tax should be equivalent to the degree of marginal extra
cost that it causes although this is not usually the form it take (see legislation and regulation
below).
Activity 2
Find out what green taxes your country imposes.
Subsidies
Subsidies are used to incentivise production of goods and services when the market is likely
to produce too little.
A very good example is the EU system of subsidies for agriculture the Common Agricultural
Policy (CAP). The EU agricultural policy continues to evolve. In the 1950s it focused on
providing enough food for the European population, emerging from over 10 years of warinduced shortages. It subsidised food production and brought up surplus production. Now
the policy is used more selectively and helps farmers when they are faced with natural
disaster or when their production is halted because of diseases such as foot and mouth.
When subsidies are awarded they are dependent on compliance with broader objectives
such as farm hygiene, food safety, animal health and preservation of traditional rural
landscapes.
(b)
Advantages
Taxes force firms and individuals to become more aware of the social cost of the
externalities they cause. They also encourage firms to improve practice such as
lowering their pollution levels by changing working methods and/or equipment.
Disadvantages
It is difficult to assess the cost to the public caused by each externality, whether
this is caused by a firm or an individual.
There is no way of measuring the longer term effect of various forms of pollution
so that their cost to society cannot be accurately assessed.
In the past the European Union has continued to pay subsidies to farmers for
producing foodstuffs such as beef and milk. Stockpiling these foodstuffs kept prices
unnaturally high and there was a great deal of public opposition to the continuance of
this practice.
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Prevent firms from producing products which are harmful to individuals and/or society.
We shall examine two such forms of legislation in respect of consumer and employee
protection below.
Regulation is primarily used to regulate the activities of monopolies or oligopolies such that
they do not exploit their position in the market to act against the interests of consumers. This
has generally taken the form of discouraging firms from adopting anti-competitive practices,
particularly in respect of prices. Thus, in the UK, privatised former nationalised industries
such as rail, telephone, gas, water and electricity are now regulated by the Government.
Each has a watchdog regulator to which the consumer can complain if the firms try to raise
prices above inflation for example, Ofgem is the regulatory body for the gas and electricity
industry.
A general regulatory body is the Office of Fair Trading (OFT). The OFT's mission is "to make
markets work well for consumers. Markets work well when businesses are in open, fair and
vigorous competition with each other for the consumer's custom. It offers the public
information and advice on subjects such as product safety, consumer debt agreements and
appraises mergers and acquisitions.
The Competition Commission is the public body in the UK that is responsible for reporting on
cases referred to it by the OFT on anti-competitive agreements or abuse of a dominant
market position.
Control of Environmental Issues
Command and control (CAC) regulation has traditionally been used to control environmentrelated issues. Under this, specific guidelines are given by a government on how to comply
with mandatory requirements about, for example, emissions levels. Thus, a maximum limit
on emissions is imposed with firms being subject to inspection and failure to keep within the
specified limits resulting in substantial fines.
The main disadvantages of CAC are that it is a costly method to enforce and it does not
provide any incentive to reduce levels below the maximum permitted.
An alternative is pollution taxes, such as the landfill tax. This is a more effective deterrent in
that the firm gets charged for the amount of pollution it generates the lower the pollution the
lower the tax bill. The other advantage is that it encourages firms to invest in cleaner
technology to reduce emissions.
Another form of regulation which has gained popularity in recent years is the concept of
tradable permits. These work on the basis of a firm paying a fee for the amount of pollution
it produces above the permitted limit. However, if it reduces its level of pollution below the
limit, it receives what is known as a tradable credit. This can then be sold on to another firm
that has exceeded the limit. There are permits for each type of pollution waste disposal,
emissions into the air or water, etc. This practice links well to the CAC method and is
regulated by the market.
Think Point
What disadvantages might there be with tradable permits?
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The main problem is that the overall level of pollution may not change. In addition, pollution
could become concentrated in one geographical area. The practice may reduce the
incentive for dirtier factories to reduce their pollution.
Consumer Protection
There are a number of laws intended to protect the consumer against unfair practices. The
main ones for the UK are summarised below.
(a)
(b)
(c)
internet
digital television
phone
fax.
(d)
giving the consumer a right to a "cooling-off" period of seven working days within
which they can cancel the purchase.
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(e)
(ii)
The laws contained in the CA98 and Articles 81 and 82 of the EC Treaty are similar, but
not the same:
Articles 81 and 82 prohibit anti-competitive behaviour that affects trade in the EU.
Businesses that break the law can be fined up to 10% of their worldwide turnover
and third parties (including injured competitors, customers and consumer groups)
can bring damages claims against them.
Employee Protection
Government regards the rights of employees as an important area where some employers
would fail to act reasonably.
The basis of the legal relationship between an organisation and its employees is that of a
contract of employment (a voluntary agreement into which employer and employee freely
enter under the terms of common law). Both sides have a duty to behave reasonably and
responsibly.
There should be a legal framework to ensure the fair treatment of employees at work
and to prevent discrimination on various grounds.
The interests of employees are sometimes channelled through trade unions, although this
has become less usual in recent years as UK legislation concerning trade union activities has
considerably weakened their involvement.
Firms, through their managers, need to ensure that they do not discriminate unfairly in the
decisions or actions that they may take in regard to employees, whether prior to or during
employment.
In the next section we consider the existing legislation which has been made to protect the
interests of employees.
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Sex/gender including people who are having or who have had a sex change,
transvestites and transgender people, and also covering pregnancy and maternity
Race/ethnicity
Disability which includes mental health and people diagnosed as clinically obese
Sexual orientation covering people who are gay, lesbian, bisexual or transgender.
Under the Equality Act 2010, these categories are termed "protected characteristics".
This Act combines and replaces most of the previous discimination legislation. The word
"discrimination" itself can be seen as having negative associations and has been replaced, in
some instances, by the term "less advantageous treatment" which perhaps has a broader
interpretation.
We shall consider the application of this term first, and then go on to review other aspects of
equality in the workplace.
Dismissal.
The main forms of discrimination which may occur within these categories are:
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Note that the law applies not just to the actions which employers do take, but also to the
actions they omit taking.
Claims Against an Employer or a Potential Employer
In the event of a claim, the burden of evidence is upon the employer to prove that the person
was treated fairly the organisation must demonstrate fair and equal treatment in the case of
a claim of discrimination.
The legislation applies from the moment an individual has contact with an organisation as
s/he does not have to be employed currenty to be able to make a claim. This may apply, for
example, in respect of applications for employment.
It is not necessary for a claimant to demonstrate that the organisation committed unlawful
discrimination. They can claim if they suspect that treatment was for unlawful reasons.
Firms should keep complete written documentation on every aspect of interaction with the
employee or potential employee to protect their interests.
Equal Pay
This issue forms part of the Equality Act 2010. Although legislation dating back to 1970
has addressed it, this has had limited effect in bringing the pay of women in line with
that of men, as shown by in Figure 6.1.
Figure 6.1: Gender UK Pay Gap
Pay gap between women's and men's median hourly earnings excluding overtime
(employees on adult rates, pay unaffected by absence)
30
25
All
Percentages
20
15
Full-time
10
5
0
Part-time
-5
-10
1997
1999
2001
2003
2005
2007
2009
Like work
This is relevant when a woman can show that she is doing the same, or very
similar, work as a man that is, where two people of different sex are doing
exactly the same job.
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A good example of this is two teachers, one male and one female, each teaching
the same subject to children of the same age in either the same or different
schools. If the work is the same, so should the rate of pay.
Disability
The Equality Act 2010 aims to protect disabled people and prevent disability discrimination.
In addition to employment rights, it provides legal rights for disabled people in the areas of:
Employment
Education
Access to goods, services and facilities including larger private clubs and land based
transport services
The Act also provides rights for people not to be directly discriminated against or harassed
because they have an association with a disabled person. This can apply to a carer or
parent of a disabled person. In addition, people must not be directly discriminated against or
harassed because they are wrongly perceived to be disabled.
Definintions
Under the Equality Act 2010, a person has a disability if:
The impairment has a substantial and long-term adverse effect on his/her ability to
perform normal day-to-day activities.
For the purposes of the Act, these words have the following meanings:
'Long-term' means that the effect of the impairment has lasted or is likely to last for at
least twelve months (there are special rules covering recurring or fluctuating conditions)
'Normal day-to-day activities' include everyday things like eating, washing, walking and
going shopping.
Individuals who have had a disability in the past that meets this definition are also protected
by the Act.
There are additional provisions relating to people with progressive conditions. People with
HIV, cancer or multiple sclerosis are protected by the Act from the point of diagnosis. People
with some visual impairments are automatically deemed to be disabled.
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Some conditions are specifically excluded from being covered by the disability definition,
such as a tendency to set fires or addictions to non-prescribed substances.
Adjustments to Working Conditions and Practices
Legislation specifies there is a duty to make reasonable adjustments for disabled people.
This applies in cases in which an individual would be at a substantial disadvantage compared
to a non-disabled individual if the adjustment was not made. Such adjustments include
adaptating the premises, part time or modified work schedules and provision of readers,
personal assistants or interpreters.
The Disability Equality Duty
In addition to the less advantageous treatment considered above, since December 2006 all
public sector organisations have had a legal duty to promote equality of opportunity for
disabled people. Public sector organisations include:
Hospitals
Police forces
The Disability Equality Duty (DED) covers everything public sector organisations do,
including policy making and services that are delivered to the public.
Dismissal
Employees should only be dismissed if, despite warnings, conduct or performance does not
improve to the required level within the specified time period. Dismissal must be reasonable
in all the circumstances of the case.
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Unless the employee is being dismissed for reasons of gross misconduct, s/he should
receive the appropriate period of notice or payment in lieu of notice. Legislation in the UK
lays down minimum periods of notice.
Can an Employer Dismiss without Notice?
Employers should give all employees a clear indication of the type of misconduct that, in the
light of the requirements of the employer's business, will warrant dismissal without the normal
period of notice or pay in lieu of notice. So far as possible, the types of offences which fall
into this category of 'gross misconduct' should be clearly specified in the rules, although such
a list cannot normally be exhaustive.
No dismissal should be instant. A dismissal for gross misconduct should only take place after
the normal investigation and disciplinary meeting to establish all the facts. The employee
should be told of the complaint and be given the opportunity to state their case, as in any
other disciplinary meeting. The employee has the right to be accompanied at any such
meeting.
What is Gross Misconduct?
Gross misconduct is an action generally seen as serious enough to destroy the contract
between the employer and the employee, making any further working relationship and trust
impossible. It is normally restricted to very serious offences, for example, physical violence,
theft or fraud, but may be determined by the nature of the business or other circumstances.
Except in very exceptional circumstances, the full three-step statutory procedure (written
statement, hearing and appeal) should be used before deciding whether to dismiss.
Redundancy
Redundancy is dismissal which is not related to the conduct or capability of the individual or
to retirement or resignation. It may apply only if:
the purpose for which the employee was recruited is no longer required
The employer must carry out this procedure with a view to reaching agreement with
appropriate representatives on these issues; it must not be pretence, even when the
employees to be made redundant are volunteers.
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These procedures must be completed before any redundancy notices are issued. In the UK
there are statutory minimum time limits. The consultation process should precede any public
announcement of the redundancy programme and notices of termination should not be
issued until consultation has been completed.
Unwarranted actions or comments which are detrimental to the recipients dignity, such
as being isolated and contributions being ignored.
Note that, in both these circumstances, it is the perception of the recipient which is key to
determining whether the actions/comments complained of constitute harassment.
Victimisation is the act of the employer treating someone less advantageously because of
some characteristic unrelated to the reasons for the treatment complained of. This may be,
for example, because he/she had previously complained about a discriminatory act or had
supported someone else who had complained, or for trade union activities.
ensuring that plant and machinery are safe and that safe systems of work are set and
followed
ensuring that articles and substances are moved, stored and used safely
giving workers the information, instruction, training and supervision necessary for their
health and safety
The extent of the issue and the cost to employers and employees are demonstrated in the
figures released by the UK National Statistics Office in its 2009/10 Annual Report:
1.3 million people who worked during the last year were suffering from an illness (long
standing as well as new cases) they believed was caused or made worse by their
current or past work. 555 000 of these were new cases
152 workers were killed at work a rate of 0.5 per 100 000 workers
121,430 other injuries to employees were reported under RIDDOR (see below) a rate
of 473 per 100 000 employees
233,000 reportable injuries occurred, according to the Labour Force Survey a rate of
840 per 100 000 workers
28.5 million days were lost overall (1.2 days per worker) 23.4 million due to work
related ill health and 5.1 million due to workplace injury.
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Hazardous substances
Noise
The Act was last updated in 2006 and its full content can be viewed at the HSE website.
Most of the developments in Health and Safety in the UK are now driven by European
legislation. Employers are required to keep records of all incidents as mentioned earlier.
The HSE provides information on the different types of records and explains exactly what the
employer needs to record and why.
Complementing Health and Safety legislation are Codes of Practice. These codes offer
practical advice to employers and others. Failure to comply with a code is not an offence in
itself.
Employers are expected to provide safety training. There are three methods of doing this:
On the job via colleagues and managers; at team meetings and in appraisals.
Through specialist training for those moving into jobs which are particularly vulnerable.
Many firms now use short videos which are viewed regularly by employees so that they are
reminded of the key points. Since there is a relatively high proportion of workers in the UK
who do not speak English as a first language, videos in the form of cartoons which
demonstrate the safety aspects simply are used to communicate all the key messages to
employees of all nationalities.
Trade Unions and Health and Safety
A recognised trade union has a legal right to appoint safety representatives and managers
must consult with these representatives. They can inspect, investigate complaints,
communicate with an HSE inspector and sit on the local H&S committee. The employer is
obliged to allow them reasonable time off for their activities, for training and cannot ban
someone from being a representative.
The HSE supports the role of unions and other employer health and safety representatives in
their contribution to maintaining and improving health and safety in the workplace. It
provided the TUC with the Brown Book (Safety Representatives and Safety Committees
Regulations 1977, Approved Code of Practice and guidance) for training purposes.
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One where the employee can choose freely how long s/he will work for example, a
managing executive
In the armed forces, emergency services and police, although only in particular
circumstances
Anyone over 18 years of age can opt out of the 48 hour a week restriction, but this must be a
voluntary action and not applicable to all the firms workforce. Employees cannot be sacked
or unfairly treated for refusing to do so.
Activity 3
Answer Yes or No to the following questions, and note the reasons for your answers:
(a)
(b)
(c)
(d)
(e)
(f)
(g)
(h)
Do you have any rights when you buy goods from the internet?
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SUMMARY
Business and individuals interact with government in an attempt to exert influence on
government policy affecting business.
Pressure groups use a variety of means to attract the attention of other members of the
public and to influence the actions of businesses and the government.
Businesses also attempt to influence government decision making through their role as
suppliers to government, or by direct representations using professional lobbyists or
intermediates such as their trade association.
Governments intervene when the market fails to provide goods and services that the public
needs.
It will examine the social efficiency of goods and services produced and will try to limit
the amount of market failure.
Externalities are a result of market failure and can be positive or negative. If the
marginal social cost of a good/service is greater than the marginal social benefit then
the externality will impact on the public in a negative manner.
Government intervenes in the activities of businesses in the interest of public well-being and
safety. It imposes legislation, taxes or subsidies in an attempt to discourage poor practice or
encourage better practice.
Taxes are often imposed to discourage the public and firms from doing social harm
such as emitting excessive pollution.
Subsidies will be given to firms to produce goods that are not available in sufficient
quantity.
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ANSWERS TO ACTIVITIES
Activity 1
(a)
(i)
Litter negative
The person dropping the litter may get no adverse reaction, but the social cost to
others is that of making the environment unpleasant (and possibly a health
hazard) and the cost of the local authority employing someone to clean up.
(ii)
(iii)
(iv)
(b)
(i)
The cost to the British employee of being unemployed while a non-British or and
EU citizen takes a job they could have done.
(ii)
Britain may not be able to acquire the specific skills when it wants them
There is also the negative effect on relations between the two countries and
Japan could easily retaliate.
Activity 3
(a)
Yes.
(b)
No. The responsibility is on the employer to prove that it acted fairly and without any
discrimination.
(c)
Yes, if the injured person is on sick leave for 3 days or more or if there are dangerous
incidents or diseases.
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(d)
Yes, but only if it is not possible to make reasonable adjustments to the physical
environment of the workplace or working practices in order to accommodate the
disabled person.
(e)
Yes.
(f)
Yes, if this equates on average with other weeks to a 48 week during a 17 week period.
Otherwise, the employer cannot enforce a 65 hour week without your written
agreement.
(g)
Yes, if the importer brought the product into the EU. The manufacturer can also be
held liable.
(h)
Yes. You must be given all terms and conditions, delivery and cancellation
arrangements in writing and are entitled to a 7 day cooling off period.
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Chapter 7
Business in the Global Context
Contents
Page
Introduction
164
A.
164
165
166
167
B.
168
168
170
172
174
C.
175
175
176
179
D.
Theories of Globalisation
Porters Diamond
International Product Life Cycle
179
180
182
Summary
186
Answers to Activities
187
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INTRODUCTION
In Chapters 1- 4 we focused our attention on national business and covered concepts that
will now be expanded in a different context. In the remaining chapters our concentration will
be on the facets of global business and what extra factors have to be considered in addition
to those of a firm that essentially operates in a national environment.
Here, we shall examine what is meant by a global business and the drivers and triggers that
influence firms to expand all over the globe.
Several aspects of those factors, positive and negative, will be explored in the context of real
world examples and you will be asked for your thoughts on the impact these factors have
made in your country and on your life style.
Lastly, you will have some case studies to look at, where you will apply what you have learnt
in the Chapter.
A global organisation must think global and act local if it is to succeed. These three
characteristics demonstrate how this can work in practice.
(a)
(b)
(c)
Trade across borders can be indicated by the countries in which the firm operates and
by the data it produces to demonstrate market sector growth for products in various
countries. For example, in their 2009 Annual Report, Coca Cola stated Coca-Cola
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Company is a truly global company, and we operate in over 200 countries around the
world. Its regional data from Africa and Eurasia demonstrates their global coverage
and market share growth: In 2009, our unit case volume grew 4 percent, led by 31
percent growth in India, 21 percent growth in Algeria, 17 percent growth in Pakistan
and 9 percent growth in Kenya.
International Trade
What is the difference between international trade and global trade?
Terms of Trade
The terms of trade are defined as the:
Average price of exports of and the average price of imports
These are measured by using an index which has a base year with an assumed value of
100.
If in a year the average price of imports has risen by 30% with respect to exports, the terms
of trade will be 70%. This will be a worrying situation as it will affect the balance of payments
(see later). The terms of trade will have worsened.
If the average price of exports rises faster than average price of imports, the terms of trade
will have been improved.
Activity 1
If the average price of exports in your country has risen by 50% with respect to the average
price of imports.
(a)
(b)
Will this be a good or bad situation for your economy? Give a reason for your answer.
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(b)
Lower costs
A country can obtain goods, which it could only grow or produce at higher cost than in
other countries. Opening up the whole world for trading purposes increases the size of
the markets for various goods. Production on a larger scale is then possible, allowing
full advantage to be taken of economies of scale.
For example, if Switzerland only made watches for its own comparatively small
domestic market, the cost of production per unit would be much higher than it is.
(c)
(d)
(e)
Country A apparently has an advantage over country B in the production of both wheat and
copper as it can produce both more cheaply for the same cost.
Will there be any scope at all for trade between the two countries?
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The answer is yes provided that A's advantage over B is not proportionately the same for
both commodities:
Country A will thus tend to specialise in the production of those commodities in which it has
the greatest comparative advantage, or the least comparative disadvantage.
As A's comparative advantage in the production of wheat is greater than its advantage over B
in the production of copper, it will pay A to specialise in the growing of wheat and to leave
copper production to B.
Therefore, A will produce wheat and B will produce copper.
The law of comparative advantage states:
If countries are to gain competitive advantage they should trade goods in which
they have comparative advantage and import those in which they have
comparative disadvantage.
We shall look at some of these triggers for change in more detail throughout this chapter.
Multinational enterprise involves a transfer of production capacity from one country to
another. It has consequences for the multinationals home country, the host countries where
new enterprises are established and for the whole pattern of global trade and production.
(a)
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world and are sent to work in other locations as part of their development. This results
in more management roles disappearing in the home country than in previous years.
Another consequence of divestment for the home country is that visible exports fall and
visible imports rise. Invisible earnings rise, as the overseas sections of multinationals
pay fees and royalties for patents and services and remit profits to the home country.
Of course, profits go to the owners of capital and there is a real possibility that the
profits will be reinvested in further foreign production and not used to develop business
at home.
(b)
(c)
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(b)
Countries can specialise and increase production, confident that they can export
any surpluses.
Countries gain economies of scale as they are able to access to the world market
to sell more of their products.
Limits the creation of monopolies or oligopolies within the country that could keep
prices high.
Countries are able to diversify into producing other products and services making
them less dependent on just a few. For example, a single item, such as cotton or
coffee, for which the harvest is subject to climatic conditions, leaves the
population vulnerable.
Dumping of excess or low quality goods by other countries who may sell them
abroad at a lower price than at home. This is done partly to avoid swamping the
home market with a surfeit of goods which would bring down home prices. It may
also include products that are no longer acceptable to consumers in the country
of production.
Reduces demand for home produced products and may increase unemployment.
Free trade may not be in the interests of national security goods produced for
defence purposes, for example, need to be produced in the home country to
ensure that it is not dependent on foreign suppliers in times of conflict.
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Import tariffs
These are also known as customs duties and are taxes imposed on goods when they
enter a country or one of a group of countries, such as the EU. Tariffs are usually
applied to selected items.
The advantages of tariffs are:
(i)
The objective of imposing the tariff is to raise the cost of the imported goods so
that importers have to raise prices or accept reduced profits
(ii)
(iii)
The tariff raises the price paid for the imported good by the domestic consumer
and reduces the quantity purchased hence, the imports suffer a competitive
disadvantage compared with home produced substitutes
(iv)
Domestic producers supply more to the market and foreign suppliers provide less
than if there were no tariff.
Customs duties may be imposed as a specific duty of a fixed amount per item or per
tonne or by the total value. Specific duties work best for goods of low value and high
weight, such as iron. By-value is best applied to items like jewellery and those whose
prices change often.
The amount received by foreign exporters may be the same or less than before the
tariff.
(b)
Import quotas
These are restrictions on the quantity of goods that can be imported. The purpose of
import quotas is to lay down the exact quantity of a commodity which may be imported
in a given period of time. Import quotas may be accompanied by customs duties.
(c)
Embargoes
Embargoes are a total ban on imports or exports, usually applied for political reasons.
An example would be the export of arms to a certain country in a war zone.
(d)
Non-tariff barriers
These are barriers applied through safety rules and administrative controls, as noted
above. They can be seen as a subversive method of protectionism.
(e)
Exchange control
Control is enforced in many countries to redress an adverse balance of payments, by
requiring all buying and selling of foreign exchange to be done through the central
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bank. It limits the amount of foreign exchange purchases so that it is equal to the
amount of foreign exchange receipts.
Disadvantages of Trade Barriers
Trade barriers are usually introduced to protect domestic industry from foreign competition
and/or to control the balance of payments account of a country. There are, though,
significant problems with their use.
International retaliation Other nations are likely to take similar action, hence reducing
the opportunity of the protectionist country from trading its own goods easily.
Unemployment ultimately rises If all countries sought to reduce and impose barriers
against imports, total trade and production would fall and unemployment would
increase in all countries. Thus, the spread of protectionism would increase
unemployment overall.
Cost and corruption Enforcing trade barriers is costly and officials are prone to taking
bribes from importers so that they can trade their goods in the country.
Think Point
Think about the benefits and disadvantages of free trade to your own country and to others
you may be familiar with.
(a)
Does your own country operate a policy of free trade and, if so, what do you see as the
benefits and disadvantages of that policy for the country?
(b)
(c)
On a social level, what are the positive and negative aspects of free trade for you
personally?
You need to assess the application of the arguments about free trade to the countries you
have selected.
Some of the benefits include the opening up of markets and greater opportunities for
exporting, wider choice of products available at a lower price to consumers, increased
employment opportunities and increased skills levels in less developed countries. All these
factors are likely to increase GDP in all countries and lead to greater prosperity and higher
income levels.
The disadvantages, economically, tend to be the threat to domestic production by the import
of cheaper goods. This may lead to domestic business closures and rising unemployment.
If free trade has not been embraced, the decision may have been made so as to protect the
countrys own industries and/or its culture. The latter is often overlooked, but the influence
of, particularly, Western or American goods and ideas, can threaten the indigenous culture. It
may also be that the government wishes to continue receiving the income it gets from tariffs.
It is also important to consider the effects on society of free trade. On the one hand, we
probably all benefit from the variety of goods and services which become available and, at
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least for some, the generally higher standard of living and improved life styles. However,
there are problems created by the threat to domestic culture and traditions, and the
exploitation of lax labour laws and environmental protection in some less developed
countries,
Trading Blocs
The activities of trade blocs have huge importance in the economic and political scenarios of
the contemporary world. Trading blocs have played a major role in regulating the trend and
pattern of international trade.
Trade blocs are free trade zones designed to encourage trade activities across nations, while
making it difficult for non-members to trade there. The formation of trading blocs involves a
number of agreements on tariff, trade and tax.
What is included in the trading agreement depends on the political will of the members.
For example, they may be unwilling to expose a trade such as agriculture to competition or to
accept the full degree of international specialisation which goes with completely free trade.
Creating a trade bloc has two major effects on trade:
Trade creation whereby countries which previously placed tariffs on imports from
other members and produced the goods themselves, allows free trade in such goods
between members
Trade diversion whereby the removal of barriers inside the bloc results in trade being
switched from a more efficient producer outside the union to a less efficient one inside.
In addition to the benefits of trade creation there are other benefits from setting up a free
trade area:
Economies of scale develop because the member countries now have a much larger
"home" market.
Greater efficiency is enforced because the members' industries are exposed to more
competition.
Consumer welfare is increased as people have more, better quality and cheaper
goods, with more variety, to choose from.
Increased political cooperation as the member countries develop common policies and
become more dependent on each other.
The larger the trading bloc, the greater the potential benefits because of the better chance of
including the lowest cost producer and the bigger opportunities for economies of scale.
There will also be more opportunities for trade creation, whereas previously there was lot of
duplication and large cost differences between the production of the members.
In addition, the gains from specialisation will increase, especially if there were high tariffs
before the creation of the trade bloc. Previously there would then have been a lot of
domestic production for relatively small markets.
The lower the external tariffs imposed by the union the better, as this reduces the possibilities
of trade diversion.
One of the biggest disadvantages of trading blocs is loss of political and economic
independence because the countries must take into consideration the policies and rules of
the bloc when deciding their own policies. For example, the UK has had a number of
significant disagreements on policy with the European Union (EU) on matters such as
working hours and employee rights.
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The effects of trading blocs have to be carefully evaluated to see if they really do benefit the
citizens of the member countries and not just protect inefficient producers.
Examples of Trading Blocs
(a)
Citizens of the member countries can live and work anywhere in the EU
The 1991 Maastricht Treaty agreed a programme to move towards economic and
monetary union and to take the first steps towards political union by agreeing common
foreign policies. Since 2003, a single european currency, the Euro, has replaced the
previous national currencies of 15 member countries (in what is known as the
Eurozone).
(b)
MERCOSUR
This is South America's leading trading bloc and is known as the Common Market of
the South. It aims to bring about the free movement of goods, capital, services and
people among its member states. It has been compared to the European Union but is
four times as big. The bloc's combined market encompasses more than 250m people
and accounts for more than 75% of the economic activity on the continent.
Its full members are Argentina, Brazil, Paraguay, and Uruguay. Associate members are
Bolivia, Chile, Colombia, Ecuador and Peru. Venezuela awaits ratification of its full
membership at time of writing. The combined GDP of the groups is US$ 1.1 trillion.
(c)
(d)
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A free trade agreement came into force between ASEAN and China in January 2010,
creating the worlds third largest free trade bloc behind EU and NAFTA.
(e)
BRIC
BRIC is not an official trading bloc, but a term used in economics to refer to the
combination of Brazil, Russia, India and China, which make up over 42% of the world's
population. These nations are progressively playing a major role in the future of global
economy. Examples of trade agreements are:
In the first six months of 2009, China became Brazils biggest single export
market for the first time.
In 2010, the China Development Bank and Sinopec, a Chinese oil company, lent
Brazils state-controlled oil company, Petrobras, $10 billion in return for up to
200,000 barrels a day of crude oil for ten years from the countrys deep sea
fields.
Activity 2
(a)
What other trading blocs can you find? Look for those which include emerging
economies in particular.
(b)
Why might emerging economies want to form a trade bloc without any advanced
developed countries as members?
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Email which has made fast internal and external communication possible and
become a significant marketing tool.
(b)
The internet which has become the promotional showcase for many businesses who
can now advertise themselves to the world very economically. Consumers can interact
with each other and with businesses in a variety of ways, resulting in growing
consumer power.
(c)
(d)
Manufacturing technology which has become so sophisticated that less people are
required to do most jobs and robots can be employed for many manufacturing tasks.
(e)
Travel which is faster and less expensive and, using mobile phones and portable
computing devices, individuals can do business globally while travelling.
Technology has not only assisted the global growth of businesses but changed practices
dramatically, allowing control of the global company to be effective and hence it has impacted
on performance. Global communication, using the whole range of techniques described
above, has enabled this transition.
Instant feedback Companies can gain customer feedback quickly and directly, and
this assists in managing the quality of products and the research, development and
designing of new ones. They can also advertise their products in all media and take
views on proposed new ventures.
(b)
Strategic decision making Company data can be input and analysed in real time,
allowing managers to make quicker decisions, track the growth of market share and
sales by product and country. This has a big impact on making strategic decisions.
(c)
Virtual working People working in remote locations can quickly and effortlessly
communicate with other staff or managers around the world, using a variety of
techniques, such as:
Email, phones and the internet to maintain contact to the workplace and to
access company information and feed information back to the company.
The technology also allows managers to maintain contact with staff working remotely
and monitor their performance, ensuring that management control is not lost.
(d)
Purchasing, sales and customer relations The internet has allowed consumers
and businesses to access data on the products and services of other organisations.
This has resulted in customers and commercial purchasing staff being able to compare
price and quality, which then enables them to negotiate more effectively. It provides
access to more choices.
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Companies are able to interact directly and quickly with customers, and customers can
also interact with each other to recommend a companys products and services or to
deter others from the use of a certain product or service. Company websites, email
and social networking sites all contribute to this two way process
(e)
(f)
(g)
E-commerce
The development in electronic communication forms the basis of a huge and continuing
growth of trade by electronic means or e-commerce. This has enabled individuals and
firms to interact between locations anywhere in the world, where the technology is
available. Firms are able to promote their products through the internet, on their
websites and on social networking sites. Other electronic means such email and sms
messages support website promotions. By promoting their products using search
engines such Google and Yahoo, individual consumers or purchasing organisations are
enabled to find accurate details of firms that supply the products and services they
want within seconds. All these promotions can also be accessed through mobile
devices such as the mobile phone.
Customers can interact with the firm to make enquiries, order and pay online, and
complete a transaction within minutes. They can also provide feedback on the
product/services that assists in the development of higher quality and/or more
sophisticated versions. Customers data is automatically stored and can be processed
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over time to indicate individual preferences for marketing appropriate further products
and services. Firms can measure the success of their websites as a promotional tool
by using web analytics to provide information on:
(b)
how the individual has found the website, such as search engine uses.
Manufacturing Techniques
The continuous advancement of technology has also transformed manufacturing.
Manufacturing technology is at the heart of all production of goods and has been since
the days of the Industrial Revolution in the 18th century. The tools which enable
manufacturing magnify the effort of individual workers and give an industrial nation the
power to turn raw materials into the affordable, quality goods which are now essential
to society. As they have developed, they have also given us affordable agricultural
products, efficient transportation, innovative medical procedures, communication
systems of increasing power and scope, space exploration and all the everyday
conveniences we now take for granted.
Production tools include machine tools and other related equipment and their
accessories which are used to perform specific operations on man made materials to
produce durable goods or components. Related technologies include Computer Aided
Design (CAD) and Computer Aided Manufacturing (CAM) as well as assembly and test
systems to create a final product.
(i)
Robots
Modern industrial robots are marvels of modern engineering. A robot the size of
a person can easily carry a load over 50 kilograms and move and position it very
quickly with a repeatability of +/-0.015 cm. They can work 24 hours a day
repeating exactly the same task for years without failure, and in many cases are
reprogrammable so that they can perform a range of different tasks.
They have been used in car manufacturing in this way for many years and have
significantly increased production of a more consistent product, at a significantly
cheaper cost. In the 1970s, UK and American car manufacturers were maligned
for the poor quality and bad engineering of their vehicles. Robotic manufacturing
now allows a car to be made with much more precise welds, closer tolerances
and more accurate engineering overall than could be achieved by human means
alone. Robots reduce labour costs and have no sick days, strikes, work
slowdowns or other problems as humans do. They have also reduced worker
injuries. They can also work with a minimum of human supervision.
(ii)
Advanced manufacturing
Advanced manufacturing is a term that has been used to explain many of the
manufacturing operations that have reached a level of sophistication not easily
replicated by competitors. It is most commonly referenced as the use of hightechnology processes, often involving factory automation, or the development of
innovative products. A few of the technologies that fit into the advanced
manufacturing category are:
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Micro manufacturing.
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Performance evaluation of every part of the business has become possible. This
allows firms to act to maximise opportunities and minimise risks ahead of the
competitors and so to maintain competitive global position.
The value chain has been considerably strengthened, allowing costs and wasted
resources to be identified and minimised.
As the hardware and software have advanced, the costs have decreased and many
companies now have more computing power than the majority of their employees will
ever need.
The technology used in the firm must be constantly reviewed and this can mean
incurring considerable and sometimes unnecessary cost, as many employees already
have more computing power than they will ever use.
The speed of change makes it imperative that firms identify changes in the external
environment and adapt their working practices. This may be impossible if the
workforce does not accept the need for any change.
A firm must ensure that the skills of the workforce are developed to use new
technological advances and so retain competitive position.
Security issues have become a major problem, particularly keeping key information
both about the company and about its customers secure from external hackers or
internal theft. Ensuring the security of information has now become one of the most
important aspects of an IT managers role.
Information overload can occur, with too much data being generated for individuals to
handle efficiently, as with the problem of too many emails.
Job stress and reduced quality of life caused by a variety of factors such as
(i)
Always being connected employees receive emails at all times of day and night
and are under pressure to provide quick responses
(ii)
(iii)
Personnel feel pressurised to work outside of the agreed hours because the job
can be done anywhere anytime
(iv)
D. THEORIES OF GLOBALISATION
New theories of international trade have been developed, to explain some of the changes in
the patterns of world trade we have seen in recent years. These reflect on some of the
marketing and competitive strategy aspects that have contributed to the changes in the way
trade has taken place.
There are many problems with the standard theory of factor comparative advantage when
applied to modern trading practices. The theory of comparative advantage assumes:
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It also makes no allowance for the competitive forces that operate within industries.
Amongst the most important theories to emerge as a result of these shortcomings are the
Diamond developed by Michael Porter and Raymond Vernons theory of an International
Product Lifecycle .
Porters Diamond
Michael Porter developed this theory as he was not satisfied with the scope of comparative
advantage based on factors of production to explain changes in trade. He concluded that, at
best, comparative advantage theory is useful primarily for explaining broad tendencies in the
patterns of trade for example, its average labour or capital intensity rather than whether a
nation exports or imports in individual industries. His "diamond" attempts to explain why
some nations achieve international success in a particular industry.
Figure 6.1: Porters Diamond
Government
Strategy,
structure and
rivalry
Factor
conditions
Demand
conditions
Related
and supporting
industries
Source: M.E Porter (2008), On Competition
The four broad attributes that shape the competitive environment and that help or hinder the
creation of competitive advantage are placed at the four points of the diamond. These are:
Factor conditions the types, availability and quality of the factors of production
Demand conditions the demand patterns in the domestic market for the companys
product or service
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Company strategy, structure and rivalry this point includes much of Porters original
work on the competitive forces facing companies in an industry:
What are the competitive pressures in the country for this industry?
Activity 3
Consider the following case study about the Italian fashion industry and then answer the
question that follows.
Case Study 1: The Italian Fashion Industry
The Italian fashion industry is one of the largest in the world, with revenues of 48
billion euro, 70,000 companies and 700,000 people employed. This makes Italy
the most active in the world and, in terms of quantity, second only to China and
holding leadership in the prt--porter market. However, Italy is not favoured by
significant resources of raw materials or the cost of its labour force.
50 years ago, Italy had virtually no fashion industry and no Italian designer
enjoyed an international reputation. The countrys wealthy commissioned their
exclusive hand made clothes from tiny specialist tailors in Rome, and most
Italians found their dressmaking requirements met by small, local, businesses.
Gentlemen ordered suits from traditional bespoke tailors, while their wives and
daughters patronised whichever local dressmaker exhibited the greatest skill in
replicating the latest fashions from Paris. Italian women with less income had to
search the markets for fabric and sew their own clothes at home.
The war years changed everything and provided opportunities. There were three
significant developments at this time. After the Second World War, an investment
plan, the Marshall Plan, was implemented to rebuild Europe and to create a
stronger economic foundation. New factories were built in Italy which employed
skilled craftspeople who came from the small hill towns of the north and the
vanishing villages of the south and who needed to find work. The combination of
the very latest machinery with an exceptionally skilled workforce created an
unparalleled garment manufacturing capability.
The designers no longer followed the French lead by copying their style, but
created a fashion identity that seemed distinctively Italian. This benefited greatly
from the huge trend to acquire everything Italian, from espresso coffee to leathergoods, which was particularly noticeable in America throughout the post-war
years. Unlike the French sophistication, the Italian clothes emphasised wearable
elegance, which was particularly appreciated by the Americans. Actresses such
as Audrey Hepburn favoured the glamorous evening dresses and the stylish but
simple daywear.
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At the same time the emerging Italian fashion industry quickly developed a
natural marketing flair, together with something what would now be called brand
focus. Talented new designers certainly showed impressive commercial
expertise in addressing an important emerging fashion consumer who was, as
yet, poorly served by more established fashion centres the post-war working
woman.
They also developed an unrivalled ability to produce high quality apparel in
luxurious fabrics which led British, French and American designers to entrust the
production of their garments to Italy, even though nowadays there are very much
cheaper labour markets.
700,000 Italian professionals represent the basic pieces for a process which still
needs quality, specialisation and ability to deliver.
Italians have a reputation for many other fashion items, one of these is leather
goods including shoes. A recent study by the Italian bank Banca Nazionale di
Lavoro (BNL) said that the Italian shoe industry " is the largest in the world and
accounts for 14.5 percent of footwear production globally". Despite the number
of large global companies that that can produce shoes cheaply, the Italian
companies are surviving even after a decline in the 1990s for three years,
production fell significantly, dropping by more than 10 percent in 1999, but since
2001 the country's footwear industry has been on a rebound.
However, the downturn caused some smaller businesses to close while others
were forced to join bigger groups to survive. It also stimulated the Italian industry
to reflect on how new technology and design techniques could improve their
business performance.
"A significant part of the recovery in the Italian industry can be seen in the move
to increase the quality of the shoes. The companies reacted to the downturn by
investing in research and design so that innovation in models and colours was a
feature of last year's production," said Pulisia Di Falco, one of the two authors of
the BNL study.
Italian shoemakers believe that the Italian artisan approach can be adapted to
more modern production techniques without losing any of its tradition or style.
Question
Identify the four attributes that explain the Italian Fashion Industrys national advantage
according to Michael Porter.
See the suggested answer at the end of this chapter.
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Advanced Country
(e.g. US)
Developing
Countries
Less Developed
Countries
The concept of the international PLC needs further modification to take account of changes
that have occurred in 21st century and the full global trading environment that now exists. In
particular, note that:
The original concept of the product life cycle, as discussed in Chapter 3, will operate for
each product in each country market:
New products and services are being developed in many different countries, not just
advanced countries.
There are significant differences in preferences and tastes even within the current
trading environment.
Environmental and social factors have a major impact on what is produced and how.
As result of many changes, it has become possible for the first time for tens of thousands of
companies to offer manufactured products to customers across the whole six continents. For
many of these "global products", there are potentially more than a billion customers. There is
an enormous opportunity for increased sales and profits, but the new environment is not
easy to manage and the risks are high.
Among the challenges companies have to resolve are:
Choosing the most suitable locations for the different stages of development and
manufacturing
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Activity 4
Finally in this chapter, we present a further case study for you to consider.
Case Study 2: Petrobras
Petrobras has operations all around the world, with recent ventures in Portugal
and Turkey, where it seeks to get involved in the energy battle around the Black
Sea. It generates and distributes electricity and side products from oil production
such as synthetic rubber. In 2008, a big oil field was discovered in the deep
waters off the Brazilian coast. The oil is located 7000m under the sea. That
makes the extraction very difficult and poses many risks to the fragile ecologic
system at that depth. But the third largest oil field of course means a lot of
money and power. In the reformation of the economic world order this is an
important asset for Brazil to have.
Petrobras raised $10 billion from Chinas government earlier this year, in return
for promising Sinopec, a Chinese state oil firm, a guaranteed supply of up to
200,000 barrels of oil a day for ten years. Mr Gabrielli, the CEO, wants more
such deals. Apart from the sub-salt fields, Petrobras is exploring 270 blocks in the
Gulf of Mexico and over 200 more onshore in Brazil, and may approach China to
fund this, too.
Despite the adverse working conditions, there have been several big deepwater
discoveries in recent years. Until the mid-1990s there was a general view that
successful offshore oil-drilling operations were limited to a water depth of around
600m, but advances in computing at the exploration stage have become
important when it comes to tapping deepwater oil. In this most physically
demanding of industries, software, as much as hardware, is changing the game.
Striking an oil reservoir with a drill pipe is like hitting a coin at the base of the
building with a strand of human hair. The penalties for getting it wrong are
enormous. An industry rule of thumb puts the cost of drilling a deepwater dry
hole, i.e. a well that does not strike oil, at around $100m. BP says it can be as
high as $200m. BPs recent fortunes in the Gulf of Mexico have reinforced the
financial, social and political risks of deep sea drilling as well the impending raft
of new regulations that are likely to occur as a result of the disaster.
With the stakes so high and the margin for error so small, the knowledge takes
the form of precise data on the composition and structure of the geological
formations beneath the seabed, which provide insight into the areas likely to hold
oil deposits. The mechanics of new acquisition techniques are simple compared
with the challenge of making sense of the resulting vast amount of data
produced. The amount of computing power used for such calculations is
staggering. BPs computer centre in the Gulf of Mexico operates 270 trillion
calculations per second, nearly 3,000 times faster than a decade ago.
Petrobras declares that its advanced technological know-how for deepwater
ultra-deep exploration is one of its competitive strengths. In developing its
offshore operations over the past 36 years, Petrobras has acquired recognised
know-how in drilling techniques and technology for developing deepwater
production.
The companys know-how in drilling, exploration, development and production in
deep waters has been instrumental in achieving high rates of success and
production and a reduction in lifting costs. Reduced costs have also been
achieved due to operations being executed on a large scale and to the integrated
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nature of its operating segments for example, the location of the larger part of
the companys refineries in the Southeast region close both to the Campos Basin
(which has significant proven reserves) and of the most densely industrialised
and populated markets in the country, and the relative equilibrium between its
current production, refining efficiency and the Brazilian markets total demand for
hydrocarbon products.
The company believes that these cost efficiencies arising from its integrated
nature, existing infrastructure and equilibrium allow it to compete effectively with
other sector companies and imported products.
Another Petrobras activity is the extraction of ethanol from crops such as soy,
corn, wheat sugar cane. The latter is the most popular as it is the cheapest to
produce.
Questions
(a)
(b)
Describe the options that Petrobras has used to grow its operations? Please give
examples.
(c)
(d)
How does this case illustrate the economic strength of the BRIC countries?
(e)
What competences does Petrobras have to give it competitive advantage over other oil
companies?
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SUMMARY
A global company has operations located in all areas of the world, its people move across
borders regularly and it finances its new and existing operations by transferring money from
one location to another.
The growth in companies with a global presence has been driven by factors such as:
Global capital markets making finance available for expansion throughout the world
Free trade has also improved the economic growth of countries throughout the world, and
also developed the skills of their workforce.
Trade blocs between groups of countries have allowed them to share resources and knowhow, providing access to economies of scale and preferential trading agreements.
However free trade and globalisation also bring negative aspects to countries such as: the
death of infant industries, the danger of monopolies being created by powerful companies
who enter the country and undesirable changes in the local culture.
The changes in international trade and the dominance of certain countries have been studied
extensively. Michael Porters theory of national advantage is one such attempt to explain
why some nations have specialisations that make them dominate world markets.
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ANSWERS TO ACTIVITIES
Activity 1
(a)
The terms of trade are 150%. (The average price of imports/average price of exports.)
(b)
The terms of trade have improved; fewer exports have to be sold to purchase any
given quantity of imports.
Activity 2
(a)
(b)
Developed countries may be viewed as wishing to exploit the resources and local
knowledge with little concern for the poorer nations' business culture and national
values.
Activity 3
(i)
Factors of production
Land, labour and capital were acquired after the second world war: Capital was given
by the Marshall Plan, factories were built of land devastated by the war and highly
skilled labour was available locally from small hill towns.
(ii)
(iii)
Demand conditions
These were already in place before the factories came into existence, with individual
tailors for men and women making clothes in the latest fashion at home. Since the
products made by the factories were stylish and distinctive this appealed to the new
consumer.
(iv)
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Activity 4
(a)
Petrobras has trade in several other countries Portugal and Turkey are mentioned
here and is also trading in oil with China. It appears that expansion by organic
growth is taking place in the Gulf of Mexico where Petrobras is carrying out oil
exploration activities. There is no evidence in this of people movement. Hence we do
not have enough evidence for a definite statement on its status as a global company,
but with the limited information available it does appear to be global.
(b)
Petrobras has operations in two other countries, according to the case. However, we
cannot determine the growth option used for those operations from the evidence given.
Petrobras has a trading agreement with China which has provided the finance for
Petrobras to explore for oil and for China to be supplied with the product.
(c)
It is made clear in the case that the advanced technology has enabled Petrobras to
consider drilling in areas that would otherwise have been impossible that is, under
the sea bed. It has precise data on the form and composition of the structure below
the sea bed. The description acknowledges that without advanced computing power it
would be impossible to make any sense of all the data it has collected. It has also
developed technology for deep underwater exploration.
(d)
The case shows the close relationship between Brazil and China and, although there is
no formal trade bloc, huge trading agreements are being made. China is acquiring
very critical, scarce resources by providing Petrobras with the finance to acquire them.
(e)
Petrobras has competence in deep sea drilling for oil. It has the acquired the technical
know-how in the operations necessary to accomplish the task of extracting oil from sea.
It is innovative and extremely competent in the use of technology to problem solve.
It has also developed a tight value chain with low costs and high integration. In
addition, it appears to have exceptional competencies in energy production from a
variety of sources including extracting ethanol from crops.
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Chapter 8
Going Global
Contents
Page
Introduction
190
A.
190
190
191
191
192
B.
193
193
194
197
C.
198
198
199
202
205
D.
Limitations to Globalisation
Global Transportation Infrastructure
Demographics
Natural Resources
Technological Development
The Anti-global Lobby
205
205
205
206
206
206
Summary
210
Answers to Activities
211
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INTRODUCTION
This chapter builds on the previous one and looks at the methods companies use to actually
make global trade happen. We examine more closely the advantages and disadvantages of
the options to achieve that growth, a topic that we looked at first in Chapter 3. We also revisit
and expand the financial perspective of trading globally including the impact exchange rates
have on the business.
As companies expand into other nations, the subject of culture becomes an important factor
to the success of the venture. If the organisation is unable to integrate its business practices
and values with that of the new nation, then the firm is likely to make a loss or even fail to
survive.
Finally we will look at the potential limitations of globalisation and the opposition to the whole
globalisation concept.
Joint Venture
Organic Growth
For very large companies, all of these options may well be used and the appropriate option
will be chosen according to trading conditions in the particular location.
Joint Venture
A joint venture is defined as an entity formed between two or more parties to undertake
economic activity together. The parties agree to create a new entity by both contributing
equity, and they share in the revenues, expenses, and control of the enterprise. The venture
can be for one specific project only, or may be a continuing business relationship.
The advantages of joint ventures are seen as:
Such arrangements may also be a necessary governmental condition for market entry into a
particular country, as was the case with India in the past.
The difficulties with joint ventures are perceived to be:
Loss of competitive advantage through imitation that the other party might implement
later
Limits to the ability to integrate and co-ordinate activities across national boundaries.
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A merger is said to occur when the firms are of comparable size and form a single new
company. The shares of both companies are replaced by shares in the new company.
When one company is actually purchased by another, this is very often called a merger,
if the Chief Executive Officers agree it is in the best interest of both companies to state
this.
Acquisitions tend to take place when a stronger company with a larger market share
buys another. The target company often knows it cannot survive. After acquisitions,
only the buyers shares continue to trade. A hostile merger is also regarded as an
acquisition.
The new entity has full control of all resources and capabilities and potential for
economies of scale
Making first new investments allow development of state of the art facilities and can
attract financial support from the host government.
Substantial investment in and commitment to the host country can lead to economic
and financial exposure
Entry time consuming and less predictable in cost especially if a first investment in new
location.
Organic Development
This is internal development where strategies are developed by building on and developing
the organisations own capabilities for example, a company may open a manufacturing plant
in a new location, funding the whole venture itself.
This strategy is usually suitable for a situation
Where the company wishes to build on its own existing capabilities, particularly in
respect of learning and competence development
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Licensing can be defined as a written contract under which the owner of a copyright,
know-how, patent, service mark, trademark or other intellectual property, allows a
licensee to use, make, or sell copies of the original.
Such agreements usually limit the scope or field of the licensee and specify whether
the license is exclusive or non-exclusive, and whether the licensee will pay royalties or
some other consideration in exchange.
Licensing agreements are also used by franchisers to promote sales of goods and services.
Licensing can be useful as a global growth option particularly to companies who do not see
investment through acquisition or organic growth in a new country as justifiable the actual
investment is much reduced, as is financial and political risk. However, a problem with
licensing can be lack of control over the way in which products are made or used elsewhere,
or the cost involved in imposing that control.
Activity 1
Consider the following short summary of Coca Cola's strategy and then answer the questions
that follow.
Case Study 1: The Coca Cola Company
Many of Coca Colas bottling partners operate under licensing agreements
which assures global coverage for the Company. Coca Cola also has
some joint ventures with bottlers but rarely owns them bottlers outright
In 2010 it acquired its North American bottling partners as a direct result of
the same action by its main competitor Pepsico. This was a change of
policy. In doing so, Coca Cola hoped to integrate capabilities and reduce
costs as well as improving its value chain.
Questions
(a)
Why do you think Coca Cola uses different growth strategies with its bottlers?
(b)
Go to the Coca Cola website and find examples of the growth options that the company
has used to expand.
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Currency
Three classes of currency across the world are considered below:
(a)
(b)
(c)
People generally feel happier to stay with a currency they know and understand. Trade may
often be conducted by barter arrangements with some countries with weak currencies. For
these agreements, some form of acceptable valuation is necessary. Again the basis of this
tends to be the United States dollar, either directly or indirectly (for example, through oil).
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At the rate of $1.30 (again ignoring transactions costs), the manufacturer could sell the
car in the USA for $6,500 (5,000 1.30).
If the pound falls in value and is worth only $1.10, the manufacturer will accept $5,500
(5,000 1.10) if it still wishes to receive 5,000 for the car.
This simple calculation shows us that a fall in the currency value makes exports cheaper in
foreign prices.
Cheaper goods are likely to be easier to sell and provided the increase in sales is
proportionately more than the change in dollar price, exporters can hope to receive more
revenue for their exports.
Therefore, devaluation (lowering the value of a currency) may be used to help in correcting a
balance of payments deficit. There will be more exports and they are cheaper for overseas
consumers to purchase, but imports to the home country become more expensive for
example, suppose the vehicle manufacturer buys steel from another country and pays for it
in US dollars: each $1,000 worth of steel, which used to cost 769.23 ($1,000/1.30), now
costs 909.09 ($1,000/1.10).
Most manufactured goods contain materials imported from other countries, so manufacturing
costs inevitably rise following a fall in the exchange rate transactions, even if actual
payments are made in a national currency.
There will also be other effects on business:
A high proportion of British food and many consumer goods come from overseas and
so they rise in price.
Living costs are pushed up and workers seek wage increases to try to maintain their
living standards.
If they succeed, then labour costs rise alongside manufacturing costs, meaning that
prices are also likely to rise, making the goods harder to sell abroad.
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Activity 2
Imagine you came to the UK last year for your holiday and you saw an iPad that you wanted
to buy. Last year when 1 was equivalent to 1 Euro, you would have had to pay 600 for the
iPad. This year the rate of exchange is 1 is equivalent to 1.20 euro
Will you pay more euros or less for the iPad than last year? How many euros will you need?
See the suggested answers at the end of this chapter.
If the balance is in surplus, then revenue from exports is greater than that paid for
imports and the supply of foreign pounds is high. So the pound is likely to rise in
exchange value.
A balance of payments deficit has exactly the reverse result; the exchange rate will
decrease.
The weaker the balance of payments, the weaker the pound is likely to be.
The views of traders and bankers about future movements in trade flows and currency
exchange rates will also have an effect. For instance, traders often have to hold large sums
of money for a few days or weeks, in anticipation of having to make large payments. They
cannot afford to have money lying idle, so they lend it out in return for interest. They do not
want to see the interest earned being lost through a fall in the exchange value of their money.
This means that any suspicions that the pound is likely to fall will persuade the traders that
their money is more safely kept in some other currency. This reduces the demand for
pounds and increases the demand for foreign currencies.
This type of behaviour also adds to the pressure resulting from a weak balance of payments.
Exchange Rate Structures
There are basically two types of exchange rate system fixed and floating exchange rates.
There may be variants on these, but the basic principles remain the same.
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(a)
(b)
Demand
If Britain's exports increase there will be more demand from importers to
exchange their currencies into sterling.
The pound will also be in demand if people want to invest more in the UK, either
in deposits and shares or in physical assets.
Supply
More sterling will be supplied if importers in Britain are buying more from
overseas and require more foreign currency.
UK investment abroad increases the supply of pounds. Just as in any other
market, an increase in demand for pounds, with supply unchanged, will cause the
price of sterling to rise or appreciate more dollars have to be paid for each
pound.
Conversely an increase in supply, with demand remaining the same, would cause
the currency to depreciate.
Government Intervention
A government may intervene in the market to buy or sell its currency because it wants to hold
down a rise in the rate, which would affect international competitiveness, or to support a rate
which is falling, to keep foreign investments. One example of this is, in 2010, China was
accused by the United States of artificially holding down its exchange rate so that it can
export more.
There have been attempts by the major industrial countries to influence the exchange rate of
the US Dollar. Many commodities and raw materials, especially oil, are priced worldwide in
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dollars, so a rise in the value of the dollar for speculative reasons unconnected to trade could
cause inflation.
Even when all the major central banks act together, they cannot have a significant effect on
the foreign exchange market. The sheer size of the market's daily dealings makes the
reserves of the industrialised countries look small.
Effect of Exchange Rates and other Financial Measures on Global Trade
Fluctuation in exchange rates are a major issue in terms of costs and profit for companies
that trade or invest internationally. For example, the exchange rate could move adversely or
a country may impose exchange rate controls. In addition, there is the risk that countries
may raise business taxes or interest rates to impose tighter financial controls.
The risk associated with such changes in another country is known as "sovereign risk", and it
can affect the financial position of companies quite dramatically. For example the 2009 Coca
Cola Annual Report states
Foreign currency exchange gains and losses are primarily the result of the remeasurement of monetary assets and liabilities from certain currencies into
functional currencies. The Venezuelan government announced a currency
devaluation and Venezuela was determined to be a hyperinflationary economy.
Based on the carrying value of our assets and liabilities denominated in
Venezuelan Bolivar as of December 31, 2009, we anticipate recognizing an
initial remeasurement loss of approximately $100 million in the first quarter of
2010.
(b)
Raise expansion capital by offering new shares in the private limited company
This would allow the directors some choice in recruiting investor(s) who could add
value to the business in terms of the skills they bring (or alternatively an investor who
does not wish to play an active management role) without the existing ones losing
major control.
Finding the right investor may take too long or be difficult depending on the economic
climate, etc.
(c)
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the company and could be used only for company business. There will also be stricter
accounting rules, with accounting costs becoming far higher.
(d)
Large multinationals are likely to raise the finance needed using a combination of different
options. Obtaining the most appropriate mix will be of great importance.
Using retained earnings is a very positive option as it does not dilute the value of the shares
belonging to existing shareholders or reduce their control. However, the amount will be
limited by the companys previous profits and the firm may wish to invest more capital to
make faster profits.
Shareholders will expect the return on these funds to be equal at least to interest the firm
could have made on the money in other investments since retained profits represent the
deferred dividends of owners (shareholders).
Selecting the currency in which to borrow is an important factor. Usually this will be the same
as the currency in which the investment is to be made risk is minimised by the liability
being in the same currency as the income received from the project.
Deciding whether to take a fixed or floating interest rate for the loan is another key decision.
Under a floating interest rate, repayments are subject to increases in the interest rate which
affects the repayments, but a fixed rate would eliminate that concern.
What is Culture?
There are many aspects to culture some are very explicit but others are more deep-rooted
and difficult to identify. We now tend to think of culture as having two distinct meanings:
The way people think, feel and act within society or large social groups.
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Schein (1985) defined organisational culture as "a pattern of basic assumptions invented,
discovered, or developed by a given group as it learns to cope with its problems of external
adaptation and internal integration that has worked well enough to be considered valid and,
therefore, to be taught to new members as the correct way to perceive, think, and feel in
relation to those problems".
Geert defined culture in general as "the collective programming of the mind distinguishing the
members of one group or category of people from another". The "category" can refer to
nations, regions within or across nations, ethnicities, religions, occupations, organisations, or
gender.
According to Hostede a simpler definition is 'the unwritten rules of the social game'.
National culture
There are approximately 200 nations globally. Some nations are culturally identical
(monocultural), but others, especially large ones such as Brazil, China and India and
Indonesia, are made up of culturally very different regions.
Research has shown that national cultures usually differ significantly at the level
unconscious, broad preferences for one state of affairs over others that is, the values
held by a majority of the population. These values are acquired in childhood and are
deep-rooted, unconscious ones. This makes national culture extremely stable over
time it only changes slowly, over generations. The external signs of changes of
culture such as symbols, heroes and rituals, do not make any impact on changing the
underlying values.
Thus, the differences between countries remain virtually the same over many
centuries.
Organisational culture
During our working lives we spend a lot of time working in organisations. We become
accustomed to the particular norms and values of the organisation in which we work.
Research shows that organisational cultures differ mostly at the level of practices the
way things are done around here. These are more superficial and more easily learned
and unlearned than the values that form the core of national cultures. When we
change organisations we can adapt relatively easily to the practices of the new
organisation.
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Since organisational cultures are rooted in practices, they are more susceptible to
change; national cultures are deep rooted in values and hence present a more
substantial challenge when it comes to change.
The culture of an organisation also reflects aspects of its development and its external
environment for example:
(a)
The values and beliefs of the founder may still pervade the organisation's mission
for example, Anita Roddick's (Body Shop) commitment to the use of natural
ingredients.
(b)
(c)
The nature of the product or industry for example, we can see a number of
different features between the banking and technology industries as follows.
Cultural feature
Banking
Technology
Behaviours
Formal interactions
Smart dress code
Informal interactions
Casual dress
Management
Hierarchical
Flat structures
Values
Procedural reliability
Financial expertise
Conformity (to external
regulation)
Innovation
Intellectual capacity
Flexibility
Occupational culture
When you enter a particular profession such as a doctor, engineer, teacher or
accountant you undergo a period of mental programming. Occupational cultures have
symbols, heroes and rituals in common with organisational cultures, but they also often
imply holding certain values and convictions as an engineer for example, you would
learn to work with precision, to be especially careful about certain aspects of safety,
dress in an accepted way and learn the specific technical language that enables you to
communicate with other engineers.
Occupational cultures in this respect take a position in between national and
organisational cultures for example, the culture of management as an occupation
contains both national and organisational elements.
Professional cultures also take into account:
Degree of training
Selection into an "elite" group, which may include having attended the right
schools or training institutions
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Nation
Profession/Training
USA
MBAs
Britain
Accountants
Germany
Engineers
The Netherlands
Sales
France
Marketing
Gender culture
Gender differences are not usually described in terms of cultures, but in each society
there is usually a male culture that differs from a women's culture.
Women and men are often technically able to perform the same jobs, but they do not
respond to the same symbols, do not look up to the same heroes, and do not share the
same rituals. The degree of gender differentiation in a country is also highly dependent
on its national culture.
Artefacts
Patterns of behaviour
Behavioural norms
Values
Fundamental
beliefs
The inner rings are the deepest feelings of culture fundamental beliefs, values and
behavioural norms. These relate to national culture.
The outer rings are the more visible signs of culture patterns of behaviour and artefacts.
These relate to organisational and professional culture.
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Inducting staff in new countries or acquired companies into the practices and
processes of the organisation
New and original staff working together on joint projects and learning from each other
Providing employees with assignments in other countries so that they appreciate and
learn from how other cultures work and also transfer new practices to the team in that
location
Having open feedback sessions, workshops, one to one meetings and internal surveys
to gauge the progress of integration
Using outside or inside change agents who work solely to assist in making the change
happen.
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Coca Cola have role models who have been recognised as adding
value to the Companys success and have progressed in their
careers within the Company for example, one Executive Vice
President was originally based in Nigeria and the CEO is originally
from the UK.
Each of them had roles in other countries prior to taking on the senior
position. This type of action reduces potential conflict between senior
managers when making global decisions and projects an inclusive
global approach. Coca Cola main offices are designed to be
multicultural and multifunctional, providing the environment for cross
cultural and cross functional learning. A global environment created in
this way promotes cultural differences as a positive force for change
through associates experiencing the value of a diversity of people. It
helps to reduce conflict on the basis of cultural diversity,
That's why at our headquarters in Atlanta we have over 50 different
nationalities represented at our corporate centre alone. It's why we
have Latin Americans assigned to top level jobs in Asia.
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Management
For the global manager there are a range of challenges to overcome in organising and
directing operations within an integrated but diverse cultural environment.
(a)
How to adopt not only the recognised managerial competences of the parent
organisation, but demonstrate abilities as a champion of international strategy, crossborder coach, intercultural mediator and change agent.
(b)
(c)
(d)
How do you attract and value people with diverse educational, professional and
cultural backgrounds?
How can a culturally diverse group be best managed and used as a resource to
tap into?
How to use the appropriate key competencies at the organisational level to realise
multicultural synergies and provide services which create stakeholder value:
LVMH (Louis Vuitton Mot Hennessy) stressing French refinement and elegance.
On the other hand, other companies respond to the culture of their locations by adapting their
corporate characteristics. For example, Disneyland Japan has a distinctive Japanese
culture, emphasising Japanese values such as the drive towards perfection, courtesy,
efficiency and cleanliness. This is partly a reflection of the way in which Disney licenses its
operations into other countries, but also builds on its experience when it first exported the
Disneyland parks to France it suffered huge losses because it did not take into account the
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very different cultural values of the French and just built the American model and expected it
to thrive.
Think Point
How has global culture impacted on the local culture in your country? To what extent is this
positive and what have been the negative effects? Has there been any backlash against the
threat to national culture?
F. LIMITATIONS TO GLOBALISATION
The expansion of globalisation in the future is likely to be limited by a number of factors
including the following.
Demographics
World population in 2015 will be 7.2 billion, up from 6.1 billion in the year 2000 and in most
countries, people will live longer.
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Ninety-five percent of the increase will be in developing countries, nearly all in rapidly
expanding urban areas. Increasing lifespan will have significantly divergent impacts.
In the advanced economies and a growing number of emerging market countries, declining
birth-rates and ageing will combine to increase health care and pension costs while reducing
the relative size of the working population. This will strain the social contract and leave
significant shortfalls in the size and capacity of the work force. There will be an increasing
requirement for health care services and immigrant workers.
In some developing countries, these same trends will combine to expand the size of the
working population and reduce the youth bulge, increasing the potential for economic
growth and political stability.
Aging will put a huge premium on skilled workers and will shift the wealth of nations to
countries with younger, educated populations. The global hunt for already scarce talent will
become even more of a preoccupation of companies and countries.
Natural Resources
Of all the categories of resource whose depletion is likely to bring an end to globalisation, the
most likely to be limiting in the short term is energy. The linkage between energy availability,
price and distribution is a major challenge.
Water scarcities and allocation will pose significant challenges to governments in the Middle
East, Sub-Saharan Africa, South Asia, and northern China. Regional tensions over water will
be heightened. There has already been tension between Indian farmers and firms such as
Coca Cola over water rights. Three billion individuals who will be living in water-stressed
regions from North China to Africa heighten the implications for conflict.
In addition to this exhaustion of resources, the growing public awareness of the potential
damage to the environment and to the treatment of workers and communities in poorer
countries of the world has become a limiting factor.
Technological Development
Technological advances are capable of reducing energy consumption for most applications.
However, the process of testing, accepting and incorporating new technologies on a global
scale is slow; this is especially true in the developed world, where the mass of existing
technology creates inertia to further development that is difficult to overcome.
It is also true in the Third World, where cultural barriers to technological change have their
own inertia.
Technological development is highly dependent on both energy and wealth. For example,
nuclear power plants take years before they recover the energy investment of oil required to
build them.
Therefore, the lack of foresight to continue developing some technologies could result in a
slowdown in global expansion.
Individual languages and cultural practices are being abandoned for a global culture
based on western tastes.
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The worlds resources are being consumed by the richest nations and companies. If
trade is an important indicator of globalisation, then the global economy is essentially
concentrated on a few nations and a small number of elite within these nations.
Only 10 countries account for 60% of global merchandise trade, with another 40
countries accounting for a further 30%. The remaining 150 odd nations of the world
share just 10% of world trade. The returns are then further concentrated in the hands
of a small percentage of the population, in both rich and poor nations.
The growing power of multinational companies with turnover greater than the GDP of
some countries. Such companies are accused of seeking to maximise profit at the
expense of work safety conditions and standards, recruitment and reward standards,
environmental conservation principles and the integrity of national legislative authority
and independence.
The loss of employment from developed countries as low technology, labour intensive
productions shift to low wage countries.
The opening of free markets may result in unrestricted competition affecting domestic
industries which are not mature enough to compete.
Environmental impact as ever increasing natural resources are used and human
activities damage the environment for example, the increase of carbon emissions
from cars, planes and boats used to transport people and products around the globe.
An Oxfam International briefing paper, Harnessing Trade for Development, states that world
trade rules have been developed by the rich and powerful on the basis of their narrow
commercial interests and that trade rules should be judged on their contribution to poverty
reduction, respect for human rights, and environmental sustainability.
Activity 4
Finally in this chapter, we present a summary of the development of the Georgio Armani
fashion empire with which we can explore aspects of the development of global operations.
Consider the following case study and then answer the questions that follow.
Case Study 3: Armani The Ultimate Fashion Brand
Giorgio Armani, 74, is CEO of the Armani Group and sole shareholder of
Giorgio Armani SpA (Armani), one of the world's leading fashion and
lifestyle design houses, with 5,000 direct employees, 13 factories, and a
direct network of 500 exclusive retail stores in 46 countries worldwide. The
company is one of the few remaining independent, privately-owned
companies in its sector.
The company was founded in Milan in 1975 and later that year, the first
ready-to-wear collection was presented. 1978 marked an important turning
point in the company's history when it established a licensing agreement
with GFT (Gruppo Finanziario Tessile Textile Finance Group). GFT was
the world's largest manufacturer of designer clothing competing at the
highest end of the fashion business, its success is rooted in its history,
cutting edge technologies and well-organised labourforce. GFT had singlehandedly revolutionised the way artistic clothing was conceived,
manufactured, marketed, and distributed. It was alert to social trends and
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Questions
(a)
(b)
(i)
Describe instances where Armani has used mergers and acquisition, and
licensing or joint venture, for growth.
(ii)
What do you notice about the use of these options so far as business operations
are concerned?
(ii)
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SUMMARY
Firms have a range of choices for growing globally. The growth option they take will depend
on the conditions in their location of choice. Joint ventures and acquisitions/mergers provide
for the opportunity of easier entry into a new market through the existence of an established
business there and also because resistance by the public and the government is likely to be
lower. Organic growth is more risky financially, but the difficulties of integrating processes
and systems are much reduced. This type of growth is more likely when the political and
environmental factors are more stable. Licensing and franchising provide a method of
obtaining global coverage with lower financial risk and may be a good initial way of entering a
new market.
Globalisation brings with it the challenge of financial management, where to borrow and in
what currency. Treasury management is very important if large losses are to be avoided by
swings in interest and exchange rates plus country devaluations.
One of the main contributions to successful business performance is to ensure that cultural
factors are taken into account and planned for. Recruitment, employment, training and
employee feedback all need to be customised to the particular needs of the location and the
national and professional culture of employees as well as to the organisational culture.
Marketing too must adapt their communication channels and methods to maximise
opportunities to connect with local populations effectively. Management techniques need to
broaden to encompass all the necessary people and organisational skills specific to working
with global teams.
Globalisation is limited by factors such as lack of infrastructure, growing scarcity of resources
such as energy and water, and opposition by pressure groups of various kinds. The power
and influence of multinational companies and the narrow distribution of the wealth created
have created wider gaps between rich and poor.
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ANSWERS TO ACTIVITIES
Activity 1
(a)
Coca Cola uses different growth strategies with its bottlers depending on the location
in which they are based. It decided to take full ownership of the North American
bottlers because of the competitive threat from Pepsi. It needed to be in full control of
the operation to ensure efficiency and drive down costs.
In many other cases it uses licensing as this gives the company a wide global coverage
without huge capital investment. It can still keep control as the bottlers have signed
agreements regarding quality, delivery, price and so on.
Joint ventures may be used to gain entry into certain countries where Coca Cola would
have difficulty getting permission to trade. The joint venture also puts part of the risk of
a new operation on the other organisation to ensure that the alliance succeeds.
(b)
Activity 2
The IPad will cost you more euros than last year because the exchange rate has changed
and the is a stronger currency than the euro at this point. You will pay 600/1.2 = 720.
Activity 3
(a)
(i)
Simint Spa
Deanna Spa
Guardi
Examples of the instances where Armani has used licensing and joint venture
are:
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(ii)
Armani has used strategic alliances since the early period of his business.
These have been very important to the foundation and the expansion of the
business.
Armani has used strategic alliances such as licensing as a means of expansion
and globalisation through diversification using well known global brand names.
For example he was able to diversify into fragrances by using a licensing
agreement with Helena Rubinstein and into electronics by using a contractual
agreement with Samsung.
However Armani has expanded its manufacturing by acquisition and joint venture,
usually with Italian companies in the supporting industries, such as shoes and
knitwear which seems to align with the underlying "Made in Italy" theme while
providing a means to grow and control the business expansion.
(b)
(i)
Armani seems to have been relatively alert in using state of the art information
technology to support business systems. As early as 2002, its US stores were
using wireless hand held devices to check stock levels and hence able to provide
a more effective service to customers and check stock excesses or low points.
Armani has also used technology to manage and improve its supply chain
generally, from sourcing to life cycle management.
(ii)
Upgrades and relentless improvement are needed to retain competitive edge and
Armani seems to have adopted electronic technology before many other
organisations. The company has used technology extensively and in a variety of
ways to retain competitive edge not only in the core brands, but in its
diversification strategy. (The strategy of bringing together two leading names on
one product to strengthen and continue the competitiveness of both brands can
be seen with the collaboration with Samsung.) Examples are:
New products such as sports shoes and mobile phones bearing the Armani
Brand were developed
Armani moved into the electronics market by developing and marketing its
own branded phones and televisions with Samsung.
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Chapter 9
Introduction to the Socio-cultural Business Environment
Contents
Page
Introduction
214
A.
214
214
214
219
B.
Business Ethics
Different Cultural Perspectives on Business Ethics
Ethics and Management
The Potential for Unethical Behaviour
Corruption and Bribery
Ethics and Conflicting Stakeholder Interests
225
225
229
232
232
235
C.
237
239
242
243
D.
245
245
246
246
Summary
249
Answers to Activities
251
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INTRODUCTION
This final chapter is concerned with the social and cultural changes taking place that will
increasingly impact on how business is conducted in the future. In Chapter 8 we touched on
culture and demographic changes, and we will now look at these factors in a little more
detail.
In the first section we focus on the implications of demographic trends for business and what
these may mean for future economies, consumers and the workforce.
In the second section of the chapter we compare business ethics in different areas of the
world, how this affects planning and success in the global company and the underlying
ethical principles of corporate social responsibility.
Corporate responsibility and its interaction with company performance has become an issue
of major importance to global organisations and the public in general. Firms are being forced
to take responsibilities for conserving the scarce resources of the planet and taking more part
in ensuring that all individuals have the basic needs for life.
We look at the ways in which companies may gain competitive advantage and maintain
market share whilst implementing corporate responsibility strategies. However, we shall note
that the tension between the main aim of Anglo American companies of increasing
shareholder value while caring for the planet and its people is an ongoing challenge.
Proportion of population
0.6
Russia
Sub-Saharan Africa
0.55
0.5
Central Asia
Latin America
0.45
North America
Eastern Europe
Western Europe
Japan/ Oceania
0.4
0.35
2000
2020
2040
2060
2080
2100
2120
Source: www.redgreenandblue.com
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Even with the forecasts we have, many companies take no account of likely demographic
changes even though the number of people in a country, their distribution within it, ethnic mix
and age profile are vital to developing a robust business strategy.
The current age structure of the world's population can be seen from the following table.
Age Demographics by Gender
Age Range
% of
Total
0-14
27.0
944,987,919
884,268,378
15-64
65.3
2,234,860,865
2,187,838,153
7.6
227,164,176
289,048,221
65 and over
Male
Female
Countries with young populations (high percentage under age 15) need to invest more
in schools.
Countries with older populations (high percentage ages 65 and over) need to invest in
services such as health care.
Rapid growth of a young adult population may lead to mass employment, particularly if
concentrated in particular areas (especially given the growth of urbanisation predicted)
and this may lead to social and political unrest.
The urban population currently represents 50.5% of world total, and is growing at a rate of
1.85% annually (2010). The largest cities in the world already have enormous populations
and it is unclear how they will cope with this level of future growth:
The movement of people from disadvantaged locations to wealthier countries has always
been a feature of demography. As the economic strength of different countries change in
relation to each other, people will seek to better themselves by migrating to regions or
countries offering more opportunities. In the 19th and 20th centuries the USA was one of the
most popular destinations for migrants. The opening of the EU to Eastern European
countries resulted in waves of immigrants to a United Kingdom already rich in immigrants
from its former colonies. In the future, this trend may affect China and India, where
populations will be ageing and they will require immigrant workers from the poorer nations to
sustain their economies.
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Given these changes in the global population, the present problems of underemployment,
pollution, waste disposal, epidemics, water shortages, famine, over fishing of oceans,
deforestation, desertification and depletion of non-renewable resources will continue to grow.
Businesses will have to take account of the impact of this on the way in which they operate,
and governments will need to examine the extent, cost and types of interventions that will be
required to provide the protection and services required where these cannot be guaranteed
by the market.
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China and India must decide the extent to which they are willing and
capable of playing increasing global roles and how each will relate to the
other.
Russia has the potential to be richer, more powerful, and more self-assured
in 2025 if it invests in human capital, expands and diversifies its economy,
and integrates with global markets. On the other hand, Russia could
experience a significant decline if it fails to take these steps and oil and gas
prices remain in the $50-70 per barrel range. No other countries are
projected to rise to the level of China, India, or Russia, and none is likely to
match their individual influence.
If we contrast the GDP of countries in the recent past with those forecast to 2050 there is a
very different spread of share by nation.
Figure 9.2(a): Share of World GDP, 1969-2009
40
35
30
EU15
1975 = 26.3%
USA
2009 = 26.7%
Percent
25
20
15
10
Asia/Oceania
Latin America
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China
India
GDP
6
5
4
Brazil
Russia
2
1
2045-2050
2040-2045
2035-2040
2030-2035
2025-2030
2020-2025
2015-2020
2010-2015
2005-2010
2000-2005
Million
India
Indonesia Brazil
2000
2010
Egypt
2020
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15%
0%
China, -10%
-15%
-30%
Europe, -25%
Korea, -30%
-45%
Japan, -44%
2000 2005 2010 2015 2020 2025 2030 2035 2040 2045 2050
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lack of funds and unprepared teachers, there are science manuals that "have not been
updated in 10 years, in some instances even 40 years".
This type of information emphasises the present gap between skill levels in the advanced
economic countries and some of the emerging ones.
Some companies such as the Brazilian oil giant Petrobras are growing their own future
workforce by concentrating on the personal development of their own employees at all levels.
It has its own university and its degrees are validated by Ministry of Education as equivalent
to those of Brazilian Universities. In 2008, Petrobras had 190,923 staff places taken up at its
university, with the average training provided, per employee, being 103 hours (compared to
30 hours in USA and Asia).
Activity 1
(a)
Which countries will be most affected by ageing populations in the next 20 years?
(b)
How will this affect business operations and how will companies solve the issues?
(c)
Why are multinational companies investing heavily in countries such as Brazil, China,
India and Russia?
New laws and practices that make part time and flexible working hours possible,
particularly improved leave arrangements for parents and carers
Global talent scarcity with firms competing for the most skilled employees
The research from the NIU suggests that by 2020 women generally will have gained more
rights and more freedom in terms of education and workforce equality, but that the gender
gap will not have disappeared, even in advanced economies. It is also forecast that the pay
differentials which exist today (see Figure 9.5) will persist into the future.
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Figure 9.5: Gap in Pay Levels Between Male and Females by Country
Percentage gap between median men's and women's wages
for all full-time workers (2006 or latest year available)
40.0
35.0
30.0
25.0
20.0
New Zealand
Poland
Denmark
Greece
France
Hungary
Ireland
Sweden
Netherlands
Australia
Spain
Czech Republic
Portugal
Finland
United States
Switzerland
United Kingdom
Canada
Germany
Japan
Korea
Several factors are likely to improve the status of women in the workforce.
According to World Bank analysis, increases in the level of information and communication
technology infrastructure tend to improve gender equality in education and employment.
Currently, there are few women heads of state, but the involvement of more women in local
and regional politics is rising and should improve the legislation and opportunities for growing
numbers of women in the workplace in Europe.
However, there are a number of issues that will slow equality in employment for women. In
regions where there are high populations of young people coupled with a history of male
domination, if there are limited public resources, competition for those resources will be
huge, leading to an increased probability that females will not receive equal treatment. This
will begin at the education stage if schools cannot educate all, boys are likely to be given
first priority. In countries where there is a preference for male children, girls risk infanticide
and the female population is disproportionately low. Countries already unable to provide
employment for male job seekers are not likely to improve employment opportunities for
women.
Certainly some MNCs have given special emphasis to developing women leaders as they
recognise their link with women consumers in particular. The CEOs of Kraft, Pepsico and
Xerox are among the prominent women business leaders, and Coca Cola has a womens
development programme (although it is promoted and chaired by the male CEO).
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Milleniums born 2001 onwards will be entering the workforce within 10 years and are
expected to have yet another different perception of work and career.
Each generation has its own unique character shaped by the economic, social and cultural
forces current during its formative years. By examining these forces it is possible to
understand what motivates each generation and gives it a unique outlook on life.
(a)
Baby Boomers grew up in the post World War Two era of rationing. They generally
possess a "live to work" attitude, appreciate job stability and security, and enjoy making
decisions and working with clear goals and responsibilities. A high proportion expected
to stay in the same organisation for their entire career and to obtain promotion and
salary rises steadily as a reward for their longer service. Many tend to be task
oriented, preferring formal ways of communicating, such as face-to-face meetings,
memos and emails.
(b)
Many of them also started work in the early 1980s, when the economy was in a
downturn. Hence they are not loyal to any company, only to the team they work
with and the boss they work for.
(ii)
If a Generation X individual is unhappy, s/he looks for and accepts the best offer
s/he can find at another organisation.
(iii)
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At the same time, this generation expects immediate and ongoing feedback and
is equally comfortable giving feedback to others. Generation X dislikes authority
and rigid work requirements.
Generation Y grew up with more disposable income than previous generations as well
as being able to spend more time in full-time education. Their characteristics include:
Extremely brand conscious, possibly because brands have been such a constant
feature of the Generation Y experience
Better educated, more competent with technology and quicker to adapt than
previous generations
In the workplace:
(i)
(ii)
Generation Ys want to be treated as equals with the rest of their older colleagues.
(iii)
They crave a flexible working lifestyle and are more interested in making their
jobs accommodate their family and personal lives.
(iv)
They want jobs with flexibility, telecommuting options and the ability to go part
time or leave the workforce temporarily when children are born.
(v)
They seek the freedom to develop and advance themselves, and are not
intimidated by authority or afraid to speak up.
(vi)
Generation Ys hold high expectations of their career and want their work to be
challenging and meaningful they do not expect to stay in any job for too long.
(vii) They are quite prepared to walk away from organisations that are unable or
unwilling to match their values and concerns.
(viii) They are more aware of corporate social responsibilities and of the environment
than Generation X or Baby Boomers.
In the UK the Association of Graduate Recruiters found that 72% of final year students
(Generation Y) said they would have to feel happy with an employer's ethical record
before agreeing to work for them.
Challenges for Employers
Many employers have all three generations working in the same location. Their different
aspirations, expectations and working practices are a challenge.
(a)
Recruitment
Despite the recent rise in student numbers, many top firms are locked in a struggle to
recruit and retain top graduate talent. This worsens each year, not because there are
not enough applicants for each role, but that there appears to be a mismatch between
what employers want and what graduates want to do, reflecting the features of the
generations mentioned above.
Companies recruiting Generation Y have to ensure that the package they offer is
appropriate and so are their practices culture, incentives, contacts and development
opportunities.
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MNCs continuously compete for the same individuals and it will be a question of
whether the company fits the requirements of the individual Generation Y rather than
the other way round.
(b)
Management
Once recruitment has taken place, management of Generation Y becomes the next
challenge. Many older colleagues may prefer a traditional, less collaborative style of
working, and employers find tensions building up between the generations with older
workers being dismissive of younger workers' abilities and younger employees
dismissive of the competence of their older co-workers.
In 2010, the Chartered Management Institute (CMI) and the Chartered Institute of
Personnel and Development (CIPD) examined how line managers and HR managers
were adapting to an ageing workforce.
Only 14% of UK managers consider their organisation well prepared to cope with
an ageing workforce and the fact that a third of UK workers will be aged over 50
by 2020.
93% of managers taking part in the study recognised that older workers bring
valuable knowledge to organisations.
59% think that young managers find it hard to manage older workers.
Changing expectations of work and the impact of new technologies will require
managers and leaders to develop a new range of skills that focus on emotional
and spiritual intelligence, judgement and the ability to stimulate creative thinking
to improve productivity.
Talent markets will become more complex in that they will be more diverse in
regard to age, generational issues and culture.
Organisations will have to address the growing power of the employee and the
need for personalised working patterns and benefits.
They also predicted that more organisations would be wholly virtual and that those
organisations that maintain physical premises would be run by by managers who
create a sense of control and calm.
Managers would need to focus on individual employees and their needs when
developing work technologies and motivate people creatively. They would need to
provide flexible, tailored support for work-life integration. Strengthening an organisation
will require enhancing agility, clarity, flexibility, genuineness, innovativeness and
openness. Finally, taking the notion of unforeseen events seriously, thinking these
through diligently and investing in contingencies may prove to be business life saving in
the long run.
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Think Point
In your country, do several different generations work together?
What tensions may arise in the work place between different generations of employees, and
how might management adapt its approach to deal with these?
It is likely that different generations work together in most countries. This has been a
traditional feature of family businesses, but is becoming much more common in larger
companies.
The tensions are likely to vary with different national, organisational and occupational
cultures. For example, in Asian countries, older people have traditionally been respected
and perceived as people to learn from. Whether this will remain true in the future workplace
is unclear.
Management is likely to have been forced to adapt somewhat as western culture has
affected young people. In particular, where skilled young workers have returned from studies
in the US/UK they may have different ideas on how businesses should be run and these may
conflict with existing cultural values. Has management had to start to listen to them and take
into account some of their ideas?
B. BUSINESS ETHICS
The power and influence in business and society is greater than ever before. Business plays
a large role in society by providing goods and services that the public wishes to purchase,
provides employment and supports economic growth. When businesses act inappropriately,
this can have a very harmful affect on individuals, communities and society in general.
Stakeholders including owners, employees, customers and suppliers, and the public at
large are increasingly demanding transparency in business operations, and are concerned
that organisations treat them fairly.
The subject of business ethics includes issues of conflict of interest, financial and accounting
integrity, corruption, advertising standards, corporate and individual privacy and bioethics.
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management models and theories. With the growing influence of other economies, it is
imperative that we examine and compare these different perceptions of ethics and how they
are demonstrated in the way operations and relationships are managed. For example,
differences in legislation, cultures and practices between societies have made the application
of ethical standards subject to what might be termed "ethical dilemmas". These occur when
there are conflicts between what is a morally right action and the potential for the outcome of
such action to be morally wrong for example, child labour is perceived by western cultures
to be morally wrong. but although to ban it may be morally correct, the child and his/her
family may be left starving.
Note, though, that ethical issues apply to all companies in all societies and are not only
encountered by global companies, so they must be understood in terms of their cultural
setting.
There are three broad ethical models:
Anglo-American
European
Asian Pacific
The ethical guidelines for business conduct are usually given in corporate codes of conduct.
Activity 2
Here we present the Xerox Code of Conduct as an example of the Anglo-American model.
Consider the following summary of its content and then answer the question that follows.
Case Study 2: The Xerox Code of Conduct
We are committed to conducting our business responsibly and in the best
interests of our customers, employees, shareholders and the communities
in which we work and live. We have had an employee Code of Conduct in
place for nearly 40 years and all of our employees acknowledge their
comprehensive understanding of it each year.
Key topics include:
Conflicts of interest
Intellectual property
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Harassment
Violence-free workplace
Supplier guidelines
227
Question
Describe, with examples, three ways in which this code of conduct illustrates the features of
the Anglo American model.
See the suggested answers at the end of this chapter.
For example, in China it is unethical to make people redundant in an economic downturn and
mismanagement of the business can result in arrest for corruption and even execution.
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In Asia the guidelines are left to managerial discretion and based on trust and implicit duty
rather than formal governance arrangements.
The Asian Pacific Approach is illustrated by the following extract from Tatas Code of
Conduct.
Activity 3
Consider this first clause in Tata's Code of Conduct and then answer the questions that
follow.
Case Study 3: Tata Code of Conduct
This comprehensive document serves as the ethical road map for Tata
employees and companies, and provides the guidelines by which the group
conducts its businesses.
Clause: 1
National interest
The Tata group is committed to benefit the economic development of the
countries in which it operates. No Tata company shall undertake any
project or activity to the detriment of the wider interests of the communities
in which it operates.
A Tata companys management practices and business conduct shall
benefit the country, localities and communities in which it operates, to the
extent possible and affordable and shall be in accordance with the laws of
the land.
Questions
(a)
Describe how this clause differs from that of Xerox given previously. Discuss why this
is so.
(b)
(ii)
What do you think might be the reason for your answer to part (a)?
Other Regions
Africa and Latin America have a similar approach as both regions have traditional tribal and
small family-based communities which tend to ensure that the individual is involved in
collective decisions.
Latin American ethics tend to be based around decisions made by the many small family
owned firms where the key stakeholder is also the employee.
Africa and some Latin America countries tend to have ethical guidelines set by Non
Government Organisations (NGOs) often because the countries are under funded, lack
education or highly corrupt as we will see in the next sections.
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Is minimal compliance with the letter of the law enough for example, in safety or
equalities issues or does an ethical approach imply more proactive
commitment?
Is it unethical to pay bribes as the only means of securing an export order which
will be in the interests of the firm's shareholders and workers? This is now illegal
under UK law but is believed to be still practised (see below).
Is it ethical to adopt off shore tax avoidance schemes which are not illegal, but
which can result in firms paying very low UK taxes and thus failing to meet their
social responsibilities to their home country? Conversely, in Anglo American
terms, given the legal requirement for companies to be run for the benefit of
shareholders, would it be proper for the managers not to take advantage of
opportunities for tax avoidance, which is in the interests of shareholders?
There may be different interpretations of the law and what is illegal may only be
determined in the courts after the event. The question of legality is often related to the
concept of what may be reasonably foreseeable as the consequences of actions.
(b)
There are number of ways in which this general principle may condition behaviour
when it is put in the context of self interest:
(i)
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Not to deprive others of the true facts about a situation, to which they are entitled,
in order to pursue self interest or that of the organisation. This may be to cover
up misdeeds or mistakes, or the misrepresentation of the financial position to
shareholders (or to the government, for taxation reasons).
230
(ii)
(c)
Not to use one's own power to exploit others in the pursuit of self interest or that
of the organisation, or to use them for one's own gain. This includes:
misrepresenting the views of others, such as in claiming the responsibility for
others' work or making misleading claims in order to obtain sales. It also applies
to cases of sexual harassment by managers of subordinates.
400%
350%
Average
CEO pay
326.6%
298.2%
300%
250%
200%
260.8%
S&P
500 Index
150%
106.7%
100%
50%
0%
-50%
Corporate
Profits
Average Worker Pay 4.3%
Minimum Wage
-9.3%
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005
Source: www.financialsense.com
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As long as returns on investment are satisfactory, shareholders may take too relaxed a view
towards managers' behaviour. This practice, particularly prominent in the USA, is not
considered good corporate governance practice. Anglo American corporate governance
guidelines suggest that a CEO should not also act as Chairman of the Board and set his/her
own bonus levels.
Role of Professionals in Organisational Ethics
Professionalism can be seen as an important element in the consideration of management
ethics, since most professional bodies are rigorous about adherence to what they define as
acceptable standards of behaviour for a practitioner in that profession. Indeed, some
professions, such as the legal and medical professions, have the power to remove an
individual's licence to practice in extreme cases of malpractice.
Therefore, professional ethics and standards may assume a dominant role in conditioning
the behaviour of members of that profession. The Code of Conduct for Nurses and Midwives
is an example:
Case Study 4: The Code of Conduct for Nurses and Midwives
Standards of conduct, performance and ethics for nurses and midwives
The people in your care must be able to trust you with their health and wellbeing.
To justify that trust, you must:
Work with others to protect and promote the health and wellbeing of
those in your care, their families and carers, and the wider community
Be open and honest, act with integrity and uphold the reputation of
your profession.
Each of the above points can be read in more detail on the nurses and midwives website:
www.nmc-uk.org. Similarly, the Chartered Management Institute has a code of practice for
managers which can be found at www.managers.org.uk.
One effect of this is that professionals may see loyalty to their profession as more important
than loyalty to the goals of the organisation for which they work.
Although the role and expertise of the professional must be acknowledged, there are many
areas of professional judgement which can be fruitfully opened up to scrutiny for example,
accounting and financial management in terms of creative accounting and other practices
which present a company's accounts in a more favourable light.
However, challenging the dominance of the professions is not easy, since the necessary
information and its interpretation require the specialist skills of the professional.
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Three core factors that increase the temptation to act unethically can be identified:
(a)
Level of competition
The more intense the competition, the greater the pressure to act unethically in seeking
a competitive advantage. This may also increase the pressure to achieve high
performance, resulting in managers being tempted to 'take short cuts' to achieve
financial targets or simply to misrepresent their achievements.
(b)
Organisational culture
The more liberal the culture and the more autonomy of decision making and action it
allows, the greater the opportunity for acting with self interest. Cultures which focus on
outcomes rather than processes can imply that the ends justify the means. One of the
purposes of the rule-bound bureaucratic structures typically found in public service is to
prevent officials from having discretion to favour particular service users and so
minimise the possibility of corruption. However, in such autocratic and bureaucratic
cultures, there may be a tendency to cover up mistakes and obscure the truth of
situations.
(c)
9.7
9.6
9.5
9.4
9.2
9.1
8.9
8.8
8.7
High corruption
151 Angola
152 Cote d'lvoire
Equatorial Guinea
Nigeria
155 Haiti
Myanmar
Turkmenistan
158 Bangladesh
Chad
2.0
1.9
1.8
1.7
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When procedures for allowing the market to bid for contracts in a transparent manner
are replaced by executive authorisation, thus reducing competitiveness.
Where this is careless or loose audit practice, allowing such behaviour to remain
undisclosed.
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Where there is underfunding within the public sector for example, underpaid public
officials, lack of suitable financing of political parties, undersupply of public goods for
education.
Where social and cultural factors, including nepotism, support the practice. Not all
countries view corruption and bribery as being unacceptable.
120
108
107
Corruption Rating
100
Corruption Rating is from best
(low rating) to worst (high rating)
80
106
102 100
82
80
70
60
40
23
20
23
21 20
16
15
8
0
Australia Germany
UK
USA
China
India
Indonesia Vietnam
Source: www.evolvingexcellence.com
What are the Effects of Corruption?
Four effects can be identified:
It reduces the taxes paid to governments, resulting in loss of public investment which
would ultimately be used for the social good.
It discourages foreign investment because of the additional cost incurred by paying the
bribe, so it also reduces economic growth of some developing countries.
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(a)
235
(b)
Employees
Irrespective of the kind of organisation, the interests of the employees must be
considered. Employers have certain statutory obligations to safeguard the interests of
workers (for example, a duty to promote safe working practices), but moral obligations
also exist. These moral obligations will be influenced by prevailing social attitudes that
may be as compelling as the legal obligations.
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(b)
Customers
There are very few true monopolies, largely due to the abundance of substitute
products and brands. Competition tends to preserve the objective of customer
satisfaction in firms to a far greater degree than would otherwise be the case. The
customer clearly desires low prices, conflicting with the profitability objective.
Managerial decisions have to reconcile customers interests with those of the
organisation. The legal responsibilities of an organisation to its customers fall into two
broad areas to provide consumer choice and to ensure fair dealing. However,
influential pressure groups have emerged in the area of consumerism in recent years
which demand that businesses take account of customer concerns in the wider sense
for example, not trading with countries with oppressive human rights records, as was
the case with campaigns against the Apartheid regime in South Africa.
(c)
Suppliers
Most organisations depend upon an external source of supply and it is in their interests
that this should be served by a fair and open market. This emphasises the mutual
interdependence of commercial bodies, and fair and equal treatment of all potential
external suppliers is therefore vital to their well being.
(d)
Society
Current belief is that all organisations have an obligation to contribute to the well being
of the countrys economy and society as a whole. This may be thought of as an
obligation of the government of the day, but expectations now extend to all types of
organisations. Managers should demonstrate awareness of responsibilities to society
in general.
Despite deregulation and a general contraction of state involvement in enterprise, there
are boundaries of tolerance shown by governments to certain practices. For example,
many western Governments impose a greater financial burden on businesses whose
activities result, directly or indirectly, in divergence between social costs and private
costs such as private motoring and smoking with increases in tax making their
products more expensive.
The media, both within an organisation but more particularly within society as a whole,
has an ever increasing role in helping society answer its ethical questions and reporting
on alleged unethical behaviour by organisations.
(e)
Local communities
Organisations often have a significant impact upon the local communities in which they
trade where products are grown, processed, distributed and sold. In employment
terms, this extends employers' ethical relationship with residents to the broader travelto-work areas of their organisations.
To help decision making given these conflicting interests, two models have been developed.
These attempt to provide a framework for an organisation to address ethical issues where
there may otherwise be no guidelines upon which managers may draw in decision making.
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applied to the ethics of each functional area of the organisation and are drawn together
into an ethical audit. For example:
Activity 4
What does your organisation do to help managers make ethical decisions?
Are there company guidelines for dealing with employees, customers and suppliers? For
example, does it have written policies on not taking bribes from suppliers who want the
companys business? Is there a policy about, describing its products and services
accurately? What actions does it take to ensure managers treat employees fairly?
What is the organisational culture in respect of ethical issues? For example, is stealing from
the organisation tolerated? Do managers take credit for ideas that have come from other
employees?
Do you feel that the organisation has high or low ethical standards?
To what extent to the standards of the organisation reflect those of the national culture?
The Harvard Kennedy School states that "corporate social responsibility encompasses not
only what companies do with their profits, but also how they make them. It goes beyond
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philanthropy and compliance, and addresses how companies manage their economic, social,
and environmental impacts, as well as their relationships in all key spheres of influence: the
workplace, the marketplace, the supply chain, the community and the public policy realm."
Lascerre (2007) demonstrates the links between global firms and the range of stakeholders
to which it interlinks and has ethical responsibilities. He calls this the "Ethical Web", as
shown in Figure 9.9.
Figure 9.9: The Global Ethical Web
United
Nations
Host
countries
International
Institutions
Governments
European Union
IMF
World Bank
Investors'
countries
CSR
Financial
Markets
Industry
associations
Global firms
Shareholders
Corporate
executives
SRI Funds
Front-line
managers
Public
opinions
Churches Press
TV
Amnesty
International
Non-government
organisations
Academia
Caux
Transparency
International
Greenpeace
Corpwatch
However we define it, CSR is now an accepted part of the business environment and CSR
policies form an integral part of business operations.
CSR policy is disparate and organisations take different views on what it means for
example, Starbucks focus on employee issues while the Body Shop focuses on human
rights. Other examples of key focuses include:
Child labour
Recycling
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Paying a fair price to the producers of ingredients such as cocoa, coffee, milk, etc.
239
Just as organisations have different perceptions of what CSR issues are important the same
is true of countries. Research has shown that:
South Africa is more concerned with contribution to social needs such as education and
health
US, Italy, France, Switzerland and much of South America concentrate on fair
treatment of employees
UK, Australia, Canada and Indonesia are most concerned with environmental aspects
of CSR.
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By finding ways to develop bottles from natural materials that lower its dependency on
scarce resources and opening its own recycling operation, Coca-Cola has managed to
reduce cost and improve its value chain which maximises shareholder value.
(b)
Kraft Foods is another multinational company that has produced a range of lower fat
and lighter range products to meet the needs of both health conscious consumers and
the obesity lobby.
(c)
Kraft through its Cadbury acquisition now contributes to the Fairtrade sustainability
projects that assist farmers to obtain fair prices for their products and improve the
quality and density of the crop. This not only ensures supply, but encourages
consumers who are concerned with sustainability to buy Kraft products rather than
those of its competitors.
(d)
Hotel Chocolat set up its business around Fairtrade by producing its own cocoa and
manufacturing its chocolate in St Lucia. It introduced sustainable cocoa farming and
worked with agricultural experts from Reading University to produce better strains of
crop. It has since developed the site further and opened Hotel Chocolat on the
plantation owing to the customer loyalty it has built up at least partly as a result of its
ethical approach to business and commitment to corporate responsibility.
Case Study 7: Hotel Chocolate CSR and Competitive Advantage
In St Lucia, we are pursuing our passion for chocolate by becoming one of
the worlds few origin chocolatiers growing our own cocoa. The restoration
of the historic Rabot Estate (pronounced ra-BOW) is continuing at pace,
with new trees being planted and record quantities of cocoa being
harvested. But were also reaching out to the wider cocoa community in St
Lucia through our Engaged Ethics Cocoa Programme.
For 20 years cocoa farming in St Lucia has been in decline, something
weve started to change by guaranteeing to buy local cocoa at prices 40%
above those previously achieved. Our early results are promising with
interest in cocoa on the up, weve already helped create one hundred new
jobs to date. Local farmers now have a secure income and feel confident
enough to breathe new life into their farms through investment.
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MNCs promote their policies for career seekers and they also do so on the social networking
sites that Generation Y are likely to spend a considerable amount of their time.
Negative Publicity
There are numerous instances of companies being shown to be acting in violation of the
standards expected of them by the public and their customers, and of their own stated CSR
policies, primarily in less developed nations. This has attracted huge negative publicity in the
western countries which are their home locations and has resulted, in some instances, in
consumer boycotts. However, the effect does not appear to have any permanent effect on
their market position.
Examples include the following.
Unilever was accused by Greenpeace of destroying Indonesian rainforests for palm oil,
which is a vital ingredient for its soap and margarines. It immediately reversed its
position and stated that it would only buy palm oil from suppliers that could
demonstrate they did not cut down forests. Research has shown that organisations
that have been proven guilty of such actions are then quick to add a CSR initiative to
their corporate goals.
Primark sells low cost items since its manufacturing costs are kept low, but the
company promotes itself as being ethical and socially responsible. However, it was
discovered that child labour was being used and that some suppliers were employing
workers paid as little as 9p an hour. In addition these individuals were working 90
hours a week in extremely poor conditions. There are many other cases where
companies have declared themselves dedicated to corporate responsibility issues only
to later be found operating unethical practices in distant locations.
Coca-Cola was reported to be using 6 litres of precious water to make a litre of its
famous beverages when that water is scarce and needed by local farmers to grow their
crops for survival. At the same time the Company supported water conservation. The
company has had trouble shaking off its negative corporate history and, despite all its
recent actions on sustainability, has not convinced consumers of its sincerity. In the
past 10 years it has had negative publicity about its treatment of workers in Columbia
and China, and its role in fuelling child obesity. This has resulted in its products being
banned on several university campuses in the USA.
Another high profile example is Gap which was found still to be using child labour in
2007 despite a previous discovery being made in 2004.
Case Study 8: Gap's CSR Failures
Gap and Corporate Irresponsibility
Gap yesterday admitted to widespread problems from unsafe machinery
to child labour violations in the thousands of factories it uses around the
world to produce clothing for its retail chains.
Seeking to combat its image as a sweatshop operation, the company
detailed the findings in its first social responsibility report. The full 42-page
document was posted on its website. Gap said it has a team of more than
ninety compliance officers who conducted about 8,500 factory visits last
year. The company produces garments in 3,000 factories located in 50
countries. Gap said it cancelled supply deals with 136 plants last year
because of various violations. Contracts were terminated with 42 plants in
China, another 42 in south-east Asia, 31 on the Indian subcontinent and
nine in Europe.
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In two factories at which contracts were terminated, Gap identified underage workers though in both cases they were older than 14. The most
frequent violations of Gap's code of conduct included factories not
complying with local laws on annual leave, failure to pay the minimum
wage, working weeks in excess of 60 hours, inaccurate record keeping and
machinery lacking safety devices.
On its website in 2007 the company stated that all individuals who work in
garment factories deserve to be treated with dignity and are entitled to safe
and fair working conditions and not since 2000, when a BBC Panorama
investigation exposed the firm's working practices in Cambodia, have
children been associated with the production of their brand.
Behind the youngsters, huge piles of garments labelled Gap complete
with serial numbers for a new line that Gap concedes it has ordered for
sale later in the year lie completed in polythene sacks, with official
packaging labels, all for export to Europe and the United States in time for
Christmas.
Jivaj, who is from West Bengal and looks around 12, told The Observer that
some of the boys in the sweatshop had been badly beaten. "Our hours are
hard and violence is used against us if we don't work hard enough. This is
a big order for abroad, they keep telling us that. Last week, we spent four
days working from dawn until about one o'clock in the morning the following
day. I was so tired I felt sick", he whispers, tears streaming down his face.
"If any of us cried we were hit with a rubber pipe. Some of the boys had
oily cloths stuffed in our mouths as punishment."
Manik, who is also working for free, claims unconvincingly to be 13.
"I want to work here. I have somewhere to sleep," he says looking furtively
behind him. "The boss tells me I am learning. It is my duty to stay here.
I'm learning to be a man and work. Eventually, I will make money and buy
a house for my mother."
The discovery of the sweatshop has the potential to cause major
embarrassment for Gap. Last week, a spokesman admitted that children
appeared to have been caught up in the production process and rather
than risk selling garments made by children it vowed it would withdraw tens
of thousands of items identified by The Observer.
Source :www.guardian.co.uk
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Amnesty International campaigns for the human rights of people around the globe. It
states that "Our purpose is to protect people wherever justice, fairness, freedom and
truth are denied. We work to bring change for people across the globe". They are
concerned with rectifying business actions which threaten human rights, as in the Niger
Delta in Nigeria, where they consider Shell's practices are stripping local people of their
human rights.
Such high profile pressure groups have a strong influence on businesses and governments,
and keep strong links with the press to ensure that issues are communicated globally.
In the UK, CSR itself falls within the scope of the Department for Business, Innovation
and Skills formed in June 2009, but there is no formal regulation issued about the
subject. The government did set up the CSR Academy (now simply the CR Academy)
to provide training, support and advice on aimed at developing CR professionals and
action plans in organisations. The Companies Act 2006 defines directors duties to
include the likely consequences of any decision in the long term in the interests of the
companys employees and to foster the companys business relationships with
suppliers, customers and others.
Regulation is, in reality, based on the idea that government has a reasonable degree of
certainty over what is right for all companies. However, there is little agreement about the
concept of CSR in general or the way in which any particular approach might develop
towards its enforcement, and especially any that takes account of the individuality of different
companies and their search for a uniquely sustainable competitive advantage.
Nevertheless, companies are taking the issue increasingly seriously. A KPMG report shows
that 35% of a sample of companies they researched in 1999 published corporate
responsibility reports, and that this rose to 52% in 2005. The same survey identified the
drivers for CSR reporting as follows:
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A survey of professional investors reveals a similar trend. A total of 81% of those surveyed
said corporate responsibility was currently a central or important consideration in their
investment decisions, compared with 34% five years ago.
This highlights an important shift from the directors concerns solely being for the shareholder
to an obligation to be mindful of the needs of all their stakeholders.
Activity 5
Fairtrade is used by some companies to show their commitment to corporate social
responsibility and to sustainability of the world's resources. However, there is another view
of Fairtrade as shown by the following article:
"The core aim of Fairtrade is to improve the lot of small farmers - including their longterm income stability. Crop prices are notoriously volatile.
Yet the likes of the educational development charity, Worldwrite, claims that an
obsession with small is beautiful' is a missed opportunity. By focusing on achieving a
fair price for poor farmers, adherents fail to address issues of mechanisation and
industrialisation radical changes that might allow farmers in the developing world to
stop doing back breaking work and break out of the poverty cycle.
Equally, Fairtrade has been accused of promoting a state of dependence in the farmers
it is meant to help. This view is articulated by the free market advocate, the Adam
Smith Institute: "the (Fairtrade) movement effectively makes farmers 'prisoners to our
market'. They become dependent on us continuing to pay premium prices for their
goods."
The fact that the certification itself is very tightly and centrally controlled in-house by the
Fairtrade Labelling Organisation (FLO) seems to support that view.
The certification process is also accused of being complex to set up - needing
cooperatives of small farmers to come together for certification to be viable. These
groups must be managed democratically, have transparent administration and be
politically independent. Noble principles but ones that demand time, capacity and
money to establish and the cost of the certification has to be borne by the members."
(a)
Research the key benefits of Fairtrade to growers as specified by the companies that
support Fairtrade and describe them.
(b)
How are these in conflict with the opinions given in the passage above.
(c)
How does this conflict reflect the view that companies are not sincere about CSR, but
are more interested in making bigger profits for their shareholders?
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If a wrong is seen by a person, there may be other things happening, which are
unacceptable it might be the 'tip of the iceberg'.
If unacceptable behaviour is allowed to persist without redress, others will believe they
can get away with the same thing.
Note that, in certain situations, whistle-blowing is actually required by law for example,
where health and safety at work rules are being breached.
On the other hand, if information is given to someone outside the organisation, this can be a
breach of contract and render the whistle-blower liable to dismissal or even criminal action. It
is common practice in many organisations for the terms and conditions of employment to
bind the employee to secrecy, even after s/he leaves.
Other arguments against disclosure include:
The belief that the employee should concentrate on doing her/his job and that the
actions of others are nothing to do with him/her.
Some employees are reluctant to 'blow the whistle' due to a 'snitching' mentality, where
it is considered bad to tell tales on others.
To counter the threat to job security and the personal consequences of whistle-blowing, it can
sometimes be done through a third party for example, trade union representative can often
handle what might be a difficult situation without exposing the individual to recriminations.
Unions are becoming more aware of the need to act as moral policemen. In late 1997, one
such organisation stated that it was going to compile a 'rogues' gallery' of employers and
publicise their actions. Aimed primarily at identifying bad employment practices, this initiative
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would appear to be an open door through which potential whistle-blowers could move if they
believe a case has to be answered.
(b)
That a person has failed, is failing or is likely to fail to comply with any legal obligation
(c)
(d)
That the health and safety of any individual has been, is being, or is likely to be
endangered
(e)
(f)
That information tending to show that any matter falling within the items above has
been, is being, or is likely to be deliberately concealed.
Under the Act an individual who makes a protected disclosure has a right not to suffer
detriment by the employer's resulting action. An employee dismissed as a result of making a
protected disclosure can take a case to an employment tribunal.
It is not only employees that the Act is designed to protect. Companies in the past have paid
the price of ignoring employees who tried to point out wrongdoings. The Act has a deeper
aim in encouraging businesses to behave ethically. In several previous public enquiries into
rail and maritime disasters causing loss of life, it was shown that staff had tried to warn of
dangers but had not felt able to raise the matter internally. If they had had the protection of
the Act they might well have felt able to discuss the safety matters with their organisations
and hence the disasters might not have happened.
Daniel Ellsberg an employee of the US State Department who, in 1971, leaked secret
details of the Vietnam War (known as the Pentagon Papers) to the New York Times,
revealing deception by governments in their public statements over several years. He
faced charges of espionage and the prospect of 115 years in prison, but all charges
were subsequently dropped after evidence of government misconduct and illegal
wiretapping were disclosed in the run up to the trial.
Jeffrey Wigand a former Vice President of Brown & Williamson Tobacco, who
revealed on television in 1996 that the company knew exactly how addictive and lethal
cigarettes were, yet knowingly increased the amount of nicotine in them. He was sued
by the company, although the case was later dropped. The whole incident was the
subject of the 1999 film The Insider.
Karen Silkwood a union activist and technician at the Kerr-McGee nuclear plant who
alleged there were numerous violations of health and safety regulations at the plant in
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1974. She died under mysterious circumstances shortly after. Her story was also
filmed, as Silkwood, in 1983.
One of the key examples in the UK was the Sarah Tisdale case.
Case Study 9: Sarah Tisdalls Disclosure
One of the highest profile examples of whistle-blowing occurred in the UK
Civil Service in 1983. A civil servant, Sarah Tisdall, discovered that
government policy on nuclear missiles was at odds with its public
pronouncements on the issue. Apparently driven by her own conscience to
do what she believed to be right, she leaked documents to the press. The
consequences of her action were dismissal from the Civil Service and
prosecution for offences under the Official Secrets Act. She eventually
served a custodial sentence when the case was proven against her.
In late 2010, the WikiLeaks website disclosed thousands of classified documents causing
furore amongst governments, which then put pressure on internet providers to cut off access
to the site. Excerpts are given in Case Study 10.
Case Study 10: WikiLeaks Discloses Confidential Documents
"WikiLeaks directed readers to a web address in Switzerland on Friday
after two U.S. Internet providers ditched it in the space of two days and
Paris tried to ban French servers from hosting its leaked data.
The Internet publisher directed users to www.wikileaks.ch after the
wikileaks.org site on which it had published classified U.S. government
information vanished from view for about six hours.
The United States is furious about WikiLeaks' publication of hundreds of
confidential diplomatic cables that have given unvarnished and sometimes
embarrassing insights into the foreign policy of the United States and its
allies.
WikiLeaks has released about a quarter-million confidential American
diplomatic cables most sent during the last three years, which the website
christened as Cablegate. The cables, which date from 1966 up until the
end of February this year, contain confidential communications between
274 embassies in countries throughout the world and the State Department
in Washington. The question is why, when America makes claims about its
technological prowess, has not been able to devise a foolproof system to
save it and its friends from embarrassment. After 9/11, America had
changed its communication systems including the codes used, the question
is how it was possible for WikiLeaks to decode the messages.
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Those who have the experience of working in diplomatic missions know that internal
reporting between embassy and the government is often frank and candid, but its veracity
depends on the reliability of the diplomat and of those who provide the information. Against
this backdrop, one would not know if all that has been quoted by WikiLeaks is correct. It has
been portrayed as an effort to create strained relations between the US and other countries.
However, WikiLeaks has caused ripples throughout the world, as the private insinuations
from US diplomats about the leaders of other countries have hit the headlines. The leaking
of confidential documents not only caused embarrassment for the individuals who made
personal remarks about high level government officials, but also provided ammunition that
could be used against the US by unfriendly governments.
This was also one of the first whistle-blowing events involving the internet, and caused a
number of apparently innocent companies such as Amazon to get into conflict with the US
government. There is a potential threat that this could cause governments to look at ways of
regulating and restricting the currently free circulation of information on the internet (at least
in most countries).
Think Point
What are your own views on whistle-blowing?
Would you do it, especially given the risks to yourself both in terms of employment and
potential for legal action?
To what extent should whistle-blowers be protected
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SUMMARY
The world population will continue to grow over coming decades. However, industrialised
countries are likely to have less population growth and an ageing workforce.
The typical level of education and skills in the countries that have the fastest growing
population are very low. Sub Saharan Africa is forecast to have exploding population growth.
The level of disposable income will rise rapidly in many of the now emerging economies,
providing MNCs with exceptional opportunities for growing their businesses and profit levels.
The characteristics of the workforce are changing. The number of women in the workplace
has increased owing to less demanding domestic tasks, higher levels of education and the
possibility of work virtually. However, in some cultures the opportunities for women to work
inside or outside the home environment will continue to be severely restricted.
In western industrialised countries significant generational differences in expectation have
arisen, which companies are trying to manage. The key characteristics of the newest
generations of workers, known as Generation Y, are:
Diverse
Lifestyle centred.
There are also changes in career expectations among Generation Y as a result of the
economic and social environment in which they have grown up:
Work-life flexibility
Greater prominence given to these differences has resulted in challenges for managers and
a need for new management approaches to capitalise on the differing talents and
requirements of each generation so as to maximise the benefits for the firm.
Business ethics concerns the idea of right and wrong transferred to the business setting.
These ideas vary by cultures as do aspects of morality. There are three main models in
which the content is focused in different ways and the responsibility for ensuring ethical
practice varies.
Managers often face ethical dilemmas in doing what is right morally, but which may affects
others in a negative way. There are guidelines for managers to follow to ensure that they are
behaving in as ethical a manner as possible.
Corruption is one of the biggest unethical practices. This has been linked to different cultural
approaches and to country GDP and average pay levels.
Firms can follow ethical principles by ensuring that there is an ethical approach through the
publication of and training about its code of conduct. Some firms have extended this code of
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conduct to their suppliers and will only contract with suppliers who comply with their
standards.
Corporate social responsibility has links to business ethics. However, there is no clear
definition of the term which is consequently interpreted in different ways.
Regulation and some legislation have been introduced to encourage better practice,
but generally a firm makes the decision to demonstrate corporate responsibility on a
voluntary basis. CSR is rarely integrated with strategic goals and often dealt with by
PR people in the organisation.
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ANSWERS TO ACTIVITIES
Activity 1
(a)
The forecast is that UK, Japan, China, South Korea and Europe will all have ageing
populations in the next 20 years and their working populations will fall.
(b)
There will be too few skilled young people to take up jobs, and companies and
countries are likely to depend on immigrant workers. Many young people from
developing countries currently have low levels of literacy and poor access to education.
Some companies such as Petrobras are educating their workforce to raise skill levels.
(c)
They know that disposable income will increase in these countries which also have
large populations. These two factors provide significant opportunities for growth of
turnover and increases in shareholder value.
Activity 2
There are groups of clauses on workers rights, whistle-blowing, personal conduct and
morality for example:
Workers rights are referred to in diversity and inclusion, harassment, health and safety.
Misconduct and morality are referred to in bribery and corruption, fair competition,
money laundering.
Activity 3
(a)
It describes a focus on the collective good of the country instead of on the individual or
shareholder value.
Tata expects all its employees to respect the culture they find themselves in and act in
an ethical way towards those communities. The community and the way the company
can help members of that community is put at the centre of its business approach.
(b)
(i)
The detail of the individual clauses are very similar to those in the Xerox Code of
Conduct for example, it covers gifts and entertainment, shareholder value,
ethical conduct. It seems to have been heavily influenced by the Anglo American
ethics model, but it is interesting to note that the company is the subject of many
clauses rather than the individual. In the Asian Pacific style of ethics, it is senior
management who are held responsible for the ethics of the company.
(ii)
Tata is a global company and many or its operations take place in the Anglo
American economy.
Activity 5
(a)
That farmers receive a fair and stable price for their products.
That extra income is provided for farmers and estate workers to improve their
lives.
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(b)
(c)
The improvement in their lives does not extend to the development of the work
practices which may make them more efficient producers.
Rather than making their trading position stronger and helping the farmers to
achieve independence and to be able to negotiate in the market themselves,
Fairtrade makes them dependent on the buying firms to achieve a reasonable
price for their crops.
The passage, when compared to the text on the Fairtrade website and that given by
MNC websites, reflects well the potential insincerity of the companies claiming to act
responsibly. Although the companies are paying higher prices, they also lock the
farmers into producing for them. This gives the companies a potential competitive
advantage of being able to acquire supplies when their competitors cannot, of those
ingredients being of a higher quality (through assistance given to improve crops) and
their production more sustainable. In other words, the companies can potentially
guarantee their future crop resources while keeping the farmers dependent on them
and appearing to be socially responsible.
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