Unit 3
https://qualifications.pearson.com/content/dam/pdf/International%20Advanced%20Level/Economics/2018/Specificatio
n-and-Sample-Assessment/International-A-Level-Economics-spec.pdf
Types of firms
Public and Private sector organisations
- Public sector organisations: owned and controlled by the government.
Their goal is NOT profit maximization, but rather, to provide a service that improves social welfare
BBC, state schools, NHS, Transport for Greater Manchester, civil service (defence, police), state
education
These services would not be provided by the private sector – they are services that can be easily
charged for or sold profitably but benefit everyone
- Private sector organisations: owned and controlled by private individuals
Types of ownership vary from sole trader, partnerships, company shareholders, private limited companies,
public limited companies
Goal is to maximise profits – often leading to private sector being more efficient than public
Types and characteristics of private firms
No. of No. of Liability Who are the Divorce of ownership & control
Owners employees owners
Sole traders 1 1-10 It is not its own legal The Company ownership is in the hands
entity: Unlimited entrepreneur of one person
liability, meaning all its
assets, liabilities and
financial obligations fall
completely onto the
individual owner
Partnerships 2-20 10-50 Unlimited Partners Owners involved in running
company
LTD’s 2-200 10-100 Limited Shareholders Owners involved in running
who share company
ownership
and
liability
PLC’s Unlimited 100+ Limited Anyone who Managers and directors are more
owns a share involved in running company than
owners – high divorce of ownership
Co-operatives
- Co-operatives are businesses that are owned and run by their members who can be customers, employees or
groups of businesses. Each member: shares ownership, voice and profits
Members have limited liability
Main objective is providing service which members know their society needs (as members come from said
society)
Contrastingly, in PLCs, shares are bought by INVESTORS, who care less about the society, and more about profit
maximisation – which can oftentimes come at the expense of society
Examples (real-life app):
, 1. The Co-op Group: a British consumer co-operative with a group of retail businesses including food retail,
insurance, legal services and funerals. It has over 65,000 employees. It is owned and controlled by its members
to meet their shared needs.
2. Credit unions: Over 110 million members in the USA. These members have a “common bond” to make them
eligible for membership (such as location, membership of a Church). Their main goal is to help members succeed
and to be financially stable
There are 3 types:
1. Consumer co-operative: owned by consumers who buy goods or service from their cooperative
2. Producer cooperative: owned by producers of commodities or crafts who work together to process and market
their products
3. Worker cooperatives: owned and democratically governed by employed who become co-op members
Real-life app: co-operatives
- Many Indians work in agriculture, with the country subsequently laying the foundations for the world’s largest co-
operative movement (e.g., Aavin, Amul)
- This balances the need for profit with the needs of the members and wider interests of the community. It was
started by the weaker sections of society to protect its members from being exploited
o Provided agricultural loans and funds where state and private sectors have underprovided
o Provides important inputs for sector: consumer societies meet their consumption requirements at reduced
rates
o Helps overcome limit of agricultural development
Joint ventures
- A joint venture is where a separate business entity is created by two or more parties, involving shared ownership,
returns and risks
They are different from takeovers/ mergers in that the risks and returns of the business formed as the JV are
shared by the parties involved, usually in a 50:50 share
The firms involved are usually looking to benefit from complementary strengths & resources brough to the
venture, as well as sharing the risks/ rewards involved
They benefit from each other’s expertise and resources (e.g., market knowledge, customer base,
distribution channels, R&D expertise)
Often set up between a global business that wants to expand into a new market and a local business
that has knowledge of that market
The global business may have limited understanding of the culture of the market it wishes to
enter. So, through joining a JV, the global business may have a more successful entry into this
market.
Similarly, the local company gains business knowledge of how to improve its efficiency by
working with the global company
Each JV partner might have the option to acquire in the future the JV business if it proved successful
Reduces the risk of growth strategy – particularly if it involved entering a new market or diversification
Some governments will only allow a foreign company to set up in their country through joint ventures.
This is designed to prevent exploitation of the country’s resources and its people + to ensure a transfer
of knowledge
, This is often designed to improve the distribution of income and wealth in the country
A JV will allow domestic firms to gain income and wealth from the foreign company
Real-life app: joint ventures
The Shanghai Nottingham Advanced Academy (SNAA) is a joint venture between the University of Nottingham,
in the UK and East China University of Science and Technology
It was created to share ideas to advance understanding between parties and delivers joint courses in Shanghai
with periods of study in Nottingham Greater opportunities for students
Malaysia’s low-cost airline, AirAsia, plans to enter China in a JV with the government of Henan province
Under the proposal they would:
Establish a budget airline, pilot training centre, aircraft maintenance facility in the capital of Henan
China is forecast to overtake the US as the world’s biggest air travel market by 2024, but budget airlines have
hardly managed to enter the market due to the dominance of the countries 3 biggest state-owned enterprises
Air Asia control less than 10% of the Chinese market, compared to 56% in Southeast Asia
Since most Asian nations stop foreign investors from majority ownership of airlines, AirAsia has been
forced to agree to the JV to expand beyond its home market
China, on the other hand, has been suffering from a severe pilot shortage
Divorce of Ownership & Control
- As firms expand, the shareholders often appoint managers to take on the administrative tasks and day-to-day
running of the business, creating a “divorce” between the owners and managers. This gives rise to the “Principal-
Agent problem”
Shareholders want to maximise profits, but workers want to maximise their salaries
The issue is exacerbated by information gaps, in which agents have a lot more information than the owners and
are often able to control the flow of information
Principals attempt to diminish the problem through granting share options to managers: if managers are
shareholders, they will be more likely to align their interests with those of the owners.
Moral Hazard
The Principal-agent problem can lead to a moral hazard
Moral hazard occurs when the individual is willing to take risks because the impact of failure will be felt more by
the owner than by the individual
The reward for success will be felt by the individual and often outweighs any risks that the individual might face
when ndertaking an activity
Failure of the business might be disastrous, leading to bankruptcy, whereas the individual might, at worse, lose
their job
If the individual is successful, the rewards can be substantial in terms of bonuses
Profit & Non-profit organisations
- Most private sector must make a profit, or else, will go out of business
- Exceptions exist with non-profit organisations
Exist to provide a service/ meet a need
Use profits to further their objectives (e.g., the British Heart Foundation)
Govt exempts them from paying direct taxes
Charities as Non-profit
, Sizes of Business
- Organic: When a firm grows without involving other businesses - internal growth that is usually generated by…
Gaining greater market share
Product diversification
Opening new stores
International expansion
Investing in new technology/ production machinery
Real-life app: Organic growth
McDonald’s has mainly expanded by organic growth:
Originally founded in 1940 and grew through using a franchise model to expand organically.
In 1970, it began to open restaurants in other countries, as the American market had become saturated
It now had restaurants across most countries in the world and established a strong brand identity
It plans to open 1500 restaurants in China and South Korea between 2017 and 2022
Faces: lack of knowledge of Asian economies, but local partners will help make business
decisions more tailored to customer tastes.
It now has 4300 restaurants across the two countries
- Inorganic: external growth
Takeover: When a business buys a smaller business. This can be achieved by buying 51% of the shares
Real-life app: Takeovers
- In the motor dealer industry in the UK, setting up small, privately owned dealerships cannot compete with the
long-established companies.
- Instead, Forrester’s strategy was to grow through buying existing businesses.
Got investors to invest 25 million in a new publicly quoted company, with Forrester himself investing
400,000 pounds.
Vertu Motor’s first deal was the 40 million pound takeover of Bristol Street Motos Group. After the 2008
recession, greater buying opportunities were made as car dealerships fell in price, and Vertu accelerated its
acquisition-buying program.
Today, it has over 5000 employees and 128 car dealerships across England and Scotland, with pre-tax profit
approaching 25 million pounds
Acquisition: a hostile takeover – when a business buys part of another business
Mergers: Joining together of two similarly sized businesses
Vertical integration (FVI = merger or takeover with a firm further forward in the supply chain, BVI:
merger/ takeover with a firm further backward in supply chain)
Horizontal integration
Conglomerate integration
https://qualifications.pearson.com/content/dam/pdf/International%20Advanced%20Level/Economics/2018/Specificatio
n-and-Sample-Assessment/International-A-Level-Economics-spec.pdf
Types of firms
Public and Private sector organisations
- Public sector organisations: owned and controlled by the government.
Their goal is NOT profit maximization, but rather, to provide a service that improves social welfare
BBC, state schools, NHS, Transport for Greater Manchester, civil service (defence, police), state
education
These services would not be provided by the private sector – they are services that can be easily
charged for or sold profitably but benefit everyone
- Private sector organisations: owned and controlled by private individuals
Types of ownership vary from sole trader, partnerships, company shareholders, private limited companies,
public limited companies
Goal is to maximise profits – often leading to private sector being more efficient than public
Types and characteristics of private firms
No. of No. of Liability Who are the Divorce of ownership & control
Owners employees owners
Sole traders 1 1-10 It is not its own legal The Company ownership is in the hands
entity: Unlimited entrepreneur of one person
liability, meaning all its
assets, liabilities and
financial obligations fall
completely onto the
individual owner
Partnerships 2-20 10-50 Unlimited Partners Owners involved in running
company
LTD’s 2-200 10-100 Limited Shareholders Owners involved in running
who share company
ownership
and
liability
PLC’s Unlimited 100+ Limited Anyone who Managers and directors are more
owns a share involved in running company than
owners – high divorce of ownership
Co-operatives
- Co-operatives are businesses that are owned and run by their members who can be customers, employees or
groups of businesses. Each member: shares ownership, voice and profits
Members have limited liability
Main objective is providing service which members know their society needs (as members come from said
society)
Contrastingly, in PLCs, shares are bought by INVESTORS, who care less about the society, and more about profit
maximisation – which can oftentimes come at the expense of society
Examples (real-life app):
, 1. The Co-op Group: a British consumer co-operative with a group of retail businesses including food retail,
insurance, legal services and funerals. It has over 65,000 employees. It is owned and controlled by its members
to meet their shared needs.
2. Credit unions: Over 110 million members in the USA. These members have a “common bond” to make them
eligible for membership (such as location, membership of a Church). Their main goal is to help members succeed
and to be financially stable
There are 3 types:
1. Consumer co-operative: owned by consumers who buy goods or service from their cooperative
2. Producer cooperative: owned by producers of commodities or crafts who work together to process and market
their products
3. Worker cooperatives: owned and democratically governed by employed who become co-op members
Real-life app: co-operatives
- Many Indians work in agriculture, with the country subsequently laying the foundations for the world’s largest co-
operative movement (e.g., Aavin, Amul)
- This balances the need for profit with the needs of the members and wider interests of the community. It was
started by the weaker sections of society to protect its members from being exploited
o Provided agricultural loans and funds where state and private sectors have underprovided
o Provides important inputs for sector: consumer societies meet their consumption requirements at reduced
rates
o Helps overcome limit of agricultural development
Joint ventures
- A joint venture is where a separate business entity is created by two or more parties, involving shared ownership,
returns and risks
They are different from takeovers/ mergers in that the risks and returns of the business formed as the JV are
shared by the parties involved, usually in a 50:50 share
The firms involved are usually looking to benefit from complementary strengths & resources brough to the
venture, as well as sharing the risks/ rewards involved
They benefit from each other’s expertise and resources (e.g., market knowledge, customer base,
distribution channels, R&D expertise)
Often set up between a global business that wants to expand into a new market and a local business
that has knowledge of that market
The global business may have limited understanding of the culture of the market it wishes to
enter. So, through joining a JV, the global business may have a more successful entry into this
market.
Similarly, the local company gains business knowledge of how to improve its efficiency by
working with the global company
Each JV partner might have the option to acquire in the future the JV business if it proved successful
Reduces the risk of growth strategy – particularly if it involved entering a new market or diversification
Some governments will only allow a foreign company to set up in their country through joint ventures.
This is designed to prevent exploitation of the country’s resources and its people + to ensure a transfer
of knowledge
, This is often designed to improve the distribution of income and wealth in the country
A JV will allow domestic firms to gain income and wealth from the foreign company
Real-life app: joint ventures
The Shanghai Nottingham Advanced Academy (SNAA) is a joint venture between the University of Nottingham,
in the UK and East China University of Science and Technology
It was created to share ideas to advance understanding between parties and delivers joint courses in Shanghai
with periods of study in Nottingham Greater opportunities for students
Malaysia’s low-cost airline, AirAsia, plans to enter China in a JV with the government of Henan province
Under the proposal they would:
Establish a budget airline, pilot training centre, aircraft maintenance facility in the capital of Henan
China is forecast to overtake the US as the world’s biggest air travel market by 2024, but budget airlines have
hardly managed to enter the market due to the dominance of the countries 3 biggest state-owned enterprises
Air Asia control less than 10% of the Chinese market, compared to 56% in Southeast Asia
Since most Asian nations stop foreign investors from majority ownership of airlines, AirAsia has been
forced to agree to the JV to expand beyond its home market
China, on the other hand, has been suffering from a severe pilot shortage
Divorce of Ownership & Control
- As firms expand, the shareholders often appoint managers to take on the administrative tasks and day-to-day
running of the business, creating a “divorce” between the owners and managers. This gives rise to the “Principal-
Agent problem”
Shareholders want to maximise profits, but workers want to maximise their salaries
The issue is exacerbated by information gaps, in which agents have a lot more information than the owners and
are often able to control the flow of information
Principals attempt to diminish the problem through granting share options to managers: if managers are
shareholders, they will be more likely to align their interests with those of the owners.
Moral Hazard
The Principal-agent problem can lead to a moral hazard
Moral hazard occurs when the individual is willing to take risks because the impact of failure will be felt more by
the owner than by the individual
The reward for success will be felt by the individual and often outweighs any risks that the individual might face
when ndertaking an activity
Failure of the business might be disastrous, leading to bankruptcy, whereas the individual might, at worse, lose
their job
If the individual is successful, the rewards can be substantial in terms of bonuses
Profit & Non-profit organisations
- Most private sector must make a profit, or else, will go out of business
- Exceptions exist with non-profit organisations
Exist to provide a service/ meet a need
Use profits to further their objectives (e.g., the British Heart Foundation)
Govt exempts them from paying direct taxes
Charities as Non-profit
, Sizes of Business
- Organic: When a firm grows without involving other businesses - internal growth that is usually generated by…
Gaining greater market share
Product diversification
Opening new stores
International expansion
Investing in new technology/ production machinery
Real-life app: Organic growth
McDonald’s has mainly expanded by organic growth:
Originally founded in 1940 and grew through using a franchise model to expand organically.
In 1970, it began to open restaurants in other countries, as the American market had become saturated
It now had restaurants across most countries in the world and established a strong brand identity
It plans to open 1500 restaurants in China and South Korea between 2017 and 2022
Faces: lack of knowledge of Asian economies, but local partners will help make business
decisions more tailored to customer tastes.
It now has 4300 restaurants across the two countries
- Inorganic: external growth
Takeover: When a business buys a smaller business. This can be achieved by buying 51% of the shares
Real-life app: Takeovers
- In the motor dealer industry in the UK, setting up small, privately owned dealerships cannot compete with the
long-established companies.
- Instead, Forrester’s strategy was to grow through buying existing businesses.
Got investors to invest 25 million in a new publicly quoted company, with Forrester himself investing
400,000 pounds.
Vertu Motor’s first deal was the 40 million pound takeover of Bristol Street Motos Group. After the 2008
recession, greater buying opportunities were made as car dealerships fell in price, and Vertu accelerated its
acquisition-buying program.
Today, it has over 5000 employees and 128 car dealerships across England and Scotland, with pre-tax profit
approaching 25 million pounds
Acquisition: a hostile takeover – when a business buys part of another business
Mergers: Joining together of two similarly sized businesses
Vertical integration (FVI = merger or takeover with a firm further forward in the supply chain, BVI:
merger/ takeover with a firm further backward in supply chain)
Horizontal integration
Conglomerate integration
