Probabilities are just estimates – Always prone to error which may result in decisions based on inaccurate information thus resulting in wrong decisions being made. This can be very costly to the business, especially when considering the enormous amounts of money at stake in various business decisions such as whether or not to expand.
Uses quantitative data only – Ignores qualitative aspects of decisions which may sometime contradict the data shown. This may mean that the decision being made by the business does not account for important information thus resulting in bad decisions.
Assignment of probabilities and expected values prone to bias – This can result in inaccurate results which are skewed towards the outcome that the owner wanted rather than the true data. As a result of this, the business may make the decision that they wanted to make based on the biased data rather than the one that is best for the business.
Decision-making technique doesn’t necessarily reduce the amount of risk – There is always a certain amount of risk in every decision made by businesses contrary to the fact that the data shows that a certain decision will be favourable to the business. This is normally due to the dynamic nature of the external environment. For example, an unexpected recession or downturn in growth may result in what was deemed to be a profitable decision a decision that will lose the business a lot of money. This is because the decision was made based on the economic conditions during the decision making process. Therefore a change to this will change the outcome of the decision massively.
5(amount needed for investment to be paid back)/60 (year 4 return) x 12 (number of months in a year) = 0.9 rounded up = 1month. Total payback time = 3 years and 1 month
Proposal 4
80/90 x 12 = 10.6 = 2 years and 11 months payback time
B) Average rate of return
Total net profit/number of years/initial cost x 100
Proposal 3
£70/5/80×100 = 17.5%
Proposal 4
18.75%
C) Discounted cash flow (net present value)
Cash flows (£000s)
Proposal 1
Discount table 20%
Present value
Year 0
-£120
1.00
-£120,000
Year 1
£80,000
0.80
64,000
Year 2
£40,000
0.64
25,600
Year 3
£40,000
0.51
20,400
Year 4
£20,000
0.41
8,200
Year 5
£40,000
0.33
13,200
Total
11,400
Makes up for the interest that could have been earned if the business put the money in a bank.
Times the each year of the proposal by the discount figure
If the net present value is positive then the project should go ahead.
E) Limitations of these techniques
Complicated – May be difficult for the user to make/understand.
Difficult to select most appropriate discount rate – If the rate is set too high then it may reduce the profitability of the project thus leading to the proposal being rejected.
Irregular – Changes in sales due to irregular events e.g. hurricane.
A) Calculation of time-series analysis:
3 point moving averages
Variation = difference between actual sales and 3pma
Cyclical variation = add up the variation for each cycle point e.g. all cycle point 1’s then divide by the number of cycle points e.g. 3
Forecasting = The 3pma of the last cycle point that corresponds to the one that is being predicted e.g. cycle point 2 takeaway the cyclical variation of cycle point 2
4 point moving average
4 period moving total = Add up the top 4 cycle points of sales then move up one each time
4pma = 4pmt/number of cycle points (4)
Centred 4 period moving average = Add up the top four 4pma then divide by the cycle points (4) move down then continue doing this. Put the figure in-between the 4 4pma
Cyclical variation = difference between sales and the centred 4 period moving average
Cycle point average cyclical variations = Add up the variation for each cycle point e.g. all cycle point 1’s then divide by the number of cycle points with variation figures available to them e.g. 2
Forecasting
The centred 4 period moving average takeaway the cycle point average cyclical variation that corresponds to that cycle point e.g. cycle point 2 takeaway the cyclical variation of cycle point 2.
B) Interpretation of scatter graphs and line of best fit
C) Limitations of quantitative sales forecasting techniques
Past performance is no guarantee of the future – Changes in the market or fashions and trends may cause a change in sales differing from past sales.
Other factors can affect future predictions (PESTLE)
Relies on past data – This may not always a good indication of what may happen in the future.
A) Small businesses survival in competitive markets:
Product differentiation and USP’s – Smaller businesses may be able to offer a more personal service than bigger business and therefore create brand loyalty. Furthermore, the products that they sell may be unique. This is especially the case in niche markets.
Flexibility in responding to customer needs – As the business is smaller it is able to respond to changes in customer tastes and fashions. This is in contrast to bigger businesses where poor co-ordination and communication can make it longer for them to react to changes in customer needs and wants.
Customer service – Smaller businesses are able to offer a more personal service than bigger businesses. This is likely to attract customers to smaller stores rather than larger ones.
E-commerce – The growth of businesses selling on the internet has resulted in a number of stores closing. This is a big threat to small businesses as the increasing accessibility of the internet and e-commerce has resulted in an increasing amount of people buying online rather than in stores.
A) Distinction between inorganic and organic growth
Organic growth is where a business grows from within e.g. by increasing its product range whereas in organic growth is where a business takeovers or merges with another business.
B) Methods of growing organically
New product launches – This is likely to increase the amount of sales that the business receives thus increasing their market share.
Expansion – This can either be done by opening more stores domestically or expanding into foreign markets. This will increase market share and sales.
Use of Ansoff’s matrix – This includes product development, market development, diversification and market penetration. A business could use one of these in order to grow.
C) Advantages and disadvantages of organic growth
Advantages:
Less expensive – Mergers and takeovers can be extremely expensive in contrast to organic growth. However, this could be paid back in the long run.
Less risky – The majority of mergers and takeovers end up failing.
Maintaining existing management and culture – There may be problems with conflicting business cultures and management styles when merging or taking over a business.
The ability to plan for and effectively control growth – Organic growth is able to be planned for unlike inorganic growth where the outcome is unknown.
Disadvantages:
Slow – Organic growth is often slow which can reduce the business’s ability to react to its competitors. This may result in the business losing market share as other competitors grow inorganically. There can also be a long period of time between the original investment and the return from it.
Limited growth – Growth may be dependent on sales revenue only which can often be relatively low.
Increase market share – By taking over or merging with a business it reduces competition and therefore increases market share. This is due to the sales of both businesses being combined.
Access to technology – A business may merge or takeover a business in order to access a certain technology. For example, a petrol car company may take over a driverless car company.
Access to staff – A business may takeover or merge with a business in order to gain access to specialist staff.
Access to intellectual property – Takeovers and mergers may happen in order to gain access to patents which maybe they want to incorporate in their products.
Strategic reasons:
Access to new markets – Domestic businesses may join foreign businesses in order to gain access to that market.
Improved distribution networks – Vertical backwards or forwards integration may take place in order to improve the existing distribution networks.
Improved brands – A businesses may merge or takeover another business in order to improve their brand if the business they’re joining is well known.
B) Distinction between merger and takeovers
Mergers are when two businesses agree to join forces in order to make a third company whereas a takeover is when a business buys more than 50% of another business’s shares.
C) Horizontal and vertical integration
Horizontal integration – When a business joins another business in the same stage of production as them.
Vertical forwards integration – When a business joins another business that is a stage further forward in production than them.
Vertical backwards integration – When a business joins another business that is a stage further back in production than them.
D) Financial risks and rewards
Financial risks:
Original Purchase cost – The cost to the business of taking over the other business.
Costs of adjusting the new business e.g. redundancies – The cost involved with merging with another business.
Financial rewards:
Immediate increased revenue – This is due to the sales of both businesses now being combined.
Economies of scales leading to lower costs – This is caused by an increase in the size of the business caused by the merger or takeover.
E) Problems of rapid growth:
Diseconomies of scale – This can lead to an increase in the businesses average costs.
Economies of scale – As a business grows, their output will increase. As a result of this, there costs will be spread over more items. This is likely to result in a decrease in the average costs of the business. As a result, the businesses profit margins will increase causing an increase in the overall profit the business makes.
Increased market power over customers and suppliers – As a business grows it gives them greater market power over customers. This is due to the fact that they have greater market share and therefore it reduces the customer’s choice allowing the firm to charge higher prices. Furthermore, it also helps the business to gain market power over suppliers as most of their sales will now come from one business. This allows the business to get a lower price for their supply’s or the same price but at a higher quality.
Increased market share and brand recognition – As market share increases so will sales. As a result of this, more people are likely to recognise the brand of the business. Building up a good brand image will help to reduce the businesses customers PED as well as attract more sales.
Increased profitability – Through growth a business will be able to reduce their costs and increase their prices. This increases their profit margins and therefore their overall profitability.
B) Problems arising from growth:
Diseconomies of scale – As a business grows, their average costs may raise. This is due to the problems of growing such as worse communication and co-ordination.
Internal communication – As a business grows they will find it harder to communicate with each other as the hierarchy increases. This will result in businesses being unable to react quickly to changes in the market.
Overtrading – When a business tries to grow too quickly they can often end up with liquidity problems. This is due to the fact that most of the business growth will often be done through loans. As a result of this, both their current and non-current liabilities are likely to increase. This will result in a lack of working capital to pay off current liabilities.
PESTLE analysis – Looks at external factors and how they might impact on a business.
Political:
Competition policy
Industry regulation
Government spending
Tax policies
Business policies
Incentives
Economic:
Interest rates
Consumer spending
Income
Exchange rates
Economic growth
Social:
Demographic change
Pressure groups
Consumer tastes and fashions
Changing lifestyle
Technological:
Disruptive technologies
New production processes
Automation
Research and development activity
Legal:
Environmental laws
Minimum/living wage
Health and safety laws
Marketing restrictions
Upcoming changes to laws
Employment laws:
Environmental regulation
Eco wise customer
Wastage
Recycling
Sustainability
Ethical sourcing
Pollution and carbon emissions
B) The changing competitive environment
The external factors of PESTLE can change rapidly due to the dynamic nature of external factors. For example, the business cycle can go from a boom all the way down to a recession in less than a year. This will have a massive impact on businesses and by doing a PESTLE analysis it helps them to be aware of this and is a good starting point to making contingency plans.
C) Porter’s Five Forces
Porters five forces – This is a tool used by businesses in order to access the nature of the competition in the current market.
Five forces:
Existing competition – If there are intense amounts of competition in the current market then it is likely to result in price was, investment in innovation and new products and intensive promotion. This is likely to reduce the amount of profit that there is to be made in the market.
Bargaining power of suppliers – If there are few suppliers in a market or a monopsony then suppliers will have large amounts of bargaining power. As a result of this, they’re likely to sell to businesses at a higher price in order to increase the profits that they make. This is likely to result in an increase in businesses supply costs and therefore a reduction in the overall profit that they make.
Bargaining power of customers – Powerful customers are able to drive prices down or increase quality whilst the price stays the same. This can be shown by the supermarket industry where pressure is exerted on suppliers. The smaller the number of customers, the greater their power over businesses. Furthermore, if there are a number of firms supplying the product then customers are likely to have greater bargaining power as they have the choice of businesses which they want to shop from.
Threat of new entrants – If there is a big threat of new entrants into the market then businesses market share are likely to reduce and competition will increase. If barriers to entry of a market are high then the threat of new entrants will be low.
Threat from substitutes – This is something that addresses the same need as the business’s product. If there is a threat of substitutes then it will limit the price that the business can charge for the product. However, this is dependent on customer loyalty.
SWOT analysis – This is a tool that provides a business an outline of what advantages over competitors that they may have and what might be their vulnerabilities.
Internal considerations:
Strengths – This could be the capabilities that the business has e.g. a good reputation. It could also be some of the resources a business have or their marketing. For example, a large business may have the advantage of economies of scale, however a smaller businesses may benefit from their good customer service leading to brand loyalty.
Weaknesses – This weaknesses suggest in what areas a business may be weak in. For example, smaller businesses may be threatened by the lack of finance available to them meaning they are unable to expand quickly. However, weakness to a big business may be the difficulty of co-ordination due to their big size e.g. poor communication with supply chains.
External considerations:
Opportunities – An opportunity that the business may have is to expand. For example, if there was a lowering of interest rate then it may give the perfect opportunity for businesses to loan money and invest it in the business. There may also be opportunities for the business to develop their products.
Threats – This may be due to changes in legislation such as an increase in the minimum wage which may increase the businesses costs. It may also be new entrants into the market or changes to fashions and trends. This is a threat because the business may need to respond to it either in the present or in the future.
SWOT analysis can be used to make tactical and strategic decisions. For example, if there is new entrants into the market causing a threat then the business may lower its prices to try and retain its market share (tactic). Furthermore, if there is an opportunity to the business to expand then the business may do this causing a change in strategy (proactive).
Ansoff’s Matrix – This is a market planning tool that helps a business determine its product and market growth strategy.
Market penetration – This is when the business decides to sell existing products in existing markets. The main aim of this is in order to sell more to the existing market in order to maintain or increase the market share of current products e.g. through advertisement. This will help the business to dominate the market.
Diversification – This is when a business sells a new product to a new market. The benefit of this is that they are able to spread risk so that if one market fails then they still have a new market to rely on. Although this is the case, it is a high risk strategy due to the fact that they do not have experience of operating in the market and therefore significant market research is needed to ensure there’s enough demand in the market and for the new product.
Market development – This is when the business use an existing product but sell it in a new market. For example, if the business were to expand then they may decide to sell their existing products to overseas market. Market research needs to take place before entering the market; this is especially the case in foreign markets in order to ensure that an ethnocentric marketing strategy will work.
Product development – This occurs when a business introduce new products to existing markets. This is less risky than market development as the business already knows the market that they’re operating in. Product development may occur as part of a porter’s differentiation competitive advantage. This is likely to be through innovation and looking at changes in the trends and fashions of the market.
Porter’s strategic matrix – This is a business tool that is used in order to find a sustainable competitive advantage.
Cost leadership – This is when the business becomes the lowest cost producer in the market. By doing this it enables the business to either charge a lower price thus increasing sales or to increase their profit margins resulting in an increased amount of profit. As cost leadership occurs in a mass market, the cost advantage is usually gained through producing a large output of goods/services thus enabling the business to exploit economies of scale. This requires high productivity levels as well as a high capacity utilisation.
Differentiation leadership – This occurs when businesses targeting large markets aim to achieve a competitive advantage by differentiating their goods/services from their competitors. This can be through things such as superior product quality, branding or promotion.
Cost focus – This is when the business tries to achieve a cost advantage in a relatively small market.
Differentiation focus – This occurs when a business tries to differentiate their product from competitors in a small market. As this is a niche market it means that businesses are more able to differentiate their product for consumers with different needs.
Boston matrix – A portfolio analysis tool categorising products based on their market growth rate and relative market share.
Question mark – This is a product that has low market share but high market growth. Therefore the product should be invested in as it may turn into a star.
Star – This is a product that has high market share and high market growth. This product should continue to be invested in and are likely to the main source of profit for the business. The product is likely to turn into a cash cow in the future as sales start to decline.
Dogs – These are products that have a low market share and a low market growth rate. The business should stop selling these goods and not invest in them.
Cash cow – These are products that have a high market share but low market growth. The business should continue selling these but not invest in them. They will continue to make the business a profit; however over time they’re likely to turn into dogs.
Benefits of Boston matrix
Portfolio decision making – The business is able to decide which products to invest in and which not to through the use of Boston matrix. This will help save the business money as they will the Boston matrix will help them identify where they should not be investing their money in and therefore makes sure that money is not wasted.
Market share – This is a relatively good measure of the profitability of a product.
Drawbacks of Boston matrix
Only a snapshot – The Boston matrix only provides a snapshot of the current attributes of a business’s product portfolio. Therefore it has no predictive element to it.
C) Achieving competitive advantage through distinctive capabilities.
Kay’s distinctive capabilities – This is the three distinctive capabilities that help a business to get added value and a competitive advantage.
Architecture – Relational contacts within or around the organisation with customers, suppliers and employees. This increases co-ordination within and around the business thus allowing the business to respond quickly to changes in the market.
Reputation – This includes the customers own experience and word of mouth created by businesses providing a good customer service as well as quality products. This creates loyal customers thus giving the business a competitive advantage over existing business and new entrants.
Innovation – This is when a business creates new goods and inventions. This is makes the business differentiated to its competition. However, it is only likely to last in the short term as similar products are released once other businesses see the invention.
D) Effect of strategic and tactical decisions on human, physical, and financial resources.
Strategy – This is a long term plan that is proactive and used to try and achieve the businesses overall goal.
Tactics – This is a short term plan that is reactive and is used to help the business keep on track/achieve its strategy.
Human resources – The strategy may be to make a profit. However, if there is a recession then the tactic may be to make redundancies as staff are no longer needed due to the lower demand.
Physical resources – The strategy have a good reputation. However, in order to do this the business may invest in machinery in order to match an increase in demand.
Financial resources – A businesses strategy may be to grow by 20%. However, if interest rates are high then the business may decide to borrow money from selling shares rather than loans.
