How and why do businesses grow, and what are the limits to growth?
The methods of business growth through internal (organic) and external (integration) means, the types of integration, economies and diseconomies of scale, and the reasons some firms choose to remain small.
A CCEA A-Level Business Studies answer on business growth and economies of scale, covering organic and external growth, horizontal, vertical and conglomerate integration, mergers and takeovers, economies and diseconomies of scale, and why some firms remain small.
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What this dot point is asking
CCEA wants you to explain how businesses grow internally and externally, describe the types of integration, analyse economies and diseconomies of scale, and evaluate why some firms choose to stay small.
Methods of growth
A business can grow in two broad ways.
Internal (organic) growth
Internal growth comes from within the firm: selling more of its existing products, launching new products, opening new outlets or expanding into new markets. It is usually slower and lower-risk, funded from profits or borrowing, and lets the firm keep its culture and control.
External growth (integration)
External growth comes from joining with other firms through a merger (two firms agreeing to combine) or a takeover (acquisition) (one firm buying control of another). It is faster and can bring instant market share and new capabilities, but is riskier, costly and can cause culture clashes.
Types of integration
External growth is classified by where the firms sit in the supply chain.
- Horizontal integration - joining firms at the same stage of the same industry, such as one airline buying another. It raises market share and can reduce competition.
- Vertical integration - joining firms at different stages of the same supply chain. Backward vertical integration moves towards the supplier (a manufacturer buying a raw-material producer); forward vertical integration moves towards the customer (a manufacturer buying a retailer).
- Conglomerate integration - joining firms in unrelated industries, spreading risk through diversification.
Economies of scale
Internal economies of scale include:
- Purchasing (bulk-buying) - cheaper inputs per unit when ordering in large quantities.
- Technical - large-scale machinery and methods that smaller firms cannot justify.
- Managerial - employing specialist managers whose cost is spread over high output.
- Financial - borrowing more cheaply because large firms are seen as lower risk.
- Marketing - spreading the fixed cost of advertising over more units.
Diseconomies of scale
Beyond a certain size, diseconomies of scale can set in, raising the unit cost. Causes include poor communication in a large organisation, weaker coordination and control, and falling staff motivation when workers feel like a small part of a large machine. These offset the benefits of growth and explain why bigger is not always better.
Why some firms stay small
Not all firms aim to grow. Some deliberately remain small to keep full control, stay flexible and responsive, serve a specialist niche with personal service, or because the market is small or the owner prefers a manageable lifestyle business. Small firms can also benefit from being close to customers and quick to adapt.
Try this
Q1. State two methods of internal (organic) growth. [2 marks]
- Cue. Selling more of existing products, launching new products, opening new outlets, entering new markets (any two).
Q2. Explain one economy of scale a growing manufacturer might gain. [3 marks]
- Cue. Purchasing economies: buying materials in bulk lowers the cost per unit, reducing average cost as output rises.
Q3. Analyse why a firm might suffer diseconomies of scale as it grows. [6 marks]
- Cue. Poor communication, weaker coordination and falling motivation in a large organisation can raise the unit cost, offsetting the benefits of size.
Exam-style practice questions
Practice questions written in the style of CCEA exam questions on this dot point, with worked answer explainers. The year tag is the paper they imitate, not the source.
CCEA 20194 marksDistinguish between horizontal and vertical integration.Show worked answer →
Worth 4 marks. Markers want a clear distinction with an example of each.
Horizontal integration is the joining of two firms at the same stage of the same industry, for example one supermarket chain taking over another. It increases market share and reduces competition.
Vertical integration is the joining of firms at different stages of the same supply chain. Backward vertical integration is towards the supplier, for example a brewery buying a hop farm; forward vertical integration is towards the customer, for example the brewery buying a chain of pubs.
The key difference is direction: horizontal joins firms at the same stage, while vertical joins firms at different stages of the same chain.
CCEA 20218 marksDiscuss whether growth always benefits a business.Show worked answer →
Worth 8 marks. Discuss needs balanced points and a judgement.
Benefits of growth: larger output brings economies of scale and lower unit costs; a bigger market share gives market power and can reduce competition; growth can spread risk across products and markets and improve access to finance and the best staff.
Drawbacks of growth: rapid growth can cause diseconomies of scale as the firm becomes harder to manage and communicate within; it can strain cash flow and overstretch resources; integration may bring culture clashes and the loss of personal customer service that smaller firms offer.
Judgement: growth benefits a business when it is well managed and funded and brings genuine economies of scale, but growth for its own sake can raise unit costs and create control problems. Growth is therefore beneficial only when it is controlled and the firm has the resources to absorb it.
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Sources & how we know this
- CCEA GCE Business Studies specification — CCEA (2016)