National 5

Business Management

Understanding Business

Pupil Notes

Contents

Understanding Business

Section 1: Role of business in society Types of business organisations

Section 2: Customer satisfaction

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Section 3: Types of business organisations

Section 4: Objectives and finance

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Business produces goods and services

Consumers have wants

Consumers buy these goods and services

Market research identifies what consumers want

consumers want

Section 1: Role of business in society

Business activity is providing goods and services to give people what they need and want. We all have items we need for survival including food, clothing and shelter however we also desire items which are not essential, for example entertainment, holidays, mobile phones etc. These items are known as wants as they are items we would like to have, rather than need. Businesses have been set up to provide us with items which satisfy both our needs and wants.

The cycle of business below shows how producing goods can lead to the satisfaction of consumer wants. This is the never-ending process of business activity:

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Businesses produce goods and services which are then used by consumers. The term consumption means the “process of using consumer products and services in order to satisfy needs and wants”.

The outputs of business activity are the goods and services, which we want. Goods are tangible, which means we can see and touch these items. Services are intangible, which means they cannot be seen or touched. Goods can be either durable or non-durable:

Types of goods:

Durable goods

Items which we use again and last for a long time e.g. mobile phones, laptops and trainers

Non-durable goods

Items we normally use once or are used quickly e.g. food, drink and newspapers

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Services

Services are things that are done for us. Some of the main service industries are banking, travel and education but also include hairdressing and health.

To produce goods and services, businesses need to use a number of resources. These resources are referred to as the factors of production and include land, labour, capital and enterprise:

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Factors of Production

Land The natural resources asbusiness uses such as water, forests and the land itself.

Labour This refers to the human resources required by a

business including all the people who

work for the organisation.

Capital The capital means the resources

a business owns such as machines,

tools and factories.

Enterprise

A business will only be successful

if the owner is willing to take an

enterprising role. This means they will be innovative and

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take risks.

Wealth Creation

The wealth of countries is measured by how many goods and services the country can produce. So the more business activity there is, the more goods and services that are produced, the wealthier a country is. The more we produce, the better off we can become.

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Sectors of Industry

Businesses can be grouped into sectors according to the types of product they produce or service they provide. The 3 main sectors of industry:

Primary Businesses in this sector grow products or extract resources from the ground eg farming & mining

Secondary Businesses in this sector are involved in manufacturing and construction e.g. car manufacturing and factories.

Tertiary/ Service Sector

In this sector, businesses do not produce products. Instead they provide services e.g. bus & train services, hairdressers, banking etc.

In the UK we have gone through what is called de-industrialisation during the last 30 years. Many of our manufacturing industries like ship building, steel-making,

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and car manufacture have been greatly reduced in size, and service industries such as tourism and finance are now much more important to our economy.

The tertiary sector is now the biggest sector in the UK economy. For example, there has been considerable growth in employment in call-centre andE-commerce firms.

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Section 2: Customer satisfaction

Effective customer service is about both gaining and retaining customers. Good customer services should lead to satisfied customers. Research shows that keeping a current customer is much easier and cheaper than attracting a new one. Good customer service aims to increase customer satisfaction and therefore increase customer loyalty.

If your customer asks you a question, give an answer. If they would like something fixed, then fix it. If they have a complaint, do everything possible to turn their frown upside down!

Mission statement

A mission statement sets out the purpose of an organisation. It answers the question ‘What are we here for?’ It allows everybody in the organisation to identify with the objectives of the organisation.

A mission statement is normally no longer than a paragraph and is written in language that everyone can understand. For example, Coca Cola’s mission statement is:

“to refresh the world – in mind, body and spirit”

From the general targets established in the mission statement, specific policies such as the customer-service policy can be developed.

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Methods of Customer Care

Ensuring positive customer satisfaction is essential to a business and some, or all of the following examples should be undertaken:

Answering customer calls quickly and politely Responding to emails and letters quickly Having a customer care strategy Dealing with customer enquiries or complaints efficiently

and effectively Maintaining a record of complaints carefully and learning

from complaints Listening to the customer carefully Staff being friendly and helpful Effective after sales service

Customer Care Strategy

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Many businesses will have a customer care strategy. This outlines how the business expects customers to be treated by employees and the expectations of the service which should be provided. It will also outline how

complaints will be handled. The purpose of this strategy is to maximise customer satisfaction and ensure that all staff are aware of the business objectives when dealing with customers. Further, this should ensure that all customers receive the same level of service regardless of which employee deals with them.

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After Sales Service

Effective customer care should not stop once the customer leaves the business. In order to ensure customer satisfaction, it is essential that there is an effective after sales service in place.

Businesses may contact customers in order to find out their reactions to the service they received when buying goods or services. This may take the form of a customer questionnaire or telephone call.

After sales services will also assist customers with products they have purchased, for example, providing advice and help when setting up a new laptop or mobile telephone. Finally, after sales service will also deal with faulty goods and provide replacements. By providing an effective after sales service, customer satisfaction should be maximised which in turn will result in the business having a good reputation and gaining customers.

Customer Complaints Procedure

There may be instances when customers are not satisfied and it is important that businesses are prepared for customer complaints and know how to handle these complaints effectively.

All employees should be aware of the business customer complaints procedure and ensure complaints are dealt with fairly, efficiently and consistently. The customer complaints procedure is usually displayed in the business for customers to see and may also be detailed on receipts and delivery notes. This would inform customers the procedures to follow when

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they have a complaint and how they can expect their complaint to be dealt with. An effective customer complaints procedure will improve customer satisfaction, improve the business reputation and the business should learn from complaints in order to improve their goods and services for the future.Impact of poor customer service

Poor customer service may include the following:

poor communication between managers and employees lack of opportunity for customer feedback or not listening to customer feedback lack of suitable staff training a poor impression of the organisation is created not having a customer complaints procedure

A business cannot function without customers. If the customer is not satisfied with the organisation’s product or service, he/she will take their business elsewhere! This will result in a reduction in sales and profits and ultimately the business might fail.

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Customer Satisfaction Flow Diagram

As a result, the business will increase its market share which further increases their sales and profits.

Section 3: Types of business organisations

Organisations fall into three sectors:

• Private Sector – organisations owned and controlled by private individuals and investors.

• Public Sector – organisations owned and controlled by the government.

• Third Sector – organisations set up to raise money for good causes, or to provide facilities for their members.

Private sector organisations

The basic aim of most of these organisations is to make a profit. The most common types of private sector business organisations are:

• Sole Traders• Partnerships• Limited Companies – public and private• Franchises

Sole Trader

A sole trader business is one which is owned and controlled by one person. Most small businesses

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are sole traders e.g. local independent shops, hairdressers, plumbers and joiners.

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Advantages of sole trader organisations:

• This type of business is easy and cheap to set up

• The owner makes all the decisions and has complete control of the business

• The owner can choose their hours of work and holidays

• The owner keeps all the profits.

Disadvantages of sole trader organisations:

• It can be difficult to raise finance to start the business • The sole trader has unlimited liability, – this means

that if the business is not successful the owner could lose the business but also his/her home, car and personal items to pay off the business debts.

• Difficult to take time off as the owner may have no-one to delegate the running of the business

• No-one to share decision making and problems with

Partnerships

This type of business is owned and controlled by 2 or more people, but less than 20.

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Accountants and lawyers often form partnerships. The partners have a partnership agreement, which is a legal document. It outlines matters such as how profits are to be shared, responsibilities and duties.

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Advantages of partnerships:

• Workload can be shared. • Decision making is shared.• Partners can specialise in certain areas of

the business e.g. finance, marketing and sales• Easier to take time off work for holidays or if ill• More money can be invested in the business because

there are more owners.

Disadvantages of partnerships:

• Partners have unlimited liability • There may be arguments and

disagreements between the partners • Partners can leave or new partners can be taken

on, which can upset the running of the business.

Limited Companies

Many businesses set up as a limited company rather than as a sole trader or a partnership. The money required to set up the business (capital) is divided up into shares. Investors buy these shares which creates a large amount of finance for the company. The company is run by a Board of Directors, which is appointed by the shareholders.

There are two types of company:

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• Private Limited Company – Ltd• Public Limited Company – Plc

The shareholders receive dividends, which is their share of the profits, in return for investing in the business.

The main difference between the two is that Public Limited Companies (Plcs) are allowed to sell their shares to the public through the stock exchange, and private limited companies (Ltd) cannot. The majority of big firms like Nike, British Airways, and Microsoft are public limited companies. Recently Facebook also became a plc.

Private Limited Companies tend to be family businesses. Mackays Stores Ltd, Baxters Ltd and Tunnock’s Ltd are all examples of Private Limited Companies.

The main advantages and disadvantages of these organisations are summarised in the table below:

Limited Company

Advantages

Disadvantages

Private Limited Company (Ltd)

Shareholders have limited liability.

Profits are shared between more people.

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eg Tunnock’s Control of the company is not lost to outsiders as only friends and family can buy shares.

Shares cannot be sold to the public. This means it is more difficult to raise finance than for a Plc.

Public Limited Company (Plc) eg Apple

Shareholders have limited liability.

No control over who buys shares as these are sold to the public.

Huge amounts of finance can be raised and easy to borrow money as the organisation is so large.

Set-up costs of the company may be high.

Both types of limited companies have to abide by the Companies Act and produce a Memorandum of Association and Articles of Association. These documents state the company’s details, responsibilities of directors and shareholders’ rights.

Franchises

Franchises are business arrangements where one firm pays for the right to run under the name of another, e.g. McDonalds.

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The person or firm who owns and runs the business is called the franchisee. The firm that owns the name is called the franchiser. With McDonalds for example, the franchisee buys the right to have to run the business the way they are told to by McDonalds.

There are advantages and disadvantages to both the franchiser and franchisee:

Advantages to the

franchiser

Disadvantages to the franchiser

Market share is increased without high investment costs

The franchiser only receives a share of the profit.

The franchiser will receive a percentage of the sales or a set payment each year

Profits will depend on how successful and capable the franchisee is.

Risks are shared between the franchiser and franchisee

The reputation of the whole franchise is affected by performance of franchisees.

Advantages to the

franchisee

Disadvantages to the franchisee

The franchisee is helped and supported by the franchiser

The franchiser will control how the business is run

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and will receive training. including products sold, prices and store layout.

Business is already established and well known therefore risk of failure is reduced.

A share of profits or a set payment each year has to be made to the franchiser.

The franchisee will benefit from the franchiser’s advertising.

It can be expensive to purchase a successful franchise.

Public sector organisations

These are organisations set up and owned by the government on behalf of the people. The main aim of these organisations is to provide services to the general public.

Making a profit is not always the most important thing for these organisations. However, they are often required to work within a financial budget.

The most common types of public sector organisations are:

• Public corporations• Westminster government• Scottish Parliament• Local government

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Public corporations

These are business organisations, which are owned and run by the government for us, like the BBC and the Royal Mail. The government appoints a chairman and board of directors to run them on our behalf.

There used to be many more public corporations but these were ‘Privatised’, (sold on the stock market). Examples are British Telecom, BP, and the gas and electricity companies.

Westminster Government & Scottish Parliament

The Westminster (Houses of Parliament) and the Scottish Parliament are known as Central Government. They provide us with national services such as the National Health Service and Defence.

Central Government is organised and operated by politicians elected by the general public. They have to provide high quality and efficient services while ensuring they make effective use of taxes. Central government delegates resources and responsibility to Local Government:

Local Government

Local government (councils) are set up by Central government and run by locally

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elected councillors. The day to day running of services is organised by managers and employees and local councils aim to meet the needs of local people and businesses. They provide us with services such as education, housing, leisure and recreation, and street lighting. They receive their money from council taxes, government grants and fees for facilities such as sports centres.

Third (voluntary) sector

The aim of third sector organisations is not to make profits, but to raise money for good causes or to provide facilities for their members. Most third sector organisations are set up as charities, for example, Oxfam, RSPCC, the Scouts, etc. Charities are exempt from paying taxes and the government regulates their activities and keeps a Register of Charities.

Social Enterprises

Social Enterprises focus on improving the quality of life in neighbourhoods and aim to help social or environmental problems. They can be setup by entrepreneurs who recognise a gap in the market.

Funding is available from banks, donations and grants. Any profits or surpluses made are reinvested back into social and environmental purposes. The Big Issue and The Eden Project are examples of social enterprises.

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Section 4: The objectives of business

All business organisations have aims, which they try to achieve. These are referred to as objectives. An organisation’s objectives depend on a number of different things including:

• the type of organisation

• the size of the organisation• the type of goods or services which

the organisation produces• the competition it faces• the history of the organisation.

For example, private sector organisations need to earn profits from the goods and services they sell. Otherwise, they may go out of business. Public sector organisations, on the other hand, do not have to earn profits because they do not sell their services to the public. They get finance from the government and other sources to provide their services but will have an objective to provide high quality services.

The following list summarises some of the objectives that different types of business organisation may have:

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Objective MeaningProfit maximisation

The aim is to make as much money as possible out of the business.

Growth

To become larger and increase market share. Businesses may offer different products for sale. This is called diversifying. Businesses may also open new stores or open in new areas.

Survival For some small firms this is the most important objective – they want to avoid having to close, or being taken over by bigger firms.

Social responsibility

Some businesses may wish to improve their public image by showing they are socially responsible. They may give money to good causes or spend money to avoid damaging the environment.

Provision of a service

Most publicly funded organisations such as NHS aim to provide services that people require.

Customer satisfaction

Ensuring customers are satisfied by both the products produced and service provided is essential to meet other aims such as survival, growth and profit maximisation.

Enterprise Enterprise means to be innovative and willing to take on new ventures. Without the aim of enterprise, many organisations would fail.

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As stated previously, the objectives of a business will depend on a number of factors including the type of business, size and history of the business. The following table shows examples of objectives each type of organisation may have:

Type of Business Organisation

Objectives

Sole Trader Survival, maximise profits, growth

Partnership Survival, maximise profits, growth

Limited Company Maximise profits, growth, increase market share

Franchise Survival, growth, increase market share, maximise profits

Public Corporation Provide a quality service, make best use of funds, service the public interest

Central Government

Provide a quality service, make effective use of funds and taxes, improve society

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Local Government Meet local needs, provide high quality services, operative within budgets.

Third sector Raise public awareness of a particular issue, provide a service for the community, raise funds for good causes.

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Social Responsibility

This means showing a sense of responsibility to all those involved in the business activity. This may mean creating jobs, reducing emissions from factories, combining deliveries to reduce CO2 emissions, offering vouchers to customers which support schools, recycling etc. The local community will be made up of both customers and employees. If a business is socially responsible, this may result in improved motivation and loyalty among employees with reduced absenteeism.

Further, a favourable image will impress customers and increase demand. However, being socially responsible can be expensive which may conflict with other objectives such as profit maximisation. Small businesses often feel a sense of duty and commitment to the local community as they sell goods directly to the local area and can see what the area requires and the benefits of their work.

Sainsbury’s Corporate Responsibility Report 2011 states:

For Sainsbury's, corporate responsibility means many things. It is about providing our customers with the widest choice of quality food, at fair prices.But also about paying our suppliers a fair price and providing the reassurance of knowing that they have a buyer for their

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products on reasonable terms. It means enriching our communities through employment and career development opportunities, while growing our business profitably for our shareholders. And it means making the most effective use of our valuable resources like water and electricity, and respecting the local environment.

Read more at http://www.j-sainsbury.co.uk/media/171822/cr2011_report.pdf

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The role of enterprise and the entrepreneur

The entrepreneur is the person who brings together the workers, the natural and the man-made resources to produce goods and services. Without the entrepreneur nothing would be produced. He or she will identify an opportunity to provide new goods or services, or to provide existing goods or services cheaper or in a better way.

Entrepreneurs use their own money or borrow money to put all the necessary resources together. They often have to give up other work and their regular income. They invest the time, money and effort on a business idea that might or might not work.

Entrepreneurs are ‘risk takers’ – they can stand to lose everything if the idea doesn’t work. Most well known entrepreneurs are people who started their own businesses like Richard Branson and Bill Gates.

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Skills and qualities of successful entrepreneurs

It is widely recognised that in order to be successful, entrepreneurs usually have the some or all of the following qualities and skills:Skills of an entrepreneur

Good communication skills

Effective communication with customers, suppliers and employees is essential

Effective leadership skills

Being able to lead and motivate workers

Effective decision making skills

Deciding which products or services to supply, how to raise finance, what price to charge etc

Qualities of an entrepreneur

Hardworking Setting up and running a business does not happen overnight. It takes a lot of work and effort.

Determination Successful entrepreneurs do not give up easily. They are determined to succeed and keep trying no matter what happens.

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Enterprising Being innovative and willing to take risks can result in a successful business. Identify a gap in the market before their competitors can create business success.

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The role of the entrepreneur in the success of a business cannot be overstated. He or she is the individual who takes the risk to develop a business idea into reality. They often invest their own money in the business and stand to lose both their financial investment and personal possessions such as their house if the business does not succeed.

Methods of obtaining finance

All businesses need finance to grow and, from time to time, to survive. Finance may be either long or short term, depending on what the money is needed for.

Short-term sources of finance

Source Advantages Disadvantages

Bank Overdraft – a short term facility at the bank to overdraw on your account.

Can be agreed in advance.goods

This facility may incur a charge to setup and interest rates can be quite high.

Trade Credit – your suppliers give you time to pay.

Receiving and paying for them later which improves cash flow.

Discount for prompt payment is lost. If payment is late, suppliers may refuse to supply the business with more goods on credit.

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Source

Advantages

Disadvantages

Hire Purchase – paying for items over a period of time.

The cost is spread over a period of time which can help with budgeting.

The items are owned by the hire purchase company until the last instalment is paid.

Leasing –

Similar to renting. Businesses often lease equipment and/or premises.

A fixed amount is paid each month which helps budgeting. Also, out of date or faulty equipment is replaced or repaired by the leasing company.

The business leasing the equipment or premises never owns the item. These leased items will also belong to the leasing company.

Factoring –

A factor is used to buy the debts of the business and then attempt to recover payment from customers.

Saves the business time pursuing customers and ensures the business receives most of the money it is owed.

The factor charges the business a fee for using their service. Most factors are only interested in pursuing customers who owe large amounts of money therefore small debts may go uncollected.

Short term bank loan – a bank loan may be provided for a short time.

As the loan is short term there will be less interest payments.

Loans can be difficult to obtain and the interest rate to be paid can be high.

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Long-term sources of finance

Source Advantages Disadvantages

Increasing the capital in the business

The amount raised does not need to be repaid and interest is not applicable.

Profits may have to be shared out amongst more people. Businesses may not be able sell enough new shares to raise the money required.

Long term bank loan A bank loan may be taken out and repaid over a number of years.

This will allow the business to purchase necessary items eg equipment or machinery which will help them to generate profit.Budgeting and planning is easier as repayments are made in regular fixed installments.

Monthly payments must be made on time. The interest charged can be high which would increase the overall cost of purchasing equipment and machinery.The amount borrowed has to be repaid with interest. This type of finance may have to be repaid over a long period of time.

Mortgage -

A method of financing land and premises. This is a long term loan which is secured against the property or land.

The business is given a long period of time (approximately 25 years) to repay the mortgage.

Interest has to be paid each month. If the business falls behind with repayments, the lender can claim ownership of the property or land.

Grant –

A source of finance from central or local government or another agency such as Business Gateway etc.

The grant does not need to be repaid.

In order to secure a grant the business must meet certain criteria eg employing staff from local area. Grants can be difficult to obtain.

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Retained profits –

Keeping profits in the business to be used as required eg to purchase machinery

There is no interest to be paid and the business is not incurring any debts. The asset will be owned immediately.

If all profits are used the business can have cash flow problems. They would not be able to pay for unexpected costs or expenses.

Which source of finance?

The source of finance available to businesses will depend on the type of business, size, length of time the finance is required for and what it will be used for. Businesses must also decide which is the most appropriate method of finance for their particular requirements. For example, a sole trader may decide to use hire purchase to buy machinery rather than take a bank loan. Some examples of which sources of finance are available are summarised below:

Type of Business Organisation

Possible Sources of Finance

Sole Trader & Partnerships

Bank loans, own capital, grants, overdrafts, trade credit, leasing and hire purchase. However, these organisations may find it difficult to obtain bank loans, overdrafts or hire purchase or be charged higher rates of interest. This is due to the increased risk these companies provide for a lender.

Limited Company Most sources of finance available eg

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bank loans, grants, overdrafts, leasing, hire purchase, retained profits, trade credit and debt factoring as large organisations. However they raise large amounts of finance through selling shares.

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Franchise Franchiser receives a payment from franchisee, bank loans, grants and retained profits may also be used.

Public Corporation Grants from the government and raise finance from the public eg BBC charges for a TV licence

Central Government Finance mainly from taxation eg businesses pay corporation tax, people in employment pay national insurance, most goods include VAT.

Local Government Finance comes from central government, business rates and Council tax. Councils may also charge for services such as parking and leisure centres.

Third Sector Finance is raised through donations, charging members fees and grants.

Social Enterprise Banks, donations and grants are sources of finance.

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Sources of Help and Advice

There are many sources of advice and assistance available to new or existing businesses. Some examples are shown below:

Scottish Enterprise and Local Enterprise Councils (LECs)

These are government funded organisations set up to help business start-ups and existing companies grow. They

offer advice and training to businesses and assist with gaining

grants and funding.

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Business Gateway

This is a Scottish Enterprise funded organisation. It provides information and advice to

businesses on various areas including finance, grants, tax and health

and safety.

Local Authorities

Each local authority in Scotland may provide different support depending on local circumstances. Some offer

help to locate, planning permission and grants.

Banks

In addition to financial advice, banks also provide advice on creating a business plan.

Youth Business Scotland (YBS)

This organisation is part of the Prince’s Trust. It aims to provide finance and professional support to young people in Scotland aged 18 – 30 to setup and run

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their own businesses. This organisation offers both start-up and on-going support:

Start-up support includes how to write business plans, how to

start a business and finance training. Grants and loans are also

available.

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On-going support is also offered to entrepreneurs who have

previously been supported by The Trust to grow their existing

business. Again, loans are available and this funding allows

18 – 30 year olds to obtain furnding to take their innovative

idea to the next stage.

InternetThere is a vast amount of information online available to businesses. Most of the organisations outlined above will also have websites eg. www. business .scotland.gov.uk and www.b gateway .com

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