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The Firm
Definition
- the unit responsible for making production
decisions
•WHAT?
•HOW?
•FOR WHOM?
A firm needs not to have physical
location, it is defined in terms of its
role in the production process.
Objectives
• Profit maximization
- profit ensures that it can continue its business
• Sales maximization
- maintain a large share of the market
• Growth maximization
-enlarge its size or provide a continuous supply of
goods of reasonable quality
Forms of Business Ownership:
Private
Enterprise
Sole
Proprietorship
Partnership
General
Parnership
Limited
Partnership
Limited
Company
Private
Public
Limited Company Limited Company
Sole Proprietorship
1. Features
a.Only one owner
b.The owner has to bear unlimited liability
c. No legal distinction between the firm
and its owner
d. Simple steps to set up:
i. Register with the Commissioner of Inland
Revenue
ii.And obtain a Business Registration
Certificate
2. Advantages
a. Strong incentive - earns all profit but bear all
losses.
b. Fast decision-making - owner does not need
others’ agreement.
c. Close relationship with employees - small in
scale.
d. Close contact with customers more personal
service is provided.
e. Simple set up procedure and low set up cost.
3. Disadvantages
a. Unlimited liability
- greater risks.
b. Limited capital for expansion.
c. Lack of continuity
d. Lack of division of labour:
Usually the owner is responsible
for various tasks.
The Partnership
1. Features
a. 2-20 owners
b. The partners and the firm have NO
separate legal identity.
c. unlimited liability.
d. Each partner are held responsible for
all the firm’s debts.
e.All partners are held responsible for
contracts made by ANY one partner.]
f.Withdrawal and admission of partners
usually require agreement of all partners.
If not, the partnership may be dissolved.
g.Setting up of a partnership requires only
registration with the Inland Revenue.
2. Types of Partnership
a.General Partnership
Same as above
b. Limited Partnership
i. Some partners may enjoy limited liability,
known as limited partners. They are usually
sleeping partners, who do not engage in the
running of the business.
ii. at least ONE partner with unlimited liability.
iii. Limited partners are not allowed to run or
dissolve the partnership.
iv. Their withdrawal will not terminate the
partnership.
Advantages & Disadvantages
of Partnership (Comparing
with Limited Company):
Advantages
1. Greater incentive to
succeed
2. Close relationship
between owners &
employees and owners
& customers
3. Simple establishment
procedure
Disadvantages
1. Unlimited liability
2. Without legal status
3. Lack of continuity
Advantages & Disadvantages
of Partnership (Comparing
with sole proprietorship):
Advantages
1. Wider source of
capital
2. Wider scope of
specialization
3. Sharing in
decision-making &
risk bearing
Disadvantages
1. Possibly delay in
decision making
2. Liable for other
partners’ mistake
3. Reorganization
difficulties
Limited Company
1. Features
A. The shareholders and the company are separate
legal entities.
B. Limited liability
- the shareholders enjoy limited liability, their loss
and liability to debts are limited to their investment
on the shares.
C. Separation of ownership and management
- usually a company is managed by a board of
directors who are elected by the shareholders.
- the directors may hold only a small percentage of
shares.
- most shareholders do not take part in the
management of the company.
D. Lasting continuity
The existence of a limited company is not
affected by the death of shareholders or
transfer of ownership(shares).
2. Private Limited Company and
Public Limited Companies
Number of
shareholders
Public
subscription
of shares
Private Company
Public Company
2-50
2-unlimited
Not allowed to
invite subscription
of shares from
the public
It can, and its
shares will then be
traded on the
Stock Exchange
Transfer of
shares
Transfer to existing
shareholders first,
if to outsiders, it
requires the
approval of B.O.D
No restriction:
shares can be
transferred freely
on stock market
Disclosure
requirement
Not required to
disclose its financial
conditions to the
public
Required to disclose
its financial conditions
to its shareholders.
If it is listed, it is
required to publish its
annual account.
3. Advantages
A. Shareholders enjoy limited liability so that their
risk involved in investment is lower.
B. wider source of capital - raise capital by issuing
shares. It is especially true for a public limited
company.
C. Shares are transferable easily especially for a
public limited company. Therefore, shareholders’
liquidity is higher.
D. more efficient management because it can hire
professional managers to run the company.
E. lasting continuity - existence of a company is not
affected by the transfer of shares, withdrawal or
death of shareholders.
4. Disadvantages
A. delay in decision-making - it needs the approval
of the board of directors.
B. The employed managers may have lower incentive
because they do not have vested interests in the
company.
C. lack of communication between the top level of
management and low level of employees. It may also
be lack of co-ordination across various departments
due to its large size.
D. higher profit tax rate than sole proprietorship
and partnership.
E. disclose its financial conditions so that it is
difficult to keep business secrets.
F. It is more complicated and costly to set up a
company.
i. submit two documents (The Memorandum of
Association and the Articles of Association)
before it is issued a Certificate of
Incorporation.
ii. For a public limited company to be listed, it
requires the approval of the Hong Kong Stock
Exchange Ltd. And it has to publish a prospectus
giving full details about the company.
5. Raising Capital
1. For most small firms - personal savings, loans from
friends and banks
A. Hire purchase
i. The banks pays the seller of goods on behalf of the
firm, which promises to settle the debt by
installment.
ii. Until the debt is fully settled, the goods are only
“on hire” to the firm.
B. Delivery on credit
i. The supplier allows the firm to have the goods
delivered first and pay at a later date.
2. Shares and Debenture
A. Preference shares
i. Fixed dividend rate
ii. Priority in receiving dividend
iii. Priority over other shareholders in claiming
capital when the company winds up
iv. Holders have no voting right
v. Two types of preference shares:
(1) cumulative preference shares
unpaid dividend will be accumulated until
there is profit
(2) participating preference shares
can receive remaining profit (after all
shareholders are paid)
B. Ordinary shares
i. Flexible dividend rate, depending on the profit
level of the company
ii. Last to receive dividend
iii. Last to claim back capital
iv. Holders have voting right
C. Debentures
i. Holders are not shareholders or owners;
they are creditors or lenders.
ii. They receive interest, not dividend,
whether the company makes profit or not.
iii. They are redeemable
iv. They have priority to claim back their
money before all shareholders
3. Comparison
Status
Profitability
Rate of
return
Risk
Right to claim
back capital
Ordinary shares
Owners with
voting right
Earn possible
highest returns if
the company
makes large
profit or if the
share price goes
up
Flexible,
depending on the
profit level of
the company
Greatest risks:
no earnings if
the company
does not make
profit
last
Preference shares
Debentures
Creditors with
Owners with no
no voting right
voting right
Less profitable
Less profitable
Fixed
Usually fixed
Less risky
Least risky
After creditors but
first
before ordinary
shareholders
Public Enterprise
1. Features
A. Government or state ownership
B. Not profit-oriented
C. Aim at providing goods and services of
reasonable quality at low price
2. Advantages
A. Government has large capital supply for large
scale production.
B. Government departments are access to more
up-to-date information.
C. With government subsidization, public
enterprise can offer lower prices.
D. BY providing goods and services at lower price,
it helps to narrow the gap between rich and
poor.
3. Disadvantages
A. less efficient and less innovative :
i. Low incentive of government officials
as they are not profit oriented
ii. Bureaucracy
iii. lack of competition
B. Public enterprises are less responsive to
market demand and waste resources.
C. Low price (i.e. below market equilibrium) lead to
excess demand so that resources are misallocated.
In order to improve the
efficiency of public enterprises,
the following policies are
adopted:
A. Inviting private management
e.g. public car-parks, tunnels
B. Setting up public corporation
e.g. KCRC, MTRC, LDC
Public Corporation
A. Features
i.
It is set up by statute
ii. However, it is a legal entity independent
of the government
iii. It enjoys limited liability
iv. It is managed by a board of directors
v.
It is run on a commercial basis, e.g. it can
earn profit, the employees are not civil
servants
vi. However, the government is still the
largest owner
vii. And it is controlled by the government in
some ways, e.g.
(1) by appointing the chairman,
(2) checking its accounts,
(3) laying down some guidelines etc.
B. Advantages over government departments:
i.
Higher incentive as it is profit oriented
ii. More market oriented
iii. More flexible as the employment and
pricing policies are not strictly
regulated by government rules
C. Advantages over a private enterprise
I. Stronger financial power as the
government offers credit
ii. It has priority in obtaining resources,
e.g. land, information, etc.
Setting up a limited company in Hong Kong
Memorandum
of
Association
Articles
of
Association
Register
of
Companies
Certificate
of
Incorporation
Formation
of
Company
Issuing shares by a public company
Approval by Stock
Exchange Ltd.
Public
company
Invite subscription
from public
Shares issued to
public in primary
market through
underwriters
Issue prospectus
to. public
Shares transferred
freely on Stock Exchange
(i.e. secondary market)
The Integration of Firms
Internal Growth
• Firms expand within its existing structured
management. E.g. A firm starting more
branches and these branches are managed
by a central management board.
External Growth
• Firms expanding the scale or scope of
business by combining or integrating
with other firms.
Types of Integration
• Horizontal integration
• Vertical integration:
-Vertical backward integration
-Vertical forward integration
• Lateral integration
• Conglomerate integration
Horizontal Integration
• Firms at the same sage of
production or producing the same
product combine together
Vertical Integration
• Firms at different stages of
producing the same good combine
together.
Two types of vertical integration
• Vertical backward integration
• vertical forward integration
Two Types of Vertical
Integration
• Vertical backward integration:
A firm combines with another firm in its
preceding stage of production.
E.g. A garment factory combines with a
weaving factory.
• Vertical forward integration:
A firm combines with another firm in the
next stage of production.
E.g. A garment factory combines with a
boutique.
Lateral Integration &
Conglomerate Integration
• Lateral integration:
A firm combines with another firm
producing related but not competitive
products.
• Conglomerate integration:
Firms in entirely different lines of
production combine together.
Methods of Integration
•
•
•
•
Cartel
Takeover
Merger
Consolidation
Cartel
• An association of independent firms
producing similar goods or services.
It can be formed to fix price,
control production or allocate sales
among members.The member firms
retain their independent corporate
status. E.g. The Hong Kong Association
of Banks
Takeover
• A firm takes over another firm if it
buys up a controlling percentage of
that firm’s shares. The firm being
taken over (the acquired firm) retains
its own name and corporate status. A
holding company may be set up for the
purpose of holding the shares of the
acquired firm. A trust is said to be
formed if it also control its trading
policy.
Merger
• A merger occurs when a firm (called
the merging firm) absorbs another
firm by purchasing its assets. After
the merger, the merged firm is
dissolved and loses its corporate
status.
Consolidation
• Consolidation occurs when two firms
dissolve themselves and put their
assets together to form a new firm.
Motives of Integration
General Motives
• Benefit from economies of scale
Integration
Size of combined firm is
larger
Produce at a larger scale
Benefit from economies of scale
Lower average cost.
More efficient use of resources
• Removing the inefficient management:
If a firm is poorly managed, its rate of
profit will below. When it is taken over, its
existing management will be removed and
its resources will be used more efficiently
to yield a larger profit.
More efficient use of resources
• Elimination inefficient plants:
If there are too many firms in an industry,
and some of them cannot work up to
capacity, integration helps them to close
down the inefficient plants so that the
remaining ones can be worked more
efficiently.
Influence the market price
• As firms go on integration, they may
become very large. They can control the
market output and raise price. Sometimes,
they may lower price to drive other
competitors out of business.
Specific Motives
• To ensure a steady supply of raw
materials:
A firm integrating vertically backwards
may desire to ensure a steady of raw
materials. With a steady supply of raw
materials, it reduces its reliance on outside
suppliers, can better plan production and
avoid the bottlenecks in production.
• To ensure adequate market outlets:
A firm integrating vertically forward
may desire to ensure adequate market
outlets. With adequate market outlets, it
can reduce its reliance on the middleman,
collect market information more easily and
adapt to changes in market demand more
rapidly.
• Firms engaging in lateral and
conglomerate integration may desire to:
Diversify its production so that the harmful effect of
failure in one product line on profit is minimized.
Use its resources more flexibly, by moving resources
into those products with a stronger demand.
Extend its brand name and goodwill in one product to
other products.
•Regulating the integration of firms
As large firms may restrict competition,
control market output and set high prices,
some government have set up laws
regulating business integration. These laws
are called anti-trust laws.
Group Members:
Karen Fung Lai Man (8)
Sae teo Sze Wing (16)
Angela Yip Tin Yan (23)