Business growth - OCRExternal growth

Mergers and takeovers

External growth usually involves a merger or takeover. A merger occurs when two businesses join to form a new (but larger) business. A takeover occurs when an existing business expands by buying more than half the shares of another business.

An example of a merger

Business ‘A’ and Business ‘B’ each want to expand but do not feel they can get any bigger alone. The two businesses decide to come together and share their locations, stock, marketing, products and staff. This allows them to grow together as a single business.

An example of a takeover

Business ‘A’ decides it wants to grow but the area it wants to grow into is already occupied by a similar or smaller business; called Business ‘B’. Business ‘A’ decides to buy over 50% of the shares in Business ‘B’ in order to take control. This gives Business ‘A’ access to growth through ownership of a new business in either the same or a different area of the market.

The four merger and takeover methods

There are four methods through which a business can merge with or take over another business.

• Horizontal integration occurs when two competitors join through a merger or takeover. The new business then becomes more competitive and increases its market share. This gives it more control when negotiating and setting prices.
• Backward vertical integration occurs when a business takes control of a business earlier in the supply chain.
• Forward vertical integration occurs when a business takes control of another that operates at a later stage in the supply chain.
• Diversification occurs when businesses in unrelated markets join through a takeover or merger. This enables businesses to spread their risk over a wider range of products and services.

The advantages and disadvantages of external growth

Advantages of external growth include:

• competition can be reduced
• market share can be increased very quickly

Disadvantages of external growth include:

• it can be expensive to takeover/merge with another business
• managers may lack the experience to deal with the other businesses