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The Role of Business

The Role of Business. Chapter 7 And Chapter 3. The Firm. Any organization that brings together the factors of production for the purposes of producing and/or distributing goods and services. Location Size Organization. Business Organizations. One owner

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The Role of Business

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  1. The Role of Business Chapter 7 And Chapter 3

  2. The Firm • Any organization that brings together the factors of production for the purposes of producing and/or distributing goods and services. • Location • Size • Organization

  3. Business Organizations

  4. One owner Started - obtain business license and financing 74% of all businesses 6% of all business revenues Annual average revenue - $47,000 Oldest and most common form Sole Proprietorship

  5. Advantages easy to form and dissolve all decision-making power resides with the owner profits taxed once Disadvantages unlimited liability limited life limited fund raising ability Sole Proprietorship

  6. Partnership • Two or more owners • Started - obtain license, sign partner-ship agreement, and obtain financing • 8% of all businesses • 4% of all business revenues • Average annual revenue - $280,000 • Preferred by many professionals

  7. Advantages easy to form allows for effective specialization profits taxed once reduces monitoring of job performance Disadvantages unlimited liability limited life decision making can be more costly Partnerships

  8. Corporation • Many owners called shareholders • Started - draw up corporate charter, sell stock, elect directors, and hire officers • 18% of all businesses • 90% of all business revenues • Average annual revenue - $2,700,000 • Dominates in economy

  9. Corporate Structure

  10. Advantages limited liability unlimited life excellent position to raise funds Disadvantages profits taxed twice separation of ownership and control Corporation

  11. The S Corporation • Designed for small businesses - fewer than 75 shareholders • Enjoy limited liability and other corporation advantages • Profits must be immediately distributed are are taxed as personal income - avoid double taxation

  12. Other Forms of Business Organization

  13. Business Finance

  14. Why do business firms need money? • Meet everyday expenses • Replace and expand inventory • Expand plant size and equipment • Meet interest payments on debt

  15. Short-Term Less than one-year Funds for operation Forms Trade Credit Bank Loans Long-Term More than a year Expansion and/or renovation Forms Retained Earnings Long-Term Loans Equity financing Stocks Bonds Short vs. Long-term Financing

  16. Production and Productivity

  17. U. S. Productive Capacity • Why can U. S. outproduce all other nations? • The quantity and quality of its resources • abundant supply of land, labor, capital, and entrepreneurship • BUT - world supplies of natural resources are shrinking • Its productivity • efficiency with which we produce goods and services

  18. Productivity • The efficiency of a factor of production • The ability to create more goods and services from less resources • Output /hour/worker

  19. Production • All goods and services are the result of combining labor, capital, and land. • Production function • Q=f(L,K) • Entrepreneurs do the organizing

  20. The Reward of Organizing for Production • Profit Motive • Revenue = P x Q • Costs = wages + rents + interest + normal profit • Revenue - Costs = economic profit

  21. Things to Consider • What is the least-combination of labor and machinery that I can use in pro-duction? • How many should I produce? • What price should I charge?

  22. Law of Diminishing Marginal Returns • As you add additional factors of production, productivity increases up to a point. After that point, productivity decreases. • Fixed and Variable inputs

  23. Economies of Scale • Reducing per unit costs by expanding production • Specialization • Quantity Discounts • Greater productive equipment • Access to credit • Research, development, and by-products

  24. Diseconomies of Scale Further expansion causes per unit costs to increase Management costs

  25. Productivity in the U.S. • Standard of living • improves when supply of goods and services increase faster than population • How can we improve productivity? • Invest in capital equipment • technology • Invest in “human capital” • education and training

  26. Market Structure • The environment in which the firm sells its product • Essential characteristics • Number of sellers • Barriers to entry • Nature of the product • Use of nonprice advertising • Characteristics determine the firm’s ability to control price

  27. Perfect Competition • Number of Sellers • lots and lots • Barriers to entry • none • Nature of product • standardized • Nonprice advertising • none (industry) • Control over price • none

  28. Monopolistic Competition • Number of sellers • lots • Barriers to entry • a few • Nature of product • differentiated • Nonprice advertising • extensive • Control over price • little

  29. Oligopoly • Number of sellers • few • Barriers to entry • substantial • Nature of product • differentiated • Nonprice advertising • extensive • Control over price • some

  30. Monopoly • Number of sellers • one • Barriers to entry • total • Nature of product • unique • Nonprice advertising • none (image) • Control over price • much

  31. Types of Monopoly • Geographic • Government • Technological • Natural

  32. Pricing in Perfect Competition The market sets price for the firm in perfect competition. S1 $70 $60 $50 d1 $40 $30 $20 D1 $10 $0 0 1 2 3 4 5 6 The Firm Market

  33. Market Structure and Elasticity of Demand

  34. Measuring Monopoly Power • Concentration Ratio • % of an industry’s total output produced by the four largest firms • Examples • Cars - 98 • Soft drinks - 75 • Women’s dresses - 8

  35. Merging toward Monopoly • Pool • agreement to split market and set price • Trust • shareholders place firm in hands of trustees • Holding Companies • own controlling interest in other corporations • Interlocking Directorates • same people on the board of several firms • Cartel • several independent firms agree to form monopoly

  36. Government Regulation • Interstate Commerce Act (1887) • created ICC to regulate railroads • Sherman Antitrust Act (1890) • prohibited combinations or conspiracies to restrict trade • Clayton Antitrust Act (1914) • corrected the weaknesses of the Sherman Act • Robinson - Patman Act (1936) • sought to protect small businesses from unfair competition • Celler - Kefauver Antimerger Act (1950) • prohibited mergers that would create monopolies

  37. Merging toward Monopoly • Horizontal Merger • merge with other businesses that are engaged in the same stage of production • Vertical Merger • merge with firms at different stages of production of the same good • Conglomerate Merger • merge with firms that produce unrelated products

  38. Pros Economies of scale Global competition Expensive to fight in court Unclear that consumer benefits from break up of monopolies Growth appears natural Benefits small companies Cons Higher prices Lower output and standards of living Inefficient and wasteful Insensitive to consumer demand Unfair competition May lead to recession Pervert the political process Pros and Cons

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