Professional Documents
Culture Documents
B.S Studies Pack Book
B.S Studies Pack Book
CHAPTER 1
Introduction
As we cannot satisfy all our wants then we must choose which we will satisfy
now and which will forgo. If we are careful and rational we will choose those
that will give us the greatest benefit leaving those things with less value to
us.
All businesses whatever their objectives they have to make products and
provide services that satisfy consumer needs and wants.
Consumer Services
These are non tangible products which are sold to the public and the service
itself is not physical it’s something done for you.eg. Insurance, hair cut e.t.c.
These are physical goods used by industry to help in the production of other
goods and services such as machinery, equipment and commercial vehicles.
Classification of Business Activity
Such activities involve mining, quarrying and fishing for eg.The secondary
sector on the other hand involves firms that manufacture and process
products from natural resources to finished goods. More so the tertiary sector
involves those activities that involve trade and aids to trade.
Scarce Resources
Resources in business can be regarded as any feature of our environment that
helps to support our well being. In any society resources are scarce relative to
the number of uses for which they could be put. There are too many types of
resources i.e physical and human resources.
Factors of Production
Labour -it includes all physical and mental effort in production for which a payment
is made.
Capital- includes machinery and other items that go into further production.
1. Sole Traders
Is a one man concern business, all business decisions are made by the owner. In
most cases the is no separation of ownership and control of the business. The owner
has no legal formalities required by him to start his business and capital raised is
from personal savings and family members leading the business with no room for
expansion.
Advantages
The owner has freedom of flexibility in decision making.
Decision making is faster.
Owner has total control of his business.
Has personal contacts with customers
There is personal enjoyment of all profits generated.
Less hectic since no legal requirements are needed to set up the business.
There is personal satisfaction of good performance
Disadvantages
There are limited sources of finance.
The owner bears the burden of all losses made by the business.
There is unlimited liability since personal assets are vulnerable to takeover in
the event the business fails to pay creditors.
There is restricted growth of the business because of lack of finance and
management.
There is limited scope of economies of scale.
There is lack of continuity of existence.
2. Partnerships
Is the amalgamation of 2-20 partners with a common view of making a profit except
a professional partnership which has no limit e.g. auditor’s solicitors and
accountants. However the business is governed by the Partnership Deed and Act.
Advantages of Partnership
Management of business is shared amongst the partners.
More capital is raised which allows for the expansion of the business.
Wider experience/more skills are brought to the partnership, this allows for
some degree of specialization.
Decision making is consultative i.e shared so as to reduce the burden on
management.
More ideas and initiative creates greater efficiency.
There are few legal formalities required to set this form of business.
Losses are shared by the partners
Disadvantages
Disputes may lead to the partnership dissolution.
Consultative decision making delays implementation of ideas.
There is no continuity of existence of this form of business due to change and
even death of partners.
Decision made by one partner is binding to all partners this can be costly to
the organization.
Sharing of profits with lazy partners might discourage honest, resourceful and
hard workers.
There is unlimited liability for members.
Partners can be sued severally.
Profits generated are shared.
3. LIMITED COMPANIES
Characteristics
Liability of members is limited
Capital is raised by selling shares to the external world.
There is separation of ownership and control of the business.
The company is a legal person on its own which can sue or be sued on its
own rights.
The day to day activities of the firm is in the hands of the board of directors
of the business.
The board of directors of the business is elected by the shareholders at an
annual general meeting.
The company prepares the memorandum of association together with the
articles of association and submits them to the registrar of companies for
approval.
The registrar of companies then issues a certificate of incorporation.
Characteristics
Is formed between 2-20 members.
It is governed by the companies act.
Involves complex legal formalities required to set up the business.
Must be registered through the issue of certificate of incorporation by the
registrar of companies.
Name of the company ends with PVT LTD.
The business is a separate legal entity i.e.it exists as a legal person
independent of its owners.
It is owned by shareholders.
Board of Directors
Managing Director
Liability
All shareholders enjoy limited liability that is shareholders only lose their
capital they have invested in the business and not their personal property.
Advantages
There is enjoyment of limited liability
Can raise more capital compared to Sole traders and Partnerships
There is continuity of existence
Founder members can retain control of the company by holding a majority of
its shares.
Financial affairs are not published.
There is efficiency in operations.
Disadvantages
Too many legal formalities are required for set up of the business activity.
Shares cannot be traded on the Zimbabwean stock of exchange
Can be expensive to set up
There is a lot of inefficiency
Inefficient or not flexible.
Characteristics
Formation
Membership is open to the public; membership is by invitation through a
prospectus. It is formed by at least 2 people and no upper limit.
However governance is done as per the stipulation of the companies act.
Promoters of the company draft and submit to the registrar of companies the
prospectus , Articles of Association and Memorandum of Association.
The registrar of companies having approved the documents will issue a
certificate of incorporation.
After the company issue of shares the company is granted a certification of
incorperation.
Raising of capital
It is done through the selling of shares to the general public
Issuing of debentures to members of the public.
Loans overdrafts mortgage finance from banks
Hire purchase and ploughing back of profits.
Factoring /selling debts to finance houses.
Leasing of equipment
Buying of goods on credit for resale.
Joint Ventures
These occur when two businesses agree to work closely together on a particular
project and create a separate business division to do so.
This is not the same as merger, but can lead to mergers of businesses if their joint
interest coincide and if the Joint Venture is successful.
Risks Involved
Styles of management and culture might be so different that the two teams
do not blend well together.
Errors and mistakes might lead to one blaming the other for mistakes
Business failure of one of the partners would put the whole project at risk.
Holding Companies
This is not a different legal form of business organization, but it is an
increasingly common way for businesses to be owned.
A holding company is one that owns and controls a number of separate
businesses, yet does not unite them into one unified company.
Diversified interests will be achieved
Businesses are independent of each other for major decisions or policy
changes.
Public Corporations
Are organizations owned by the central or local government
Have no profit objective
Are in the public sector
Advantages
they are managed with social objectives rather than solely with profit
objectives
loss making services might still be kept operating if the social benefit is great
enough
finance raised mainly from the government
Disadvantages
tendency towards inefficiency due to lack of strict profit targets
subsidies from government can also encourage inefficiencies.
Government may interfere in business decisions for political reasons, e.g.
opening a new branch in a certain area to gain popularity.
PRIVATISATION
Denationalisation
Deregulation
This involves lifting restrictions that prevent private sector competition. It is the
removal of government regulations
profit motive of private sector businesses will lead to much greater efficiency
than when a business is supported and subsidized by the state.
decision making in state bodies can be slow and bureaucratic
it puts responsibility for success firmly in the hands of the managers and staff
who work in the organization. This leads to strong motivation as they have direct
involvement in the running of the organization and greater sense of
empowerment.
Market forces will be allowed to operate; failing businesses will be forced to
change or die and successful ones will expand, unconstrained by government
limits on growth.
There is always a temptation for governments to run state industry for political
reasons or as a means of influencing the national economy eg keeping electricity
prices artificially low, thus decisions may be taken for commercial reasons.
Sale of nationalized industries can raise finance for government which can be
spent on other state projects.
Regulatory bodies set up by government eg CCZ can be used to ensure free
competition and no consumer protection.
Private businesses will have access to the private capital markets and this will
lead to increased investment in these industries.
The state should take decisions about essential industries e.g. based on the
need of the society and not just on the interest of shareholders. This may
involve keeping open business activities that private companies would
consider unprofitable.
With competing privately run businesses it will be much more difficult to
achieve a coherent and coordinated policy for the benefit of the nation at
large e.g. railway systems, electricity grid and bus services.
Through state ownership an industry can be made accountable to the
country i.e. by means of a responsible minister and direct accountability to
parliament.
Many strategic industries could be operated as ‘private monopolies’ if
privatized and could exploit consumers with high prices.
Breaking up nationalized industries, perhaps into several competing units, will
reduce the opportunities for cost saving through economies of scale.
INTRODUCTION
Economic problem
An economy is faced with the problem of scarcity of resources; an economy
will make a choice of what to produce in an attempt to tackle the economic
problem.
Economic Systems
Are a way of tackling economic problems
A system is a complex whole made from a set of connecting parts. A system
processes inputs e.g. labour to produce outputs. All societies must produce a
system for dealing with three interrelated problems i.e. what should be
produced? How it will be produced? For whom will it be produced?
Advantages
Disadvantages
Mixed Economies
Characteristics
This system involves some private business activity driven by profit motive and some
state owned and controlled organisations often operating for non-profit reasons.
INTERNATIONAL TRADING
All countries, engage in international trade with other countries. This is true no
matter which economic system is in place
Benefits of trading
Consumers are offered wider choice of goods and services by buying products
from other nations
Additional competition is created for domestic industries as this encouraged
them to keep costs low and prices down and make their goods well designed
and as of high quality as possible
Countries specialize in those products they are best at making and import
those they are less efficient from other countries (comparative advantage)
Countries may build good political ties and links and these help resolve
differences amongst themselves
Free trade means that no restrictions or trade barriers exists which might
prevent or limit trade between countries
i. Tarriffs – taxes imposed on imported goods to make them more expensive than
they would otherwise be.
ii. Quotas – limits on the physical quantity or value of certain goods that may be
imported.
iii. Embargoes – a complete barn of imported goods into the country.
These are business organisations that have their headquarters in one country but
operating branches in other countries.
Nearness to markets
Lower costs of production use of cheap local labour.
Avoid import restrictions.
Access to local resources
Business has a great beneficial impact for society by producing goods and
services providing employment and paying taxes.
If businesses are not controlled serious problems for society could occur thus
the government want to encourage the positive impact of businesses but to
reduce to the minimum the negative impact
Government Control
of Business Activities Environmental
Unfair Protection
competition
Employee
protection
Not all businesses will behave in socially undesirable ways even if there were no
government controls. Some managers and business owners have such high ethical
and moral standards that even without government restrictions would treat staff well
but some firms will not.
Government controls add to business costs e.g. increasing wage rates to the
legal minimum level, purchase of pollution control equipment and health and
safety facilities at workplace
Administrative burden is imposed by government which will be characterised
by ‘red tape’ which acts as a disincentive to firms
Other countries with no government control may gain unfair competitive
advantage
ESSAYS
2.To what extent should the government of your country positively encourage
multinational business to establish in your country? [25]
They are social units deliberately created by some members of the community in any
society for specific purposes
They usually spring spontaneously from formal groups as employees interact at tea
break, lunch and going home. They constitute social relationships that develop as
people interact with one another. Such relationships cannot be presented on an
organizational chart although management may officially recognize them.
Since they are ever changing they are difficult to be expressed on a graphical
structure.
They provide social satisfaction, status and security as employees are given
opportunity to share jokes, eat and socialize after work this gives them a
sense of fulfillment which reduces labour turnover and absenteeism
A business can benefit when lazy and careless employees are told what do by
fellow workers.
a) Number of employees
A firm that employs many staff is likely to be large and one that employs few
staff is likely to be small.
Problems crops up when a large firm employs few people because of highly
automated machines that will be in use.
b) Sales Turnover
Is also often used as a measure of size in business structure especially when
comparing firms in the same industry.
It is less effective when comparing firms in different industries since some
might be engaged in high value production and the other in low value
production e.g. jewel production and cleaning services.
c) Capital employed
This measure the total value of all long term finance used in the business.
Generally the larger the business the greater the value of capital needed for
long term investments.
Misleading results are seen when two firms employ the same number of staff
but having different capital equipment needs e.g. Hairdresser and optician
(needs diagnostic and sophisticated) machines.
d) Market capitalisation
Is applicable to businesses ‘quoted’ on the stock of exchange (public co.)
Market capitalization = current share price x total number of shares issued. Share
prices tend
As share prices tend to change everyday, this form of comparison is not a very
stable one eg. A temporary but sharp drop in the share price of a company could
appear to make it much smaller than this measure would normally suggest.
e) Market share
Reduced rate of profits tax (corporation tax) – this will allow a small company
the chance to retain more profits in the business for expansion.
Loan guarantee schemes – are government funded schemes which
guarantees the repayment of a certain percentage of a bank loan should the
business fail. This makes banks more likely to lend to newly formed
businesses
Providing information, advice and management support through government
departments and agencies.
In economically deprived areas such as cities with high unemployment, the
government finances the establishment of small workshops which are rented
to small firms at reasonable rents.
Business Growth
Chapter 2
Introduction
Human Resources Management is the strategic approach to the effective
management of organisations workers so that they help the business gain a
competitive advantage.
It aims to recruit capable, flexible and committed people, managing and
rewarding their performance and developing their skills to the benefit of the
organisation.
The main human resources task is to recruit, train and utilize the
organizations personnel in the most productive manner in order to achieve
company’s objectives. It mainly focuses on the following:
Human Resources Management can be divided into two broad categories namely:
The Human Resources Management must determine the organizational need and the
number of employees needed or required. The number of employees required in the
future will depend on
If the firm plans to expand then more employees would be required for the
expansion of the business. The firm that requires increase in service
satisfaction, short term profits will increase workers. Therefore the number of
staff required in future depends on:
Predicted labour turnover rate and absenteeism rate-the higher the rate the
greater will be the need to recruit replacement staff to insure adequate
number of employees available.
Production methods used and the need for flexible, multi skilled staff thus
most firms need to recruit, train staff with more than one skill.
However
i. Forecasting
ii. Supply analysis
iii. Balancing supply and demand considerations
Forecasting
Supply Analysis
Staff required to work during busy periods and slack times this reduces
overhead costs.
Staff can be assessed before they are given full time employment
More staff available to be called upon should there be sickness or some sort
of absenteeism.
Disadvantages
Effective communication would be more difficult i.e. meeting with all staff
since the firm will be forced to use written communication.
This function ensures that company’s objectives are met and new ideas are
brought into the organization through appointing the appropriate,
experienced and qualified personnel.
Recruitment is the process of identifying the need for a new employee,
defining the job to be filled and the type of person needed to fill it, attracting
suitable candidates for the job to be filled and selecting the best
It can be defined as a process of locating and encouraging potential
employees to apply for existing job vacancies.
Selection is the process of determining the most suitable candidate for the job
among which would have been attracted through the recruitment exercises.
Job title
Details of task
Responsibility involved
Working conditions
Job Specification
It is a profile for the ideal candidate and covers the knowledge, experience physical
characteristics, age and personality of the candidate and qualification.
1. Defining requirements –establish the exact nature of the job vacancy, Ask if
there is a vacancy since recruitment involves filling up the gap in an
organization. The organization must look at the job analysis and job description
as well as person’s specification. This helps to understand the requirements of
the job and skills of the vacancy.
3. Selecting candidates
Those selecting the candidates already know the applicants strengths and
weaknesses.
Applicant is familiarized with the norm ethic and values of the organization.
It give internal staff hope of carreer and chances of progressing and thereby
motivating staff.
Disadvantages
They may be some resentment from those who do not get the job.
Because the applicant will be known by the selectors it can result in a less
qualified person being recruited.
Disadvantages
It takes longer to adjust since there will be a longer orientation time to fully
equip the applicant.
There is danger that new recruitment may bring in attitude ie this is not the
way things used to be done.
It is expensive
SELECTION
It involves the picking of candidates from a group of applicants. The selection
method used within the company is important as it should not be relatively
expensive compared to the importance of the job.
It should be non discriminatory in terms of ability, personality intelligent, race
and other factors.
Trade Unions
Are defined as all organizations of employees which include among the
functions of negotiating with employees with the object of regulating
conditions of employment and pay.
Trade Unions act as a channel of communication between employees and
employers. They also provide assistance to individual members for example a
worker with grievances pertaining disciplinary matters.
Motivation
The hierarchy is usually shown ranging through five levels. The diagram below
shows
Maslow’s
Hierarchy of need
Self-
Actualisation
Esteem
Love
Safety
Physiological needs
According to Abraham Maslow,s Hierarchy of needs theory, employees are motivated
by a variety of driving forces at any given time and these forces can be categorized
based on Physiological needs, safety, belonging, esteem and self acqualisation.
Maslow propounded that employees must first meet their basic physiological needs
such as food and shelter. Once all basic physiological needs are met safety concerns
become the next most important set of motivational forces. This means that when
basic needs are provided through work then employees will become aware of their
work environment. Rural schools, therefore, should provide teachers with
accommodation as shelter is a physiological need essential in life. If shelter is
provided, teachers may be retained in rural schools.
Once employees feel safe within their work site other factors such as belonging to
the group become motivational consideration. Esteem is the next threshold that has
to be met for an individual to reach fulfillment. The final level of motivation is called
self actualisation, which is when an individual reaches his or her full potential, at this
level, employees are completely motivated to do their best, as all of the
psychological and physical needs are met (Maslow, 1943).
The relationship developed between direct care staff and supervisory staff can
either increase or reduce employee morale. Therefore, there is need to create good
relations between heads and teachers serving in rural schools this may help teachers
to feel a sense of belonging to their organization and they will be motivated and may
be retained in rural schools. The more connected a person feels to the work they are
doing the closer they become to self-actualization and fulfillment. Belonging to an
organisation and feeling a connection to the service provided are chief
characteristics of motivation in organisations and this assists in employee retention.
According to Shultz (2006), Fredrick Herzeberg was interested in the factors that
made employees feel good about their jobs. The factors that need to be in place if
employees are to feel dissatisfaction but do not lead to job satisfaction are called
hygiene factors. The factors that lead to job satisfaction and motivate employees are
called motivators. Hygiene factors are external (extrinsic) to the employee, such as
the quality of supervision, pay, company policies and working conditions. Motivators
are internal to the employee (intrinsic) and include factors such as responsibility,
achievement and opportunities for growth. Most employees would be dissatisfied in
jobs lacking hygiene factors and if hygiene factors are addressed, most employees
would be satisfied and productive if motivators are present (Shultz 2006). Thus
some qualified teachers see opportunities for carrier development in rural areas in
terms of chances for promotion and they are attracted to rural areas and are
retained there.
The organisation must first understand what will motivate their staff because what
works for one individual may not be the reward that is desirable to another
individual. The organisation must understand many aspects of individual employee
personalities in order to see what types of benefits will motivate their work force and
this helps in retaining them in the organisation. For example, some individuals may
be motivated by recognition from their supervisors while others are motivated
primarily by bonuses or benefits. In the Ministry of Education, Sport, Arts and
Culture teachers may seek to transfers from rural schools due to lack of monetary
benefits. For example, teachers in urban areas get meaningful monetary benefits in
terms of incentives.
Expectance Theory proposes that a person will resolve to behave or act in a certain
way because they are motivated to select a specific conduct over other behaviours
due to what they expect the result of that selected behaviour will be (Stone and
Henry 1998).Locke (1975) criticizes the expectance theory by arguing that
expectance theory is little more than an attempt at understanding human behaviour
by assuming that all actions are hedonistic. Locke (1975) further explains that if all
actions were strictly made on the basis of what outcome would provide the most
amount of pleasure, then all employees would be happy in their jobs as they chose
them based on the pleasure that they would receive from the position. Locke (1975)
argues that hedonism is not the only basis for decision making and motivation based
simply on pleasurably expected outcomes is a very limiting observation of human
nature. However, there are teachers who may remain in rural areas simply because
they were deployed there and not because of benefits they get there.
Locke further refutes expectancy theory by noting that not all decisions are made
consciously. In other words, individuals are sometimes impulsive and make choices
based on emotions, not their values or beliefs about pleasure or pain that they will
receive from their actions. For example, if an employee does something against an
organisation policy based upon their anger toward a co-worker, the given act may
not have been thoroughly thought through and would result in punitive action rather
than the pleasure they may have thought that they would receive from their
behaviour (Locke 1975). Increasing instrumentality in an organisation will be part of
maintaining effective reward systems for the attainment of specific goals. Therefore,
the reward system for rural teachers should include rural hardship allowances as a
retention strategy.
Teachers in rural areas need to be well compensated for the challenges they face.
However, their individual needs also need to be taken into consideration for
compensation to be complete so as to elicit desired performance. For example one’s
desire to further studies, desire for promotion and access to health facilities should
be enshrined in the entire package because money may not be a motivator for other
people, if this is done teachers will be motivated and they are retained in rural
schools. Horwtz (2004) is of the opinion that seeking to use money as the main
means of motivating and retaining staff is a waste of time. This is also echoed by
Booth and Hammer (2007) who say money as a motivator is short lived once it is
spent or living expenses swell to meet the raise, the reward and its motivational
values become history. Schultz (2006), Davies (2003), Taylor (2002) and Mullins
(2005) totally agree with Swanepoel (2001) in that money is seen as a sense of
accomplishment and recognition hence it can be used for the motivation of
employees.
According to Mullins (2005), job satisfaction is the internal state and can be
associated with personal feeling of achievement either quantitative or qualitative.
Mullins (2005) further posits that job satisfaction is affected by such valuables like
individual factors, social factors, environmental factors, organisational factors and
cultural factors. Individual factors include education, age and abilities, social factors
embrace size of organisation and nature and finally cultural factors include beliefs
and values. These factors are bound to have diverse levels of job satisfaction for
different people. The Ministry of Education, Sport, Arts and Culture, should conduct
a scan of factors of job satisfaction for rural teachers in order to ensure job
satisfaction and retention of rural teachers.
Job dissatisfaction does not help in the motivation of workforce. Pilbeam and
Corbridge (2002) say job dissatisfaction creates a workforce that is more likely to
exhibit higher absenteeism, lower corporate citizenship, more grievance, strike,
sabotage and vandalism. Employee dissatisfaction amongst rural teachers is a
product of poor compensation, poor working conditions and poor benefits. These
poor working conditions in rural schools may force rural teachers to seek transfers to
urban areas. Employee satisfaction can be brought about by providing employees
with recognition, advancement, personal growth, feedback support and leadership,
this is crucial in employee retention.
2.5.3 Empowerment
Empowerment supplies people with power, strength and energy to tackle changes.
Swanepoel (2001) states that empowerment provides employees with a sense of
autonomy, which increase job satisfaction and employees make decision that benefit
the organisation. He also postulates that they need to be supported, respected, and
listened to. Odums (2007) agrees with Swanepoel (2001) when he defines
empowerment as sharing varying degree of power with lower level employees to
better produce good results. Schultz (2006) compliments on to say empowerment is
the sharing of influence and control with employees. Good leadership should allow
employees to share developing goals and strategies and the satisfaction derived
from reaching these goals. As a way of motivating retaining teachers in rural
schools, the Ministry of Education, Sport, Arts and Culture should involve rural
teachers in decision making and strategic planning. This could be done through
consulting rural teachers on policy issues pertaining to rural schools. Schultz (2006)
further agrees with Swanepoel (2001) by saying, people in contemporary
organisations want to have greater say in the workplace, henceforth feel secured.
Rural teachers should also be given the opportunity to have a say in the way rural
schools are managed.
Empowerment also entails flexibility on the part of the employer. Taylor (2002) is of
the opinion that an organisation wanting to retain their employees must be governed
by principles of flexibility, autonomy and variety of responsiveness. Taylor (2002)
further states that flexibility should apply to hours of work, recruitment and selection
and effective supervision. Flexibility on working hours of rural teachers especially on
Fridays to enable them to travel if they would like to do their business in urban
centers may be a good retention strategy for rural teachers considering transport
problems they encounter and the distances they travel to nearby towns.
Swanepoel (2001) and Oakland (2001) concur in that career development is all
about caring and nurturing talent in an organisation, keeping employees informed,
interested and fulfilled to prevent high turnover rates as employees take ownership
of their careers and recognise the need to continuously refine and upgrade their
skills. From the above, the irony is that the more employees feel that they are able
to grow in an organisation, the more they can be retained in that organisation. To
upsurge rural teacher commitment, loyalty, and effectiveness, the Ministry of
education, Sport, Arts and Culture must manage career development meritoriously.
The advancement of the rural teacher in training and development provides an
opportunity promotion thus career development will help in retaining valuable
employees. Taylor (2002) ropes the argument with regard to training and
development in that investment in training paid by the government or any employer
appears to reduce the desire to quit the job by employees. Training is a symbol of
employer’s commitment to staff. It has increasingly come to be recognised as an
important part of a retention tool. It appears normally factual that persistent training
tends to retain employees in an organisation. Teachers in rural schools, therefore,
can be given the opportunity for career development through various programmes
such as staff development and a higher quota when it comes to study leave for them
be retained in rural areas.
2.5.5 Job Enrichment
Swanepoel (2001) states that job enrichment means improvement in the quality of a
job such that employees are more satisfied and fulfilled through recognition,
responsibility and are stimulated to work. He correspondingly states that the
objective of job enrichment is to generate jobs employees will enjoy henceforth this
leads to employee retention. Job enrichment methods endeavour to modify the
nature of the job. The rural teachers’ job can be enriched by broadening
responsibilities, giving more autonomy for decision making, creating employee
satisfaction and direct feedback systems and generally enlarging scope of jobs.
Heads of rural schools can solicit feed back from teachers by having an open door
policy which encourage the sharing of ideas and quickens problem solving. Rural
teachers should be given the opportunity to experience achievement, recognition,
stimulating work, responsibility and advancement. Swanepoel (2001) states that
through job enrichment employees perceive their work as treasured and worthy
while, employees feel personally responsible for the quality of their work and
ultimately they will be motivated and retained to contribute to the organisation.
Enriched will meet the requirements of progressively educated employees such as
teachers employed by the Ministry of Education, Sport, Arts and Culture.
2.6 Conclusion
The chapter reviewed literature and established from research on qualified teacher
distribution that in general qualified teachers tend to be concentrated in urban areas
due to a number of factors. These are the factors that make teachers shun rural
schools for instance; lack of decent accommodation , desire to take up further
studies, shortage of teaching and learning materials, lack of transport and
communication related problems. The chapter also discussed motivation theories
associated with employee retention which include Maslow’s Hierarchy of Needs,
Herzberg’s Two factor theory and Vroom’s Expectancy theory. The next chapter
discusses research methodology used to solve the research problem.
Mullins, (2005) believes that low morale result in organizations because the
atmosphere is not conducive because there are some type of work that are generally
more dangerous than others. Swaneopoel, Erasmus,Van Wyk and schenk (2000)
states that failure by organizations to adopt employee wellness into their culture will
inevitably lead to the escalation of sickness and the deterioration of organizational
performance. Swanepoel et al 2000 define employee wellness as employee state of
optimized social physical and mental health and well being. Nyoni as cited in Bates
(2000) in his investigation into the causes of accidents in given factory found that
accidents occurred to both unsafe acts and unsafe conditions workers and
supervisors felt that the causes of accidents were poor house keeping faulty
machinery, slippery floors and overloading workers.
Middle brook, (1999) suggests that the prospect of getting higher pay elsewhere is
one f the most obvious contributors to low staff morale in organizations. Armstrong,
(2007) substantiates the point and writers that inadequate wage levels leads to
employees becoming dissatisfied with their jobs. Financial remuneration remain an
important factor for employees because they are attracted to buoyant local regional
and international markets offering more and perhaps more attractive opportunities
as supported by other theories of motivation.
If the communication is poor then the message received will be hard to understand
and can easily lead to confusion and too much information can seriously affect the
concentration of the listener thus may result in low employee morale. Information is
defined as the collection of data that have been interpreted and understood by the
recipient of the message. It is very vital to the sustainability of a business or office
or organization, for its growth as well as for proper planning, controlling, directing
and forecasting. It is hypothesized that information that is not concise relevant and
timely can lower morale and productivity of employees in an organization. It is
equally observed that information is the bedrock of efficient management of any
organization because it depends on processed data, which is translated into
information for decision making.
2.3.6 Conflicts
2.3.7 Stress
Stress also affects morale. It can result in emotional and physical fatigue and a
reduction in work motivation involvement and satisfaction. Feeling over stressed can
result in erosion of one’s idealism, sense of purpose and enthusiasm. Swanepoel et
al (2000) define stress as the arousal of mind and body in response to an
environmental demand. Carrell concurs with Swanepoel et al (2000) on the definition
of stress as discrepancy between an employees perceived state and desired state
thus stress influences the employees psychological and physical well being therefore
this can result in low staff morale since employees may not be able to meet their job
demands. Swanepoel (2000) that stress is a person’s adaptive response to excessive
psychological or physical demands caused by one stimulus. Apart from the stress
that arises from the work situation other sources of stress may relate to personal
factors such as relationships with others.
Swanepoel et al (2000) also highlight the importance of front line managers and how
their behavior relates directly to employee engagement job satisfaction advocacy
and performance. Poor management decreases employee morale. Robbins (2002)
suggests that when employees feel valued and their needs are met they are likely to
exhibit good behavior within the organization. In order to obtain the best
performance from employees it is necessary to understand what motives then in
general the implications of motivation on management human beings are complex
and the manner in which employees are treated has a profound influence on their
work performance.
Several models have been developed in relation to the nature of an employee and
how he/she is motivated. These models seek to explain the nature of man, what and
how man is motivated.
The rational-economic man model assumes that people are motivated by avoiding
unpleasant behavior and are attracted with what gives pleasure. Carrel’s et al (1997)
propose that this model which incorporates McGregor’s theory assumes that
managers hold one of the two opposed views of nature of man that is theory X and
theory Y. These two sets of assumptions which management may have concerning
employees affect the leadership behavior towards subordinates. McGregor’s theory X
model maintains that to get results is to control subordinates and threaten them
when necessary because employees are lazy, they dislike work and they avoid
responsibility. Workers therefore need close direction and supervision (Bates 2002).
Carrell et al (1997), stress that the proponents of this approach believe that the
authority of the employer is supreme and have a pessimistic view of man. McGregor
1960 thus proposes that bosses tend to treat subordinates according to their own
discrimination. However in his theory Y McGregor 1960 as cited by Robbins (2002)
assert that subordinates actually enjoy working and will strive to meet targets and
objectives to which they are committed, they have initiative and can work hard given
the opportunity. Armstrong (1998) points out that the central principal of
organizations that McGregor derived from theory Y is that of integration that is the
process of recognizing the needs of both the organization and the individual. This
will see man exercising self direction and self control in the achievement of
objectives to which he is committed.
In his theory Y the supervisor teds to build team spirit and feeling of commitment to
the organizational objectives. He also communicates both up and down and support
his team when necessary (Bates 2002). As a result all employees can make
significant contribution if encouraged. Low staff morale tends to be in environments
where employees feel they are taken advantage of where they feel undervalued or
ignored and where they feel helpless or unimportant (Swanepoel et al 2000).Robbins
(2002) claims that the responsibility for organizational performance will therefore
rest with management. Workers are only expected to do the reward and control
systems encourage and permit. McGregor’s rational economic model maintains that
money and material gain motivate employees as a result they are influenced by
those with power to influence material benefits. Schein (1972) further points out
that employee are motivated by economic incentives.
The model was propounded by Schein advocates that man is not driven by money
nor material gain but by social factors in the work environment. Employees in this
model respond more to their peers than monetary incentives and to controls of
management in determining there performance. The manager will only be concerned
with tasks and needs of people, subordinates feelings instead of manipulation and
control. Cole agrees with Swanepoel et al (2002) that acceptance of this view by
managers implies a close attention to people’s social needs with less emphasis on
task considerations.
Management will accept the reality of informal groups at the work place. The major
benefit of using this model would be the development of more loyal employees.
However, failure to respond to employees needs may result in unionizing and
causing more problems for management and in turn poor staff morale.
Cole (2002) views motivation as an altogether more complex matter than previously
conceived. People are complex and variable they respond to a variety of managerial
strategies and are more affected by different tasks and different work groups. In the
analysis of nature of an individual Schein in Swanepoel et al (2000) claim that the
fore mentioned models are too general to have a deeper understanding of what
actually motivate employees to influence their work performance. However in the
complex man model Schein 1972 argues that no one fits in the two models above as
man is too complex to an extent that his needs may change depending on the
situation. Furthermore Swanepoel et al (2000) argue that people have different
needs even when in the same group. Swanepoel et al (2000) propose that
management must be able to diagnose and value these differences. Failure to do
this will result to low staff morale. Robbins (2002) suggests that merely
understanding the nature of employees is not enough, but also what motivates them
and how they are motivated. Theories of motivation have been developed to try to
answer these questions.
Higher
Employee reward
organizational
recognition
productivity
Carrell et al (1997) claims that the key elements required to make the above
intuitive model operational are the right rewards and recognition that will motivate
employees, employees perceptions that greater quality and quantity of work will
affect productivity of the organization’s ability to effectively link greater employee
rewards to higher levels of productivity. If there is any element missing then
employees may not be as highly motivated in the work place, for example an
employee may not believe that his or her own level of effort will affect the
productivity of the organization.
The content theories are Maslow’s needs hierarchy, Alderfer’s ERG theory, Herzberg
two factor theories, McClelland’s achievement motivation theory and Locke’s goal
setting theory. The process theories include cognitive dissonance theory, Vroom’s
expectancy theory. Reinforcement is discussed below (Swanepoel et al 2000).
Robbins (2002) postulates that Maslow’s 1935 content motivation theory advocates
that within each individual there are five levels of needs. These range from
(increasing order) physiological (food, water and shelter) safety and security
(protection from physical and emotional harm).affiliation (need to belong to or
friendship), esteem (achievement, recognition) and self actualization or achieving
personal goals.
Carrell et al (1997) agrees with Maslow’s hierarchy of needs that individuals will
climb the ladder of need fulfillment until they have become self actualized. Bates
(2002) also asserts that Maslow’s hierarchy of needs at each level must be satisfied
first before people attempt to satisfy at the next level.
Armstrong (2003) concurs with the above authors’ hierarchical needs of Maslow and
states that when lower need is satisfied the next highest becomes dominant and the
individual’s attention is turned to satisfying this higher need. However Armstrong
(1998) notes that the process satisfying Maslow’s hierarchical needs is not as
straight forward process as suggested above. He argues that self fulfillment can
never be satisfied and that lower needs still exists Fig 2.2 below shows Maslow
Hierarchy of needs. As depicted in this hierarchical diagram sometimes called
Maslow’s Needs Pyramid or Maslow’s Needs Triangle, when a need is satisfied it no
longer motivates and the next higher need takes its place.
Fig 2.2 Maslow’s Needs Pyramid
Self Actualisation
Affliation Needs
Social Needs
Safety Needs
Physiological Needs
Carrel et al (1997) suggest that the process theories of motivation focus on how
individuals interact with their work environment as it affects their behavior.
(Swanepoel et al 2000) view the process theories as composed of the cognitive
dissonance and Vroom’s expectance theories mainly focus on how people are
motivated.
According to Robbins (2003) the cognitive dissonance theory was first proposed by
Festinger. Swanepoel et al (2000) argue that the cognitive dissonance theory
assumes that if a person does poorly a number of times he will do it poorly again the
next time even if he could better in order to be consistent with his perceptions of
incompetence. Therefore if a manager finds fault with a subordinate’s work and
accordingly corrects it the subordinate considers him or himself a failure.
On the other hand Vroom’s expectancy theory proposes that the tendency to act in a
certain way depends on the strengths of the expectation that the act will be followed
by a given outcome and on the degree to which that outcome is desired by the
individual (Swanepoel et al 2000). According to Carrel et al (1997) expectance
theory states that motivation is a function of expectancy (E) or probability that ones
effort will achieve a certain level of performance will be instrumental (I) in their
receiving rewards or outcomes for which they place a certain value or valence V.
These critical factors can be expressed in a single equation:
M=E*I*V
According to Bates (2000) Vroom’s expectancy theory is a complex theory which can
be summarized by saying the manager should know the individual needs and
strength of his staff and their expectations he must inform them of the connection
between performance and reward and conduct supportive performance appraisal
discussion with them.
The theory focuses on how people learn to exhibit desired behavior. It is based on
the law of effect that is (behavior that leads to more favorable response is more
likely to be repeated than one that leads to less favorable response).Carrell et al
(1997) assert that this is achieved by giving valued rewards to one who has just
engaged in desired behavior. In practice when negative reinforcement is used for
example an employee receiving a written disciplinary notice that another unexcused
absence will result in termination usually leading to poor staff morale of other
members in the organization.
The theories above sought to highlight that organizations must put employees first
because only motivated employees can most effectively deliver. In the current talent
shortage organizations should also ensure they know who in their organization will
be their lifeblood for the organization’s future and could therefore be trained and
developed. Writing and implementing a succession plan will ensure organizations
invest time and energy into the employees.
Poor training of employees is one of the most important aspects affecting staff
morale. For example if an employee is not imparted proper training he /she will have
low morale. Awareness training seeks to help employees recognize the value of a
diverse workforce and to treat people who are different from themselves with dignity
and respect. Absence of dignity and respect of other people’s view lead to low
employee morale. Decenzo and Robbins (2004) define training as a learning
experience in that it seeks a relative permanent change in an individual that
improves his or her ability to perform on the job. Cole (2002) defines training as the
preparation for an occupation or for specific skills it is narrower in conception than
either education or development. Training is more economically viable to the facility
than civil liability and damaging publicity which may occur from improper reactions
to unusual situations. Providing staff with desirable and informative training will
improve officer job perception. Training also reflects upon professionalism of staff.
Maintaining a positive atmosphere must be reflected by the professionalism of
employees representing the organization. Encouraging staff to further their
education on issues relevant to their job functions reflects positively upon morale.
Education in general sense refers to the broad educational process covering pre-
school primary secondary and tertiary education, this usually occurs outside the
organization. Employees who are motivated to advance their knowledge of issues
which are confronted on the job tend to combat boredom and promote more
interest and involvement in the organizational environment. Promoting continuing
education allows staff to become diverse and knowledge regarding current situation
and future issues facing the work environment.
Training combined with education provides staff with improved self worth and an
increased job performance. Implementing programs designed to improve morale by
improving and developing professional and personal growth has a positive impact on
staff retention.
2.6.4 Good Leadership and Supervision
A supervisor is the best performer of an organization but if that person fails to lead
the individual is worthless. A failed leader becomes a detriment to staff and
institution alike. The nature of supervision can tell the attitudes of employees
because a supervisor is indirect contact with the employers and can have better
influences on the activities of the employees. Newstrom (2002) claim that
supervisors may influence employee morale by simply working among the officers
leaders do create a vision of the future that is followed by others, they are usually
enthusiastic they lead by example, they challenge the status quo. Leaders that
micromanage the work of others ignore organizational problems, encourage
subordinates to protect them from bad news and take the credit for others create an
environment with low staff morale (Carrell et al 1997).Unsuccessful supervisors
attempt to direct while sitting behind a desk and a closed door. It is utmost
importance of supervision to accurately identify issues which may have an effect
upon employee morale. A survey conducted by the United States Chamber of
Commerce was performed on 24 separate organizations to measure morale factors
and place them in order of importance. The results reflected a discrepancy between
supervision perceived importance of the ten morale factors. This reveals the need for
supervisors to properly recognize and promote behaviours which will maintain and
increase positive employee morale.
The building and its appearance the condition of machines tools available at work
place provision for safety, medical aid and repairs to machinery all have an impact
on staff morale. A safe environment is required to reduce inappropriate inmate
behavior and increase employee job satisfaction. Point out that an environment of
negative morale will lower employee job satisfaction and reduce organizational
commitment. Employee morale is instrumental in creating a unified and functional
atmosphere.
Chapter 5
MARKETING
A market is any set of arrangement that allows buyers and sellers to exchange
goods and services. Marketing is a management process responsible for identifying,
anticipating and satisfying consumer’s requirements (needs and wants) profitably.
This is done by getting the right product at the right price to the place at the right
time.
Human needs are a state of felt deprivation. They are basic necessities people
cannot do without e.g. food, clothes etc. Wants take the form of human needs as
shaped by culture and individual personality. The people can do without them.
Human beings have unlimited wants, but there are limited resources, so people have
to choose products that offer the greatest value and satisfaction.
To increase profits and make the business grow by increasing sales revenue
and profits through marketing by selling more products as a result of
intensive advertising campaigns. Business aiming to grow often attempt to
create a competitive advantage.
To gain and maintain sales and market share. This is so because if the
business is to introduce a new product it will have to promote the product to
break through into the market. This can be achieved by charging low prices to
penetrate the market.
To differentiate products from those of competitors by changing packaging,
design, and ingredients advertising or charging high or low prices.
To introduce new products into the market if research indicates that this
could be essential.
To gain consumer knowledge about their needs and wants.
Marketing management
Production concept
States that consumer will favour products and services that is available and highly
affordable. The management should therefore focus on improving production and
distribution efficiency. The concept applies in two situations:
1. When the demand for a product exceeds supply so the management should
focus on ways to increase production.
2. When product cost is too high and improved productivity is needed to bring it
down. This helps to spread overheads over large quantities of products.
The organisation try to concentrate on efficient, low cost production with the
expectation that the goods will find a market provided the price is low enough. The
firm will try to sell what they make.
Product concept
States that consumer will favour a product that offers the best quality, performance
and features. The firm devote its energy to make continuous product improvements.
The firm maintains a detailed version of the new product idea stated in meaningful
consumer terms. It assumes that suppliers know best, it will produce high quality
goods and expect customers to buy them.
Product oriented firms exist in product areas where quality or safety is of great
importance e.g. bottled water plants and manufacturers of crash helmets.
Selling concept
States that consumer will not buy enough of a firm’s product unless the firm
undertakes a large scale selling and promotion effort. It is practiced with unsought
goods, those that consumers do not normally think of buying e.g. insurances. It is
practised when firms have over capacity. Their aim is to sell what they make rather
than make what the (market) consumers wants. It focuses on creating sales
transactions rather than building long term, profitable relationships with customers.
It assumes that customers who are persuaded to buy will like the product. However
disappointed buyers do not buy again and will tell ten others about their bad
experiences.
Marketing concept
It can respond more quickly to changes in the market because of its use
market information.
It will be in a stronger position to meet the challenge of new competitors
entering into the market
It will be more able to anticipate market changes.
It will be more confident that the launch of a new product will be a success.
However
This is the idea that the organisation should determine the needs and wants and
interests of the target markets and deliver the desired satisfactions more effectively
and efficiently than competitors in a way that maintains or improves society’s well
being. It questions whether pure marketing concept is adequate in an age of
environmental problems, resource shortages, rapid population growth, worldwide
economic problems and neglected social services.
In fast moving consumer goods industry (FMCG) hamburgers, fried chicken, French
fries e.t.c are tasty and convenient foods offered at affordable prices .However they
are high in fat and salt. Environmentalists and consumer groups have voiced
concerns. The packaging also leads to waste and pollution. Thus in satisfying
consumer wants highly successful fast foods chains may be harming the consumer
health and causing environmental problems. Marketers should balance the three
considerations depicted above, that is company profits, consumer wants and
society’s interests. Businesses should put people first before profits.
Is a marketing concept which is responsive to the needs of the market. It takes into
account its own strengths and weaknesses when producing a good or providing a
service. Its strength might be production techniques, goodwill and branding. It
recognises that some businesses have failed due to a high quality product, but have
not met the needs of consumers or perhaps the product was too expensive or the
business might have failed to persuade retailers to stock the product.
Marketing Selling
It is market/customer oriented It is sales oriented.
It focuses on determining the needs and It focuses on creating sales transactions
wants of consumers
It is concerned about profits in the long It is concerned about sales volume
run increases
It focuses on tomorrow’s products and It focuses on today’s products and
markets markets
Nature of the product- The firms which operate in the edge of innovation or
technological changes like electronics, it must innovate so must be product oriented.
Policy decisions- The objectives of the business determine the concept e.g if it set
in terms of technical quality then product concept is used or if it is to increase
market share emphasis will be on marketing concept.
Nature and size of the market- If production costs are too high then the firm has
to be market oriented to ensure that it meets the needs of consumers and avoid
unsold goods and possible losses
Degree of competition -In a highly competitive market the firm may resort to
research with little regard for a loss in market share.
Mass marketing
Occurs when a business offers almost the same products to all consumers
and promotes them in almost the same way e.g. coca cola.
Products are usually sold to a large number of consumers
The products may be marketed in different countries that are global
marketing.
The business can manufacture large quantities and the average costs can be
reduced due economies of scale.
High sales and low average costs lead to high profits
However
It is expensive to set up the production plant to provide mass marketed
products
The products face competition in parts of the market from producers who
might be more effective in niche marketing or targeting market segments.
It does not necessarily guarantee profitable products.
Niche marketing
This aiming or targeting a product at a particular, often small, segment of a
market.
It is the opposite of mass marketing.
However
Demand curve
Price
P1
P2
Q1 Q2 quantity
demanded
Calculate revenue to be earned for any given price change e.g. from p1 to
p2.The revenue is calculated as follows = P1*Q1 or P2*Q2
Predict the likely reaction of consumers to price changes.
Predict the likely impact upon revenue of price changes.
Determinants of demand
Price of a product-The lower the price the higher the quantity demanded.
Disposable income of consumers, for most products the higher the income
the quantity demanded.
Price of substitute and complementary goods. If the price of a substitute
product goes up e.g. butter the quantity of margarine demanded will go up.
Change in population size and structure. An increase in population will lead in
increase in demand.
Advertising and promotional activities .successful advertising increases
demand.
Change in taste and fashion.
Supply is the quantity of a product that firms are prepared to supply at a given
price in a given time period. The law of supply states that more of a product is
supplied at a higher price and vice versa.
Determinants of supply
Elasticity of Demand
Is the degree of responsiveness of the quantity demanded following a change in one
of the determinants of demand
=(Q2-Q1)/Q1*100
(P2-P2)/P1*100
The value of P.E.D is normally negative because a fall in price (-ve) results in a rise
in demand (+ve).E.g. if the price of a cell phone increases from $40 to $50 the
demand will fall from 300 to270 cell phones.
P.E.D=270-300/300*100= -10%
50-40/40*100 = 25%
P.E.D of 0, 4 is less than 1.It is said to be inelastic. This shows that an increase in
the price of a product does not result in a significant change in quantity demanded.
Products like basic food have an inelastic demand. It is recommended to raise the
price of the product to increase the sales revenue of the firm .The lower sales will
mean lower cost so the profits will increase. If demand is inelastic the producer will
have to spend more on advertising to increase sales.
If the P.E.D is greater than 1 demand is elastic. A slight change in price results in a
proportionate increase in quantity demanded. It is necessary to lower the price of
the product to stimulate demand for the product. This will increase sales revenue
and total profits. However higher sales mean higher costs. Profits will only occur if
the increase in sales revenue is greater than increase in costs.
It can assist in pricing decisions as the prices determine sales revenue. Tenda
can raise prices on routes with low P.E.D (inelastic) and lower prices on
routes with high P.E.D
The analysis also underpins the strategy known as Price discrimination. Price
discrimination is charging the different prices to the same product.
It can be used to make sales forecasts. If the firm is considering a price
increase to cover costs of production and the P.E.D is known, then the
quantity demanded can be accurately forecasted.
It can be used for production planning, that is the quantity to be produced as
well as for manpower planning.
However
The P.E.D assumes that nothing has changed, which is impractical. The
assumptions may be misleading e.g. if a firm reduce its price by 15%, it will
expect sales to rise, but if a competitor enters a market, sales might actually
decrease.
The P.E.D can become outdated quickly and may need to be recalculated
because over time consumer tastes change and new competitors may bring in
new products so a years’ PED may be different from the other year.
It is not always easy to calculate PED. The data used to calculate it comes
from past sales results following price changes. This data could be quite old
and market conditions might have changed.
The results can be wrongly interpreted leading to wrong decisions. It is also
difficult to predict human behaviour.
Successful marketing requires firms to understand which market they are operating
in, who their consumers are and where they are located, whether the market is
growing or shrinking.
Location
Firms that operate and sell products in the area they are located are said to operate
locally. Other firms may venture into regional or international markets.
Push Factors
Market Size
Market growth
The percentage change in the total size of a market over a period of time.
Market growth depends on:
1. Changes in consumer incomes, a rise in consumer incomes help the growth of
market e.g. in Zimbabwe 2009
2. General economic growth, it leads to more firms opening and more people
being employed thus the market grows.
3. Technological changes can cause rapid growth in other markets. The sales
can go up when an innovation becomes available. An example is the growth
in the use of iPods and MP3 players and downloading music from the internet
is leading to the decline in the market for CDs.
4. Developing new products and markets ,this can lead to increased sales
5. Social changes like decline of marriages, increase in the proportion of working
women increase the market for child care and child support services like day
care centres.
6. Changes in population structure
7. Changes in legislation governing use of products
Market share
The percentage of sales in the total market sold by one business. It describes
the proportion of a particular market that is held by a business, a product, a
brand or a number of business or products
Market share=(sales of a business/total sales in the market)*100
It might indicate a business that is a market leader.
This could influence other companies to follow the leader or influence the
leader to maintain its position.
It might influence the objectives of the business e.g. a firm with a small
market share may set a target of increasing its share by 10%
It may also be an indication of failure or success.
1. Sales are higher than those of competing firms and this could lead to high
profits
2. Retailers are keen to stock and promote the best selling brands. These
brands may be given prominent positions in shops.
3. As shops are keen to stock the product it might be sold to them with a
lower discount rate like 10% instead of 15% offered by competing firms.
4. Consumers are keen to buy the most popular brands because they are
market leaders.
Marketing Strategy
This is a coordinated plan of action to identify, anticipate, and satisfy
consumer demand and thereby achieve the organisation’s objectives.
It can refer to the techniques an organisation tends to adopt to gain a
competitive advantage.
Components of a marketing strategy are:
1. Market research ,to identify consumer needs and wants to tailor goods to
consumers needs
2. Product planning and development that is creating products to satisfy these
needs
3. Pricing, that is determining the value placed on the product by customers
4. Distribution, that is movement of the product to consumers
5. Promotion, an exercise in communications that includes advertising and
selling.
1. The objectives of the business e.g. if the objective is to increase market share
by 10% therefore a low, penetration pricing policy is adopted, using mass
marketing to a wider market in several countries or to maintain high product
quality image in the new product, but increase profit margin to 20% using
niche marketing to carefully selected target markets as well as high skimming
pricing policy
2. The resources available to the organisation. If the organisation has a lot of
delivery vehicles e.g. Delta then it can distribute its products to remote areas
to enhance product availability. This will increase market share.
3. The company’s organisational structure that is the marketing manager must
take into account other groups in the company in formulating marketing plans
e.g. top management, finance etc.
4. Situational analysis which is concerned with the current market conditions,
what the competitors are doing. It covers:
a) Current product analysis which focuses on product positioning, product
quality, features and packaging
b) Target market analysis which establishes important features of consumer
profiles that is high income or low. This will enable pricing strategy and
segmentation. This should establish whether it is a segmented or mass
market. The organisation should establish the consumers’ perceptions to
the company’s products e.g. Harare parts distributors’ products are
perceived to be of poor quality.
c) Competitor analysis, the organisation should identify its main competitors
as well as the strengths and weaknesses of their marketing mix e.g. a new
company entering a market for liquor production will identify Delta and its
strength in distribution. It is also supposed to identify potential future
competitors.
d) Economic and political environmental analysis through PESTLE.
e) SWOT analysis of the organisation i.e. management skills, financial
strength and potential internal weaknesses and the external environment,
the opportunities and threats that it presents to the business.
Marketing Mix
The set of controllable tactical marketing tools that is product, price, place and
promotion that the firm blends to produce the response it wants in the target
market. This consists everything that the firm can do to influence the demand for its
product. This includes the 4P’s
Geographic segmentation
Demographic segmentation
Demography is the study of population data and trends, and demographic factors
such as age, sex, family size and ethnic background. The process divides the market
into groups based on variables such as age, gender, family size, family life cycle,
income, occupation, education, religion, race and nationality .Consumer needs,
wants and usage rates often vary with demographic variables and they are easy to
measure than most other types of variables.
It involves offering different products or using different approaches for different age
and life cycle groups. Johnson and Johnson used to produce baby products (baby
Powder) and now have included products for adults. R&B CDs may be marketed to
teenagers whilst hits of the 70s to older people. However marketers should guard
against stereotypes using age and life cycle e.g. although 18 year olds can drink
beer, others do not so advertising beer to 18 year olds might not be effective
always.80 year olds might require wheel chairs while others still play tennis.
Therefore age is a poor predictor of a person’s life cycle, health, work, needs and
buying power.
b) Gender segmentation
c) Income segmentation.
d) Religion
The business may divide the market according to religious groups. Food producers
and restaurants, butchers may concentrate on producing for Jews (kosher food).
Psychographic segmentation
This is dividing the market into different groups based on social class, lifestyle or
personality characteristics. The products people buy reflect their lifestyles, so
marketers often segment their markets by consumer’s lifestyles. Personality is also
used to segment the market. This grouping of people results in (i) clothes may be
geared towards those interested in ‘retro’ fashions from earlier decades like the so
called ‘revo’ (ii) Certain newspapers are geared towards opposition party voters
whilst others are geared towards ruling party voters.(iii) mobile phones provide
services such as internet access to business travellers
Behavioural Segmentation
This is dividing the market into groups based on consumer knowledge, attitude, use
or response to a product. This includes:
1) Occasion segmentation
This is dividing the market into groups according to occasions when buyers get the
idea to buy a product or use the product. It helps the firms to build up product
usage e.g. orange juice is most often consumed breakfast or lunch, but orange
growers have promoted drinking orange juice as a cool and refreshing drink at other
times of the day. Some holidays like mother’s and father’s day were originally
promoted partly to increase sales of candy, flowers, cards and other gifts. Also
marketers prepare special offers and adverts for holiday occasions. In Zimbabwe fire
crackers sell high over the New Year holiday.
This is dividing the market according to the different benefits that consumers
seek from the product. It requires finding major benefits people look for in the
product class, the kind of people who look for each benefit and the major brand
that deliver each benefit. The tooth paste market research found four benefits
namely Economic, medicinal, cosmetic and taste. People seeking to prevent tooth
decay (medicinal) tend to have large families and were heavy users of toothpaste
and conservative. Each benefit group had special demographic, behavioural and
psychographic features e.g.
1) User status
2) Markets are segmented into groups of non users, ex-users, potential users
and first time users and users of a product. One study showed that blood
donors are low in self esteem, low risk takers, and more highly concerned
about their health while non donors are the opposite.
3) Usage rate
The market can be divided into groups of high, medium, heavy users of a product.
Thus a firm would benefit by directing its efforts towards heavy
users of a product. British Airways established the Executive club to encourage
and develop the custom of regular business travellers.
Undifferentiated strategy is when the firm promote the product in the whole
market. The business does not segment the market but try to make the product
appeal to the whole market. This is done by firms producing goods in bulk where
customers want to buy a standard product. It could also be that the cost of
producing different products far outweighs the return. Customers might prefer to
buy cheap undifferentiated products than expensive one tailored precisely for their
needs.
However
Market Research
The process of collecting, recording and analysing data about the customer,
competitors and the market, for example a firm might gather information about the
likely consumers of a new product and use the data to help in its decision making
process. The data gathered might include:
Whether or not consumers would want such a product
What type of promotion will be effective;
What style, shape, colour or form it should take;
The price people are prepared to pay for it;
Information about the consumers themselves like age, attitudes ,lifestyles etc
To reduce the risk associated with new product launches. This enables the
firm to assess the likely chances of a new product achieving satisfactory sales,
by investigating potential demand. Market research can be used to identify
consumer needs and tastes through primary and secondary research.
To predict future demand changes, as this assists in corporate planning,
production planning, and manpower planning (predictive reason)
To explain patterns in sales of existing products and market trends. This is
done through time series and trend analysis.
To assess the most favoured designs, flavours, styles, promotions and
packages for a product.
To identify and understand the customer needs and wants as they are ever
changing
To avoid lagging behind rival firms, through identifying rivals, their activities.
To know who buys and who consumes
To know the reactions to products, packaging and price
The character of the collecting organisation as the data may have been
collected to prove something or may be biased like information from political
pressure groups
Objectives of the original study are to be reconciled with the objectives of the
current study
Methods employed as inaccurate data might have been produced if the
sample selection or data collection were badly done
Timeliness since the data may have become out of date.
Definitions used in the research should match those at hand like Income, dept
store.
It is relatively easy, quick and cheap to collect, especially if the sources that
exist are known. This makes it very useful for smaller businesses
Several sources can be used. This allows the data to be checked and verified.
This allows a cost effective analysis of several sources of data.
Historical data may be used which make it easier to establish trends
It can be used before carrying out primary research which helps to establish
questions to ask in questionnaires.
It is inexpensive
It avoids repeating effort that is finding out what already exists
There is a wide choice of data that can be used for exploratory research.
The data is not always in the form required by the firm. Adapting it may take
time.
The data may be out of date and not relevant, especially in fats changing
markets
The data might not be available
Coverage of existing information may be inappropriate, thus some aspects
covered may be not relevant.
There is little control over the quality of the information
Researchers must be aware of bias from published accounts and reports due
to window dressing
There can be problems of interpretation of research findings
Primary research is the collection of first hand data that is directly related to the
firms needs
Focus groups
Interviews
This involves an interviewer obtaining information from one person face to face.
The interviewer fills out the questionnaire not the interviewee. The questions asked
are mainly open ones.
Merits of interviews
The interview allows the respondent to detailed responses to questions
concerning them.
It allows for time and scope for answers to be followed up in more detail.
Long and difficult questions can be explained by the interviewer and the
percentage of responses that can be used is high.
It allows the observation of reactions and it is very flexible.
Visual material can be used in an interview.
Skilled interviewer can elicit information in greater depth
Demerits
There can be interviewer bias
It can be time consuming and tends to rely on the skill of interviewer
There can be respondent bias a they can give false answers to impress the
interviewer
It is difficult to sample a scattered population
It is difficult to control the interviewer.
Consumer panel
It involves a group of consumers being consulted on their reactions to a product
over a period of time. They are widely used by TV companies to judge the reactions
of viewers to new or existing programmes.
Merits
They can be used to consider how consumer reaction changes over time.
Trends over time can be established.
Control groups can be formed.
It saves time as panel members know the procedures.
The firm can build a picture of consumer trends.
Demerits
It is difficult and expensive to choose and keep a panel available for research
over a long period.
Also panel sophistication develops.
Members tend to be not typical.
The researcher observe and record how consumers behave. They can look out for
the amount of time consumers spend making decisions and how readily they notice
a particular display or how many take a product from the shelves. It can include a
stock to check and record sales over time. They can count the number of people or
cars that pass a particular location in order to assess the best site for a new
business. A great number of consumers can be surveyed.
However it does not give researchers opportunity to ask for explanations. It can
leave many questions unanswered e.g. it might show that a particular display is
unpopular but does give clues as to why. The results can be distorted if people are
aware that they are being watched.
Telephone Interview/survey
Advantages
It is quick
It cover a wide geographical spread
It produces a better response rate than postal survey
It is undemanding of respondents as simple questions are used.
It is less inhibited than face to face interview
Demerits
Costs necessitate short calls
It is biased as it excludes those without phones or not in the directory
It is not possible to control respondents
There is no visual stimuli
It is limited to short ,simple questions
Postal surveys
This involves the use of questionnaires sent to consumers through the post.
Advantages
It is relatively a cheap method of conducting field research
There is no interviewer bias
A wide geographical area can be covered
Gives respondent time to check data
Provides anonymity (identity of respondent is not known)
Demerits
It is expensive in terms of postage
There can be a low response rate
It is limited to simple questions
There is no control over respondents
Test marketing
This involves selling a product in a restricted section of the market in order to assess
consumer reaction to it. It is an experiment to test and assess the response of
consumers to changes in the marketing mix. It takes place by making the product
available within a particular geographical area. The region selected should reflect as
closely as possible the social and consumer profiles of the rest of the market.
The main merit is that it reduces marketing costs by targeting a particular market
before national launch. It reduces the risk of new product launch failure.
The demerit lies in choice of participants and difficulties in controlling random
variables e.g mood of participants or weather conditions
Questionnaires
Sampling
A sample is the group of people taking part in the market research survey selected
to be representative of the overall target market.
Sampling is the process of selecting individuals for inclusion in the sample.
Advantages of sampling
It reduces costs of researching the whole market
It saves on time since a few selected individuals are used
It requires few resources like manpower
It is more reliable as there is concentration on fewer units
Disadvantages
There can be sampling error
It can be done for convenience at the expense of representativeness.
Sampling methods
Probability sampling
This involves the selection of a sample from a population based on the principle of
random chance. It requires use of a sampling frame, the complete list of the
sampling population. The sample can be selected from the frame. This can include
the voter’s roll, phone directory, Nemakonde high pupils. The sample frames should
be evaluated for: completeness, accuracy, so that reliable estimates can be made
about the whole market and the chance of errors can be determined. However
probability sampling is complex and time consuming. It is more costly than non
probability sampling.
This is the method in which each member in the population has an equal chance of
being selected. The sample is selected at random, like picking numbers out of a hat.
It can be done as follows:
Make a list of all people in the target population,
Give sequential numbers to each member of this population.
A list of random numbers generated by a computer or can be picked out from
a hat.
The selected numbers will make the people included in the sample e.g. if a
sample of 5 people is required then the first 5 numbers on the list is taken.
Advantage
It removes bias from the sample
Disadvantages
It assumes that all members of the group are the same which is not always
true
It is costly and time consuming for firms to draw up a list of the whole
population and then contact and interview them.
Systematic sampling
It involves choosing a starting point in a sample and then selecting every nth item
thereafter. This is not a fully random method and will produce a bias if there is a
regular, recurring pattern in the frame. E.g. a supermarket wishing to study
buying habits of customers can decide to ask every 8th customer entering the
shop until the required sample has been reached.
Stratified sampling
The population is divided into sub groups with different opinions. The groups are
called strata. The sample reflects each subgroup in proportion to their
representation in the population as a whole. The selection of individuals within
each group is made on a random basis. If a firm wants to establish shoe polish
preferences at a school, it can use the following strata like class groups, age
groups etc. It is appropriate where a fair representation of respondents is
required in the sample. It is preferred by researchers as it makes the sample
more representative of the whole population and it is less likely to privilege a
particular subgroup.
Quota sampling
This involves dividing the population into subgroups with quotas attached that
reflect known population characteristics in a variety of respects e.g. age, sex,
income, occupation. The selection of individuals is done on a non random basis.
An example might be that it is known that consumers of beer are: 80% males
and 20% females.Age:15-20 years =30%, 21-30 years=35%, 31-40 years=20%
and over 41 years=15%.The sample selected should conform to these
proportions. If a sample of 100 is needed, so 80 will be males and 20 females. It
is appropriate where the information is needed quickly and when time is not
available. It is also useful when proportions of different groups in the population
are known. It is also used when sample frame is not available. However it is not
possible to estimate sampling error since it is a non random method. The results
are not representative of the population and are not randomly chosen.
Cluster sampling
This involves selecting a sample from another sample. A researcher may choose
at random a country, then a district of that country, then a street in a chosen city
as well as a household in a street chosen. It is used when groups selected in a
cluster are too large, with the result that a sub sample has to be selected from
each group.
Judgemental sampling
The researcher chooses the samples based on who they think would be
appropriate to study. This may be used by an experienced researcher who may
be short of time as he has been asked to produce a report quickly.
Convenience sampling
Snowballing sampling
This is a highly specialised method of sampling .It involves starting with one
individual or group and then using these contacts to develop more. It is used with
highly secretive markets/products such as fire arms or expensive one off products
for a very limited range of customers.
Data Presentation
Methods of data presentation
Bar charts
It is constructed using bars or blocks of equal width but varying length or height to
represent relative values of the data. The bars are drawn vertically or horizontally.
The sales of a firm can be shown as follows.
2011
2010
march
february
january
2009
2008
Advantages
There can also be a component bar chart and a percentage bar chart in addition
to the simple bar chage bar chart
april
march
sugar
rice
february four
january
bulawayo
mutare
labour
materials
harare overheads
chinhoyi
This is a graph for grouped data. The area of each bar represents the relative
values. It measures relative frequencies of grouped data. Therefore interval width
can be different and might require the height of bars to be reduced. In histograms
there is no space between bars because the data measured is continuous rather
than discrete as with a bar chart. A frequency polygon can be plotted on to a
histogram by joining the mid points at the top of each bar is used to present visually
frequency data when the range of data has been broken down into class ranges and
for simple statistical analysis .e.g. identification of modal class.
Line graphs
The graph shows the relationship between two variables. It can be used to show
changes in a variable over time like a Time series graph. It is produced by joining
the coordinates together and this allows reference to trend in the data and shows up
seasonal or other fluctuations. They are used when
3500
3000
2500
Co A
2000
Co B
1500 co C
1000
500
0
2010 2011 2012 2013
o
Pie charts
They are used to display data that need to be presented in such a way that the
proportions of the total are shown clearly. The data collected is represented by a
circle. This is divided into a number segment. Each segment represents the size of a
particular part relative to the total. They are drawn using a protractor or spread
sheet software in a computer and the number of degrees adds up to 3600
However
Sales
orange crush
Blackberry
Raspberry
Cream soda
Tables
They are used to present many forms of data. They may be used:
Pictograms
This involves calculating the most likely or common outcome from the data.
These are called averages. This is useful in a number of situations which are of
interest to the business:
Arithmetic mean
It is calculated by totalling all the results and dividing by the number of items.
∑x/n or ∑fx/∑f
When the range of results is small, the mean can be a useful indicator of the
likely sales level per period of time.
It can be used to determine sales level
It is often used for making comparisons between sets of data.
Advantages of mean
Mode
This is the value that occurs most frequently in a set of data. The data is first put in
descending order and the recurring figures will be obvious immediately. It can be
used for stock ordering purposes, for stockholding purposes that is which colour,
size to stock most, and where averaging is affected and distorted by extreme values
like salaries.
Advantages
It is easily observed
No calculations are required
It is easily understood and the result is a whole number
Disadvantages
Median
This is the value of the middle item when the data has been ordered or ranked. It
divides the data into two equal parts. When the number of items is odd the median
item=n+1/2.For even number of items it is n/2.For example with 20 items n/2 gives
10.The median item will be between the 10th and 11th items. These will be added
and divided by two. The median is mostly used in wage negotiations e.g. half of our
union members get less than $x. It is often used in advertising
Advantages
Disadvantages
When there is an even number of items then it is estimated
It is time consuming to determine for grouped data
It cannot be used for further statistical analysis
Mean =120+122+128+122+120+135+128+120+130=1125/9=25
120,120,120,122,122,128,128,130,135
N+1/2=9+1/2=5
Range
This is the difference between the highest and the lowest value. It is used to
measure data dispersion or spread. Inter quartile range is the range of the middle
50% of the data.
Forecasting
Qualitative techniques
They depend on human judgement and experience and are used when:
Techniques
Personal insight, these are forecasts based on individual judgement. They are
inexpensive but the level of accuracy is low.
Jury of experts uses the specialists within the firm to make forecasts for the
future. Senior managers meet and develop forecasts based on their knowledge of
their specific areas of responsibility within the business. It is quicker and cheaper
than the Delphi method. However it lacks the external view of market conditions and
consumer trends.
Market surveys involve data collection and analysis. They are included in
qualitative methods because even in the absence of data judgement is required.
Accuracy of forecasts depend on :
Historical analogy
It uses the idea of the product life cycle as a model to help understand the likely
trends in the demand for a product. The performance of one product provides an
analogy to predict trends in a similar product.
Delphi method
Quantitative techniques
However establishing correlation does not prove that there is a cause and effect
relationship. Sales could have been rising for other reasons entirely different. It fails
to consider other factors such as changes due to seasonal variations. Mathematical
methods of correlation analysis can be undertaken that do not rely on graphical
approach.
A time series is a set of data recorded over uniform time periods, such as a year or a
month. It shows how the variable has behaved over time. It involves predicting
future levels based on past data. The business may predict future sales by analysing
sales data over the last 10 years. Analysing the data involves decomposing the data
to establish a pattern, which serves as the basis for predicting trends into the future.
The time series can be plotted on a graph and it is likely that the pattern will
conform to one the graphs below.
There can be fluctuations around a trend e.g.
The time series data is made up of four elements that is trends, seasonal
variations, cyclical and random variations. Time series=T+ S+ C+ R
The forecast is for a short period of time in future, such as six months
rather a long time.
They are revised frequently to take account of new data and other
information.
The market is slow changing.
There is plenty of back data from which to produce a forecast.
Market research data, including test marketing data is available.
Those preparing forecasts have an understanding of how to use data to
produce a forecast.
Moving Averages
This is a smoothing technique to isolate the trend from fluctuations around it. It
is important in constructing sales forecasts. The moving average is updated as
new information is received e.g. Inflation rate is published monthly is an average
of price rises in the previous 12 months. At each successive updating, one month
drops out of the calculation and is replaced by the latest month’s data. A basic
principle of moving averages is that the period chosen must coincide with the
cycle so for 12 period moving cycles we have 12 months represented to eliminate
seasonal fluctuations. The greater the number of periods in the moving average,
the greater will be the smoothing effect.
The first average covers the first 7 days starting with the Sunday week 1.The
next average, Sunday wk1 drops out will be replaced by Sunday wk2 and the
process is repeated. E.g
Sunday 50
Monday 31
Tuesday 36
Saturday 66
Sunday 51
( 337+51-50=338)
The moving average is always centred, for odd numbers it is usually the middle
value in chronological order, Wednesday. For even numbers it is between the 2
middle numbers e.g. between June and July for a year. In the above example a 7
period moving average can be found by dividing the 7 day moving total by 7.The
7 periods centred moving average can be plotted onto a graph which will show a
trend. This will produce a smoother trend line than the figure showing the actual
sales and gives a clearer picture of the trend. After identifying the trend the firm
can now predict what can happen in future. The sales figure can be predicted by
drawing a line through the trend figures and extending it to the next period. This
is done by plotting a line of best fit all points in the trend. Computer software can
be used to calculate estimated sales using the ‘sum of least squares.’
PRODUCT
A product is a good, service or idea consisting of a bundle of tangible and intangible
attributes that satisfies consumers and received in exchange for money or some
other unit of value.
Goods have a physical form while services have no physical form or existence.
1. Capital goods that are produced for industrial markets and are used to
produce other goods
2. Consumer goods that are ready made for the end user e.g. a pen
Product positioning is the act of communicating the product’s key features so that
it creates an image/space in the minds of customers. It can refer to the way
consumers perceive a product in terms of its characteristics and advantages and its
competitive position. The key approaches to positioning include: Attributes, Quality,
Price, Benefit/application, and Usage.
Product mix is the variety of products a company sells. It is the total number of
products lines that a company offers to its customers. There are four dimensions to
product mix which are:
1. Width which pertains to the number of product lines that a company sells. If
a company has two product lines ,its width is 2
2. Length is the number of total product or items in a company’s product mix
e.g. Dairiboards’ products may have 3 product brands in each product line.
The length will be 9.
3. Depth is the total number of variations for each product. Variations can
include size, flavour and any other distinguishing characteristics e.g. if
Dairiboard’s sells 2 sizes and three flavours of yoghurt. The yoghurt has a
depth of 6.
4. Consistency pertains to how closely related product lines are to one another,
in terms of use, production and distribution
To replace declining products on the market as they come to the end of their
life cycle and keep up with changes in the market
For growth purposes for example Econet developed Ecocash for growth
purposes by increasing sales revenue offering a variety of products to
customers.
New products can be developed as part of competition. The mobile phone
industry has seen introduction of new products to fight competition and
remain relevant in the market.
To meet changing tastes and preferences of consumers as they constantly
changing.
To fully utilise resources within the organisation that might be under utilised
To respond to the dynamic technological environment as in the electronic
industry
2. Idea screening
This is done to eliminate those ideas that stand the least chance of being
commercially successful. The process spot good ideas and drop poor ones as soon
as possible. Product development costs rise at later stages, so the company wants to
go ahead only with the product ideas that will turn into profitable products. There is
need to determine how the consumers will benefit from the product, whether it is
feasible to produce it and whether it will be profitable.
Product concept is a detailed version of the new product idea stated in meaningful
consumer terms. Product image is the way consumers perceive an actual or
potential product .e.g. Discovery 4WD car is an expensive, appealing car to tourists
and those travelling in mountainous areas. Concept testing involves testing new
product concepts with a group of target consumers to find out if the concepts have
strong consumer appeal.
This is designing an initial marketing strategy for the new product based on the
product concept. it consists 3 parts , the target market, planned product positioning,
sales, market share e.t.c .If the target market is younger, well educated, high
income earners .The discovery 4WD can be positioned to be more economical and
safe to operate more fun to drive and a high performance car. It will be offered in 2
colours that is black and blue, with power 4 wheel drive as well as being air
conditioned. The retail prices of $52 000 and a discount of 20% to dealers. Dealers
selling more than 20 cars per month will be given an additional 5% discount.
Advertising budget will be $300 000 40% being international 60% national.
5 Business analysis
This is the review of the sales, costs and profits projections for a new product to find
out whether these factors satisfy the company’s objectives. If it meets them then
the idea can move to the product development stage. The company can look at
sales history of similar products and conduct surveys of market opinion. After
preparing sales forecasts, the management can estimate expected
6 Product development
7 Test marketing
This is the launch of the product on a small scale market to test consumers’
reactions to it. The small market should be as representative as possible. The
benefits of test marketing are:
The actual consumer behaviour can be observed
Feedback from consumers will enable a final decision to be made about
investing capital in a full scale launch
Risks associated with a product failing after a full scale launch are reduced
Any weakness in the product identified by consumer feedback can be
incorporated into the final version of the products.
However it can be very expensive and competitors are able to observe a firm’s
intentions and react.
Commercialisation
This is the full scale launch of the product which corresponds to the introduction
phase of the product life cycle. There is need to put in place a promotional strategy
to make consumers aware of new product availability using informative advertising.
This is the scientific research and technical development of new products and
processes. New product innovations allow businesses to survive and grow in rapidly
changing market places. The costs of R&D may be too high to recover so other firms
may decide not to carry out R&D.
This is the process of analysing whether a new product can be made more efficiently
(at a lower cost) without affecting its appeal to customers. It is an approach to cost
reduction in which components are studied carefully to determine if they can be
redesigned, standardised or made by less costly methods of production. The firm
decides on the best product characteristics and specifies them. Its aim is to optimise
the value of the product to the customer. The process eliminates any costs which do
not add value to product or improve performance of products and services. Thus for
example if a car has an expected life of 10 years but the engine can live for 15
years, it becomes important to look for a less costly components with a shorter life
span. This so because many firms will want to replace vehicle say after 5 to 10
years, they do not want assets that live forever. The product should be economic to
manufacture and easy to store and distribute. Design should take into account
production of scrap and waste material.
1. Introduction stage
The product is introduced into the market with the intention to build a clear identity.
Sales are low and profits may be negative as the costs are high when the product is
launched. Before offering the product to the customers it passes through the
development phase. There are high costs of R&D. Prototypes are produced and
market tests are carried out. The core focus is to establish a brand, a market and
demand for the product. The marketing mix is as follows:
Product-This is concerned with branding, quality level and intellectual
property protections. These are obtained to stimulate consumers for the
entire product category. There is need to create the best first impression for
consumers.
Price-A penetration pricing policy is a low price used to penetrate the market
and gain a market share. This is used for substitute products whose demand
is elastic and when there is intense competition. Skimming pricing policy is a
high price used for making high profits with the intention to cover initial cost
in a short time. It is used to cover costs. The aim is to maintain a high image
.It is used for unique product with inelastic demand and when the firm is
dominant. The pricing strategy depends on the company’s objectives.
Place –Refers to the distribution of goods. Sufficient distribution is done to
produce to ensure product availability after being advertised. The distribution
is usually selective and scattered. If distribution is not ensured, trade discount
and cooperative advertising allowances to convince distributors to stock the
brand.
Promotion- This is done to build brand awareness. Samples can be provided
and it is fruitful in attracting early adopters. Usually informative advertising is
used to let consumers aware of the product’s existence, its price, and where it
can be found and the main features. Sales promotion can be used to offer
free samples to encourage consumers to taste the product
Price incentives can be offered to traders to stock the product.
Growth stage
There are higher sales volumes that enable the firm to benefit from economies of
scale. New customers buy the product and there are repeat purchases. Costs may
fall down due to production increases. Profits grow as sales rise and costs fall. The
product penetrates the market. The firm tries to build up customer loyalty before the
entry of competitors. The competitors may launch their own version of products.
This can lead to a slow down of a rise in sales. The marketing strategy is as follows:
The product strategy is to identify deficiencies and improve on these and
maintain existing quality. New features and improvements in the product
quality may be done. This is done to compete and maintain the market share.
The promotion strategy is to continue with informative advertising but the
focus can move to brand building and persuasive advertising. This is done to
educate customers on specific benefits .When acceptability increases, more
efforts are made for brand preference and loyalty. The company can cut back
trade discounts and allowances after gaining trade acceptance. Sales
promotion incentives are given to encourage repeat purchases and build
brand image.
The price strategy is to lower the skimming price that could have been
used to introduce the product to increase market share. However if the firm
had used penetration price with high demand at low competition it can be
increased to increase profits.
The distribution strategy is to use intensive distribution as the demand
and acceptability increases in order to meet demand. Resellers start getting
interested in the product.
Maturity stage
The sales continue to rise but at slower rate. The product is now bought by the
majority of consumers so it’s established. Competition is high so at some point sales
will level off as competitors enter to compete away the profits. Brand preference is
now a crucial factor in the continuing process. The aim of the firm is to retain its
market share by capturing sales from weaker rivals.
The promotion strategy is to use persuasive advertising to differentiate the
product from rival products. There is need to remind consumers of the
existence of the product. Sales promotion incentives can be used to fight
competition and encourage brand switching and continued loyalty. There is
need for sales promotion to encourage retailers to give more shelf space to
the product than that of competitors.
The product strategy is to add more features and modify the product in
order to compete in the market and differentiate the product from
competition. It is best to get dominance over competitors and increase
market share.
The price strategy is to reduce prices in order to compete due to intense
competition. This attracts the price conscious segment and retains the
customers.
The distribution strategy is to add new distribution channels. Incentives
are offered to retailers to get shelf preferences over rivals.
Decline stage
The market is now saturated so sales and profits decline. This could be
due to technical obsolescence or change in customer tastes. Substitute
products flood the market. The firm seeks to cut its losses by cutting costs or
elimination of the product. The firm can maintain the product, reduce costs
and find new uses of the product. The firm can harvest the product by
reducing marketing costs and continue offering the product to loyal niche
markets until a zero profit. He firm can discontinue the product totally.
However the firm must take care not to remove the product too early. Some
products can have long or shorter life cycle like fads which do have a very
short life cycle.
Capacity utilisation is the extent to which a business uses the capacity that it has
to produce a particular product. It is the relationship between what the firm
produces and what it is capable of producing. A business working at full capacity is
unable to produce any more products. The relationship is as follows:
At the launch sales are likely to be limited so there is spare capacity
At the growth stage a business will often be expanding its operations and
using up spare capacity to meet the rising demand for the product.
At the maturity stage the business may be operating at full capacity. If sales
continue to grow it must decide whether to invest to expand capacity.
At the decline stage there will be under utilisation of existing capacity.
A product portfolio is the range of products that a firm offers to different market
segments.
The BCG matrix is a portfolio planning method that evaluates a company’s strategic
business units in terms of their market growth rate and relative market share.
Strategic business units or product portfolios are classified as cash cows, stars, dogs
and question marks/ problem child.
It shows the growth and market share relationships. Market growth measures the
attractiveness of the product. Market share serve as a measure of company strength
in the market.
Stars are successful products which are performing well in an expanding market.
They have a high market growth rate and relative market share. The firm needs
heavy investment to finance their rapid growth. The firm will be keen to maintain
the market position of this product in what may be a fast changing market.
Promotion costs may be high to help differentiate the product and reinforce its brand
image. Stars are likely to generate high amounts of income. Using Dairiboard,
Yoghurt can be said to be a star.
The strategy that can be used with Stars is called Holding. This is continuing to
support the star products so that they can maintain their good market position. The
firm ca freshen the product in the eyes of the consumers so that high sales growth
can be sustained.
Cash cows are successful products that produce high positive cash flows and are
profitable. The sales of cash cows are high relative to the market and promotional
costs are likely to be low as a result of high consumer awareness. They are well
established products in mature markets. They can generate a lot of cash that can be
used to support other products. This strategy is called Milking (taking positive cash
flows from the cash cow products and investing in other products in the portfolio).
Chimombe can be regarded as a cash cow.
Problem child/ question marks are products with low market share and high
growth rate. They consume resources but generate little return. If it is a new
product it will require heavy promotion costs to help become established. They can
be financed by cash flows from cash cows. The future of the product may be
uncertain so quick decisions may need to taken if sales do not improve e.g. revise
design, relaunch or even withdrawal from the market. The firm should use the
strategy of Building that is supporting the problem child products with additional
advertising or further distribution outlets.
Dogs are low growth, low market share products. They may generate enough cash
to maintain themselves, but do not promise to be large sources of cash therefore
they offer little to the business either in terms of existing sales and cash flows or
future prospects. It may need to be replaced shortly. The strategy used with dogs is
called Diversifying. This involves identifying worst performing dogs and stopping
the production and supply of these products.
ANSOFF MATRIX
This is a model used to show the degree of risk associated with the four growth
strategies of market penetration, market development, product development and
diversification
Products
Existing New
Markets
Long term business success was dependent upon establishing business strategies
and planning for their introduction. ANSOFF matrix considered two main variables in
strategic marketing decision. These are:
1) The market in which the firm was going to operate
2) The products intended for sale
In terms of the market, managers have two options
1) To remain in the existing market or (b) To enter new markets.
In terms of the product the two options are:
2) Selling existing products or (c) To develop new products
Market penetration is achieving higher market share in existing markets with
existing products. This can be achieved by reducing prices of products so as to
stimulate demand for product and increase sales and market share. However this
could lead to price wars that can reduce profit margins of all firms in the industry.
Price
The price is the amount of money the customer pays for the product. Price is very
important because it determines the company’s profits and hence survival. Adjusting
the price has the profound impact on the marketing strategy depending on elasticity.
It is a compensation given from one party to another in return for goods and
services. The price includes what:
The buyer is willing to pay
A seller is willing to accept and
The competition is allowing to be charged.
1) Cost of production since the price must cover the cost of production in order
for the firm to make profits. The costs include both fixed and variable costs
2) Market conditions- the monopolist or market leader has freedom in setting
prices. The monopolist can set prices anywhere along its demand curve. A
firm with high market share is dominant and can be a price setter. If the
market is competitive prices are likely to be closely related.
3) Competitor’s prices are usually used to set prices closer to those of
competitors to stay competitive in the market.
4) Business and marketing objectives thus if a firm aims to be a market leader
through mass marketing, thus will require a different price from those firms
which aim to select niche markets. A firm wishing to establish a premium
branded product sets high prices
5) Price elasticity of demand
6) Whether it is a new or existing product
Pricing methods
There are three broad categories of pricing methods. These are:
Cost based pricing
Customer oriented pricing
Competitor oriented pricing
1) Mark up pricing which involves adding a fixed mark up for profit to the
unit price of a product. It is often used by retailers. A fixed percentage
mark up is added to the price of bought in materials e.g. if a textbook is
bought for $10 and a mark up of 20% is required. The selling price will be
=20% of 10=$2. The selling price will be $12. A higher mark up usually
leads to lower turnover or sales while a lower mark up leads to higher
sales.
However
Full costing ignores demand and price elasticity of demand
It ignores the competitive situation in the market
It does not take advantage of market potential that is the potential
to increase market share by lowering prices
It is inflexible in the face of demand changes
It exaggerates the precision with which costs can be allocated. The
allocation of overheads depends on level of output. If sales fall
average costs rise and prices could be raised
It is not necessarily accurate for firms with several products where
there is doubt over the allocation of fixed costs.
Poor methods of allocating overheads can result in overpricing and
under pricing due to under/over absorption
3) Target pricing is setting prices that will give a required rate of return at
a certain level of output/ Sales. A percentage mark up is added to variable
costs. The mark up covers fixed costs.
This is charging prices based upon the price set by its competitors. The price set can
be plus or minus a certain percentage. Less attention is paid to costs and demand of
the product. The situations in which the method can be used include:
In markets where there is one dominant firm and other firms simply follow
the price charged by the market leader. This is called price leadership
In markets that have a number of firms of the same size but prices are still
the same to prevent price wars
Destroyer pricing which exists where the price charged is below that of
competitors in order to try and force them out of the market.
Competitive pricing that is setting prices slightly higher to tackle the price
leader but demonstrating important product differences. The strategy is easy to
use as there is no need to carry out thorough market research. It seems
relatively safe as the firm does not risk losing its market share. However:
It lulls the price setter into passivity. The managers can lose sight of their
pricing responsibilities and reduce it to mere monitoring of competitor
prices and adjusting own prices. If however rivals are employing the same
strategy then prices may fall out of synchrony with current demand.
Price matching can lead to a game of chicken. Low prices are used to
penetrate market and meet market share targets. This can lead to a
downward spiral of prices that can damage the company and the whole
industry.
Promotion
This is an attempt to draw attention to a product or business in order to gain new
customers or retain existing ones. This can include the use of advertising, sales
promotion, personal selling, direct mail, trade fairs, sponsorships and public relations
to inform consumers and persuade them to buy.
Promotion Objectives
To increase sales by raising consumer awareness of a product
To remind consumers about the product. This can encourage existing
customers to purchase the product and may attract new customers to buy
To show that a product is better than that of a competitor by demonstrating
superior specifications or quality. This may encourage consumers to switch
purchases from another product.
To create or reinforce the brand image or personality of the product
To develop the image of a business rather than of a product.
To correct misleading reports about the product or the business and to
reassure the consuming public after a scare or accident involving the product.
This builds up confidence in the product and may encourage the consumers
to purchase more of the product.
To encourage retailers to stock and actively promote products to the final
consumers
Advertising
This is a non-personal one way communication to promote the sale of goods or
services through paid for advertisements in the media e.g. TV. This is a form of
above the line promotion undertaken by the business by paying for communication
with consumers. Advertisements are usually targeted towards appropriate target
markets by selecting the right media.
Types of advertising
Advantages of advertising
It advises customers about the products available, their prices and where to
get the products
It creates brand loyalty and image
It increases sales thereby profit maximisation
It can be used to fight competition
It encourages repeat and first time purchases
Advertising reminds customers about the products available
It makes consumers to make a more informed decision as it offers choice to
consumers which allow them to make more informed consumption decisions
It gives valuable information to customers that might otherwise be difficult to
come by like how to use the product.
It also earns a lot of revenue for the television and radio and allows
newspapers and magazines to be sold at lower prices.
The advertising industry employs a lot of people directly through advertising
agencies and indirectly through jobs that may result from a successfully
advertised product. If demand for such a product goes up then more of it
might need to be produced leading to employment creation
It acts as a guarantee of product quality
It helps reduce sales fluctuations and assist in production planning
However
Advertising is very expensive. It raises product costs and therefore prices
without adding value to the product. The money could be used to make
product improvements or price reductions to the benefit of consumers. It is
likely that consumers will pay more for the advertising costs than the firm
It may persuade consumers to buy unnecessary and unwanted products. It
assumes that people are gullible in nature. This leads to a situation whereby
consumers are judged by how much they consume rather than their value as
human beings.
It exaggerates the performance of a product e.g. washing powders
It is wastage of resources as these could be put into some other profitable
use.
Advertising can be used as a way of maintaining monopoly power by
preventing the entry of new rivals, thus it exploits consumers
It stimulates wants that cannot be satisfied. Environmentalists are concerned
with high levels of consumption caused by advertising as the earth’s
resources cannot sustain this.
It encourages people to buy products which are regarded as being damaging
to society.
It also encourage behaviour which might be to the detriment of society as a
whole like the fast ‘macho’ driving often seen in advertisements for cars and
related products.
Cost –The cost of placing an advert in the TV or radio can be very expensive per
minute but however actual cost will depend on the time of the day the advert is
transmitted. The cost has to be measured against the effectiveness that is how
much new extra business will be generated by each extra dollar spend on
advertising expenditure. Managers should choose the media that falls within their
budget. The costs include media space and time, the advert production and use
of celebrities in TV and radio or cinema.
Profile of the target market audience- This is in terms of age, income levels
etc. This should reflect as closely as possible the target consumer profile of the
market being aimed. Advert for a Toyota Fortuner cannot be placed in the
Telegraph newspaper.
The law – There are legal restrictions on the use of different media for
advertising certain products, such as cigarettes. There can be a limit on adverts
aimed at children.
The other aspect of the marketing mix- There is need to integrate other
aspects of the marketing mix. Advertisements can be part of a wider campaign
using other elements of the mix such as below the line promotion or pricing.
These elements may determine which media ton use for advertising.
Advertising agencies
These are firms who advise businesses on the most effective way to promote
products. They charge a substantial fee. They provide the following in devising a
promotional plan:
They research the market, establish consumer tastes and preferences and
identify typical consumer profiles.
Advise on the cost effective forms of media to be used to attract these
potential consumers e.g. sales promotion or persuasive advertising
Use own creative designers to devise adverts appropriate to the media to
be used
Film or print the adverts to be used in the campaign
Monitor public reaction to campaign and provide feedback to the client
Sales promotion
This includes incentives such as special offers or special deals directed at customers
or retailers to achieve short term sales increases and repeat purchases by
consumers. This is a form of ‘below the line promotion’. This is a promotion that is
not a directly paid for means of communication, but based on short term incentives
to purchase a product.
Non personal form of promotion paid by These are short term/ incentives given
the identified sponsor to customers to promote sales
Gives a reason why you should buy a Provide an incentive to customers for
product through persuasive purchasing like refunds, loyalty points
advertisement
Direct Mail
This is sending information about a product through the post. The consumer can actually
buy the product by placing an order by post or telephone. It can take the form of direct e-
mailing, where consumers or businesses receive product information through their email
inbox. It is a means of direct marketing.
Branding
This is the strategy of differentiating products from those of competitors by creating an
identifiable image and clear expectations about a product.
A brand is a name, term, symbol or design or any other feature that allows consumers to
identify the goods and services of a business and to differentiate them from those of
competitors
A brand might be one product, a family or range of product, or the actual business itself.
Importance of branding
To create brand loyalty as consumers often have a high degree of loyalty to popular,
well established, brands. Firms can only compete in markets if they have strong
brands. If brand loyalty is achieved then persuasive advertising is reduced. It
therefore reduces the amount spend on advertising
To help recognition. A product with strong brand name is likely to be instantly
recognised by most consumers. This could be because consumers trust the product
and therefore are willing to buy the product.
To differentiate the product and give an identity which aids identification. It is
important in markets where products are fairly similar so that a firm’s products can
be clearly distinguished from others.
To gain flexibility when making pricing decisions as the greater the loyalty of
consumers to a particular brand, the more room for manoeuvre a firm will have in its
pricing decisions.
To develop a brand image as it is argued that consumers respond to brand images
they can identify. If consumers identify strongly with a brand they are often prepared
to go to great lengths to pay for the brand of their choice.
It provides a sense of security, reassurance about the quality of goods inside the
package. This arises out of the familiarity with the brand.
It adds value to the product making it more appealing to customers. The essence of
a brand is its perception by buyers.
Types of Brands
Packaging
Packaging performs the utilitarian function of containing and protecting the product. It
protects the product and retain its freshness.
Advantages of packaging
It helps to identify the product using colour, logos and designs on the packaging in
advertising as themes
It aids promotion to provide a constant reminder of the product
It can attract customers by being colourful
If the goods are competing with rivals they have to be distinctive
Packaging can be used to prolong the life of the product by revitalising interest or
enabling the product to penetrate new markets.
It aids self service and help to build brand loyalty
It preserves the contents like tinned beans
It contains instructions on how to use the product
It can be used after the product has been consumed like empty buckets which
contained cooking oil.
It makes handling easier and convenient
However:
Packaging is expensive
It increase the prices of the product to final consumer
It contains legislative prohibitions (not for under 16)
Some type of products package can be provocative like jiggies which have pictures of
wrestlers.
Packaging can pollute the environment
Promotion budget
The financial amount set aside by a business for spending on marketing during a certain
time period.
Distribution
It refers to the channel of intermediaries a product passes through from producer to
final consumer. It involves a strategy of moving products from point of creation to
the point of consumption in an efficient and low cost manner so that it is convenient
for the consumer
Players in the distribution channel include:
Manufacturer, agent, wholesaler, retailer and consumer
These can be arranged as follows:
Producer
Route 4
A Agent Route 3
Route 2
Route 1
Wholesaler
Retailer
Consumer
Route 1
It involves direct marketing from producer to customer. It is used in industrial
markets for the supply of capital goods, mail order firms/manufacturers, factory
shops or farm shops, airline tickets sold over the internet.
Advantages
There is no intermediary so there is no mark up or profit margin taken up by
other businesses.
Producer has complete control over the marketing mix of the product, that is
how the product is sold, promoted and priced to consumers
It is quicker than other channels
It may lead to fresher food products
Direct contact with consumers offers useful market research
Disadvantages
All the storage and stock holding costs have to be paid by the producer
No retail outlets limits the chance for consumers to see and try before they
buy
It may not be convenient for consumers
No advertising is paid for by intermediaries and no after sales service offered
by shops
It can be expensive to deliver each item sold to consumers
Route 2
It is used by large retailers with own warehouses, holiday companies selling holidays
via travel agents or where the whole country can be reached using one level route.
Advantages
Retailers hold stocks and pay for storage costs
Retailers has the product displays and offers after sales service
Retailers are often in locations that are convenient to consumers
Producers can focus on production and not selling
Disadvantages
Intermediaries take a profit margin that make the product more expensive
Producers lose some control over the marketing mix
Retailers may also sell products from competitors so there is no exclusive
outlet
Producer has delivery costs to retailer
Route 3
This is the traditional channel in consumer markets. Small retailers depend on
wholesalers for supplies and manufacturers are also keen to avail themselves tp the
services of wholesalers.
Advantages
A wholesaler holds goods and buys in bulk from producer
It reduces stock holding costs fo producer
Wholesalers pay for transport costs to retailers
Wholesalers breaks bulk by buying in large quantities and selling in smaller
quantities
It may be the best way to enter foreign markets where producer has no direct
contact with retailers
Disadvantages
Another intermediary takes a profit mark up and may make final goods more
expensive to consumers
Producer loses further control over the marketing mix
It slows down the distribution chain
Importance of distribution
Distribution channels provide time, place and ownership utility. They make
products available when, where and in the sizes and quantities that customers
want. Distribution channels provide a number of logistics or physical distribution
functions that increase the efficiency of the flow of goods from producer to
customer. They reduce the number of transactions necessary for goods to flow
from many different manufacturers to large numbers of customers. This occurs in
two ways. The first is called breaking bulk where wholesalers buy goods in large
quantities and sell them in smaller quantities. They reduce the number of
transactions by creating assortments, thus providing variety to customers so that
they can buy different products from one seller at a time. The channels transport
goods and store them. They move them from their point of production; hold
them in their warehouses until they are bought by consumers. Intermediaries
provide customer services such as offering credit to buyers and accepting
customer returns. Sometimes retailers can assist manufacturer by providing
repair and maintenance service for the products they handle. The channel
members also perform the risk taking function. This is associated with goods that
may not be sold or can be stolen in the warehouse or can be damaged. The
channel members provide a lot of communication and transaction functions. They
provide two way manufacturers. They may supply the sales force, advertising
and other marketing communications necessary to inform consumers and
persuade them to buy. The channel members can be valuable sources of
information on consumer complaints, changing tastes, and new competitors in
the market.
Internet Marketing
This is the marketing of products over the internet. It can involve several different
marketing functions:
1 Selling of goods directly to consumers or other business as orders are placed
online through the company website
2 Advertising using the company’s website or ‘pop-up’ on another firms website
e.g. a car insurance company may pay to have a banner advert on a car
manufacturers website
3 Sales links are established by visitors to a website leaving their details and
then the company emails them or calls them to attempt to make a sale
4 Collecting market research data by encouraging visitors to the website to
answer questions that can provide important consumer data
5 Dynamic pricing using online data about consumers to charge different prices
to different consumers over the internet.
Advantages
1 It is relatively inexpensive when compared to the ratio of cost and the
number of potential consumers reached
2 Components can reach a worldwide audience for a small proportion of
traditional promotional budget
3 Consumers interact with the website and make purchases and leave
important data about themselves
4 The internet is convenient for consumers to use if they have access to a
computer
5 Accurate records can be kept on the number of visitors or clicks and the
success rate of different web promotions can be quickly measured
6 Computer ownership and usage are increasing in all countries of the world
7 Selling products over the internet involves lower fixed costs than traditional
retail stores
8 Dynamic pricing is made possible
Disadvantages
1 Some countries have low speed internet connections and in poorer countries,
computer ownership is not wide spread
2 Consumers cannot touch, smell, feel or try on tangible goods before buying.
This may limit their willingness to buy certain products online
3 Product returns may increase if consumers are dissatisfied with their
purchases once they have been received
4 Cost and unreliability of postal services in some countries may reduce the cost
advantage of internet selling.
5 The website must be kept up to date and user friendly. Good websites can be
expensive to develop.
Viral marketing
This is the use of social networking sites (face book, twitter) or sends text messages
to increase brand awareness or sell products
Pull strategies are generic the selling strategies. The business approaches
customers directly rather than using intermediaries. This includes direct mail,
telemarketing direct response marketing which involves asking target consumers to
take action e.g. complete the tear off slip, as well as emailing to potential customers.
1. Design of the product –well designed, high quality products will be more
demanded at higher prices
2. Efficiency of production which reduce waste. Increasing productivity will
reduce costs per unit and this will increase value added if prices remain fixed.
3. Impact of the promotional strategy on convincing consumers to pay more for
the product than the cost of the inputs.
The production process can involve many stages before physically selling the goods
and services. These include:
Tertiary production involves the provision of services. These are subdivided into :
Plant Location
This refers to the site where actual production is to take place. Factors to be
considered when choosing a site include:
Quantitative Factors
Qualitative Factors
1. Local bye laws and attitudes in relation to building plans and regulations. The
attitude of the local population needs to be checked as well. Some people
might be opposed to industrial development should they view it as a
disturbance to ecology
2. Housing and social factors are important to firms that cannot build own
houses for their employees they will have to locate where there are built
accommodation already. There is also need to consider availability of
education, health and recreational facilities.
3. Environmental concerns make the business organisation to choose areas that
less sensitive to the environment.
Factory layout
Advantages include:
Handling is reduced
Work is simplified and broken down into smaller tasks
Control of the process is facilitated
Limitations
Advantages
Fixed position layout is used where resources are taken to the site at which
production occurs. This is the case in large construction projects.
Production Methods
Job production
This refers to the production of one-off items specifically designed for the customer.
It is used when orders are small. The products may be small or large (like building a
ship) and are often unique like specially designed wedding rings and cakes, designer
suits. Each individual product has to be completed before the next product is
started. At any time there is only one product being made. There is a wide variety of
goods and services that can be produced. Jobbing production is arranged by
process, hence machines carrying out the same or similar operations are clustered
together and the product moves from one work station to another. The firm do not
hold stocks of raw materials and finished goods.
Disadvantages
This production process tends to be expensive as it takes too long time to
produce the product
It is labour intense and the labour force needs to be skilled and the possibility
of using labour saving machinery is limited and cost saving is not easy to
achieve
The production process can be slow
Buyers dictate specifications which are varied so there is need for flexibility
Specialist machinery may be underutilised
Labour costs tend to be high because production tends to be labour intensive.
This is because the workforce tends to be skilled and versatile and such
employees are will be more expensive.
There is a variety of goods produced subject to many specifications, which
leads to a wide range of tools, machines and equipment. This can prove to be
expensive. Also it may not be possible to achieve economies of scale because
only one ‘job’ is produced at a time.
Selling costs tend to be high especially if the product is highly complex and
technical. The sales team will have to be well qualified, able to cope with
questions and deal with problems concerning sales and installation. Some
firms employ agencies to help reduce their selling costs (for a fee)
Once product demand rises, job production may become too costly. There
might be need to use a better method to speed up production. However job
production might continue with individuality not use other efficient production
methods
Batch Production
This is producing a limited number of identical products. It is used when demand for
a firms’ product or service is regular than one off. Each item in the batch passes
through one stage of production before passing on to the next stage. The production
process involves a number of distinct. It can be used in making bread. Batch
production allows a firm to use division of labour. There is repetition of processes.
There is stock piling unlike job production. The production is not continuous. The
change over between batches means that resources are idle during the changeover
period. It is possible to vary each batch. The ingredients could be changed to
produce brown bread or white bread or the style of baking tin could be changed.
Products can be produced in very large or small batches, depending on the level of
demand. However larger batches lower unit costs. New technology is being
introduced to make batch production more efficient.
Disadvantages
Careful planning and coordination are needed as machines and workers may
be idle, waiting for a whole batch to finish its previous operation. There is
often a need to clean and adjust machinery before the next batch can be
produced. This can mean delays like in brewing companies, one day of the
week is used to clean equipment before the next batch begins
Some machinery may have to be more complex to compensate for the lower
skill levels required from the labour force. This can lead to higher costs
The workforce may be less motivated, since they have to repeat operations
on every single unit in the batch. In addition, they are unlikely to be involved
with production from start to finish.
If batches are small then unit costs will remain relatively high
Money will be tied up in work-in-progress, since an order cannot be
dispatched until the whole batch has been finished.
Flow production
It is capital intensive
It produces large quantities of products with consistent demand which can
be forecasted
The products are simplified and standardised
Semi-skilled workforce, specialising in one operation only
Large amounts of machinery and equipment
Large stocks of raw materials and components
They are able to take advantage of economies of scale
The labour is employed on a shift basis to maximise production output like
at National breweries or United Bottlers or Delta (Chibuku breweries)
Advantages
Unit costs are reduced as the firms gain from economies of scale
Labour costs are low since the process is highly mechanised
Constant rate of output should make the planning of inputs relatively simple
Quality tends to be consistent and high and it is easy to check the quality of
products at various points throughout the process
The need to stockpile finished goods is reduced as the production line can
respond to short term changes in demand
In many industries the process is automated. Production is controlled by
computers. Many of the operations are performed by robots and other types
of machinery. Once the production process is set up and running products
can flow off the end nonstop for lengthy periods of time. This can reduce the
need for labour, as only machines supervisors are needed.
Disadvantages
The set up costs are very high. An enormous investment in plant and
equipment is needed. Firms must therefore be confident that demand for the
product is sufficient over a period of time to make the investment pay
The product will be standardised. It is not possible to offer a wide range and
meet different customer’s needs. However, modern machinery is becoming
more flexible and is beginning to overcome this problem. This is due to mass
customisation of products e.g. a range of different cars can be produced on
the same production line like cars of the same model range with different
colour, engine size, trim and interior design.
Worker motivation can be a problem with a number of manual workers doing
repetitive and boring tasks. Factories with flow production lines tend to be
noisy. Each worker will be involved in a very small part of the job cycle. These
problems lead to low worker morale, labour turnover and absenteeism is high
Breakdowns can prove costly. The whole production system is
interdependent. If one part of the supply or production line fails the whole
system may break down.
Drawbacks
People are difficult to manage than machines. They have feelings and react
People can be unreliable. They may go sick or leave suddenly
People cannot work without breaks and holidays
People sometimes need to be motivated to improve performance
Scale of operation and productive efficiency
Productive efficiency occurs when the average cost per unit of output is at its
lowest.
Reasons why firms may not be productive efficient:
The firm may not be paying the cheapest price for the materials they buy in
The firm may be employing more workers than is necessary
The firm may be using outdated technology
The firm may be holding too much stock
It could have badly organised or inappropriate production methods
Inefficiency could be due to failing to manage human resources effectively as
the workers may be:
Demotivated and not be working as hard as they could
Not have received sufficient training
Apply for a job, but fail to get it despite being the best candidate because of
poor recruitment procedures
Suffer from weak leadership and be less productive
Be in a poorly organised business where the organisational structure is a
barrier rather than a help to efficient working
Be underemployed and have too little to do because of over recruitment due
to poor workforce planning
Be unable to do their jobs fully because poor workforce planning has led to
under recruitment of staff
Economies of scale
Purchasing and marketing economies. Large firms get better rates when
buying raw materials and components in bulk. Large businesses can find it
cost effective to acquire its own fleet of vans and Lorries for distribution
purposes. The administration costs do not increase in proportion to size of
sale
Technical economies of scale. Larger production plants are often more
efficient as the capital costs and running costs of plants do not rise in
proportion to their size e.g. the cost of a double Decker bus will not be twice
that of a single Decker as the main costs the engine and chassis do not
double. The increased size may mean doubling of output not costs. This
results in a fall in average costs. This is called the principle of increased
dimensions. Another technical economy is that of indivisibility. It assumes that
firms need a particular item of equipment but fail to make full use of it like
$400 paid for a lap top by a small business used twice by a part time
accounts clerk. The cost will be the same if it is bought by a large firm
which will make more use of it reducing average costs of the machine. As the
firm grows it may change from job to flow production thus improving
production efficiency.
Specialisation and managerial economies of scale. Large firms may employ
specialist managers. This improves efficiency and average costs fall. If
specialists are employed in small firms there would be indivisibility.
Financial economies of scale are enjoyed by large firms that have a wider
variety of sources of finance from which to choose. Sole traders cannot sell
shares to raise more capital. Also large firms borrowing large sums usually get
better interest rates than small firms.
Risk bearing economies. Large businesses can diversify to reduce risk.
Breweries have diversified to provide soft drinks (Delta)and food
External economies of scale
Diseconomies of scale
These arise if the business expands the scale of its operations beyond the minimum
efficient scale. Internal diseconomies of scale are caused by problems of managing
large businesses like:
They may occur due to overcrowding in Industrial areas. The price of land, labour,
services and materials might rise as firms compete for limited amount. Congestion
may lead to inefficiency as travelling workers and deliveries are delayed.
Production costs
A cost is the expenditure or outlay which represents an offer made in order to
obtain an economic benefit. The expenditure is necessary for and contributes
to the continuation of economic activities.
The cost implications of productions include:
Which products should we produce or discontinue to produce
Should we buy or hire/ lease the proposed equipment
Should the firm manufacture a product component or outsource it/ buy it
from outside
Should the firm change its manufacturing methods
Types of costs
Producer’s view
Direct costs are costs which can be clearly identified with a product and can
be allocated to a cost centre. Direct costs include direct materials, direct
labour.
Direct materials consists of primary material which form an integral part of
the end product e.g. for a desk the wood and metal form direct materials.
Quantity is proportional to the volume of production
Direct labour refers to the costs of all essential labour physically expended on
the manufacture of the product like wages
Indirect costs are costs that cannot be identified with a unit of a product or allocated
accurately to a cost centre. They are often referred to as overheads. Indirect costs
include indirect materials and labour. Indirect material is the secondary material
which does not form part of the end product and quantity is not directly proportional
to volume of production like machinery lubrication oil. Indirect labour refers to costs
of labour not expended on the manufacture of the product like wages of
maintenance personnel or supervisors
Economist view
Costs can vary with production increase, but in the short run costs may be classified
as:
Fixed costs (FC) are costs which remain fixed in the short run no matter what the
level of output like rent. They can be shown diagrammatically
Costs
Output
Average fixed costs are total fixed costs divided by the units produced. Fixed
costs per unit will decrease with production increases
1. Variable costs vary as output changes e.g. direct materials costs used in
making desks
Costs
Output
2. Semi variable costs include both fixed and variable costs e.g. the water
charge can include a fixed charge plus the cost per unit or sales person’s fixed
basic pay plus commission
3. Marginal costs are additional costs of producing one more unit of output,
and it will be the extra variable cost needed to make this extra unit.
Break even analysis (Cost volume profit analysis)
This is the study of the interrelationships between costs, volume and profit at
various levels of activity. Breakeven point is the level of output at which total costs
equal total revenue. Neither a profit nor a loss is made. Breakeven analysis is an
important tool in short term planning. Breakeven analysis can be undertaken in two
ways:
Worked example:
A company makes a single product with a selling price of $10 and a marginal cost of
$6. Fixed costs are $60 000 per annum. Calculate
Solution:
Margin of safety is the amount by which the sales level exceeds the breakeven
level of output.
If the current production level of production is 500 units and the B.E.P is 300 units.
M.O.S=500-300
= 200 units
=40%
At production levels below B.E.P the firm is making a loss, at levels above B.E.P the
business is making profits and a positive M.O.S is produced.
Total revenue
200 B.E.P
Variable costs
The above graph is prepared from the following information; selling price $1 per
litre, marginal costs $0, 5 per litre, fixed costs $100 000. Total capacity is 400 000
litres, expected production level is 350 000 litres.
Explanation
Fixed cost line is horizontal, showing that fixed costs are constant at all levels
of output
Sales revenue starts at the origin (0) because if no sales are made there can
be no revenue
The variable cost line starts at the origin (0) because if no goods are
produced, there will be no variable costs
Selling price per unit. An increase in selling price lowers BEP while a decrease
in selling price increases BEP.
Fixed costs. A reduction in fixed costs will reduce the BEP while an increase in
fixed costs raises BEP
Variable costs. A reduction in variable costs lowers the BEP while an increase
in fixed costs results in a rise in the BEP.
Total revenue line
(original)
TR2
TR1
The charts are easy to construct and interpret. The analysis provides useful
guidelines to management on B.E.P, safety margins and profit /loss levels at
different rates of output
Comparisons can be made between different options by constructing new
charts to show changed circumstances
B.E.P analysis can be used to assist managers when taking important
decisions, such as location, whether to buy new equipment
The equation provides a precise B.E.P result
Helps to establish a margin of safety, an indication of how much demand a
business can afford to lose before making a loss
It enables managers to see the effect of changes in selling price or variable
costs
Managers estimate the number of products a firm can make and sell to begin
to make a profit
However
The assumption that costs and revenue are always represented straight lines
is unrealistic. Not all costs variable costs change directly with output
Not all costs can be conveniently classified into fixed and variable.
Introduction of semi fixed costs makes the technique more complicated
There is no allowance made for inventory levels on the breakeven chart. It is
assumed that all units produced are sold. This is unlikely to always be the
case.
It is unlikely that fixed costs will remain unchanged at different output levels
up to maximum capacity
Costing
In calculating the cost of a product, both direct labour and materials should be easy
to identify and allocate or charge to each product. The costs can be allocated using
the following method.
1. Full absorption costing
2. Contribution costing
Important concepts
However
Managers and workers may consider their part of the business to be more
important than the whole organisation itself. There could be damaging
competition between profit centres for resources and a reluctance to share
valuable information leading the performance of the whole business suffering
Some costs (indirect) can be impossible to allocate to cost and profit centres
accurately and this can result in inaccurate overhead cost allocations
Reasons for good or bad performance of one particular profit centre may be
due to external factors not under its control such as state of economy,
competition or weather
Operating cost and profit centres may result in the business as a whole
wasting money. If all centres are responsible for performing the same tasks
there may be duplication of tasks wasting resources.
Some of the staff given responsibility of running a cost or revenue centre
may not have the skills to do so. This might create pressure and demotivate
staff.
Absorption costing
This is a method of costing in which all fixed costs and variable costs are allocated to
products or services. The total overheads incurred by the business and share or
‘apportion’ them on the basis of one or more methods of allocation. The methods
that can be used include:
Direct labour
$5
Direct material
$8
Variable production overheads
$2
Fixed production overheads
$5
Total production costs
$20
Given that selling and distribution costs are : fixed $120 000 per annum, variable
15% of sales value and budgeted normal output is 36 000units per annum. Selling
price $35.Production figures are given below
December (2008)
January (2009)
Production 2000
3200
Sales 1500
3000
In this case there is over absorption. The budgeted production is 36 000/12=3 000
units per month. The firm produced 3200. So fixed overheads are over absorbed by
(200*5=$1 000). This increases gross profit to $46 000.
The variable selling and fixed selling overheads are then deducted from Gross profit.
Contribution/Marginal costing
This is a costing method that allocates only direct costs to cost/profit centres not
overhead costs. The marginal cost of a product is its variable cost.
Contribution is the revenue gained from selling a product less its marginal cost.
This is not the same as profit.
The economist view of marginal cost is the additional cost incurred by the production
of one extra unit
The accountant’s view of marginal costs is the average variable cost which is
presumed to act in a linear fashion
Fixed overheads are treated as period costs and do not form production costs.
This is used if the firm has spare capacity, or if it is trying to enter a new market
segment. This is usually found in hotels at off peak hours, low rates can be used
arguing that it is better to earn contribution from additional guests than leave
rooms empty since fixed costs will have to be paid anyway. If contracts are
accepted below full unit cost, this can lead to an increase in the total profits of
the business.
However
Existing customers may learn of the lower prices being offered and demand
similar treatment. Thus if all goods and services are sold just above marginal
costs, then profit making becomes unlikely
When a high price is a key feature like skimming pricing policy to establish
and maintain brand image, then a lower than full unit cost is not good
It is not applicable where there is no excess capacity. The offer may lock up
spare capacity which could be used for future full price business
In some circumstances lower priced goods may be resold into the higher
priced market segment
There is need to find out whether fixed costs will not alter later
Example: X ltd approaches A ltd intending to purchase cement at $9 below its total
cost of manufacture of $10. The marginal cost of manufacture is $6. Should the firm
accept this X ltd would purchase 3500 units up from 3 000 units it sells monthly.
Solution:
Contribution=$9-$6=$3
Since the offer produces a contribution that will be used to cover fixed costs,
therefore it should be accepted. The increase in sales of 500 units benefits the
organisation
If a firm is producing more than one product, marginal costing shows managers
which product is making the greatest or least contribution to overheads and profit. If
full absorption is used a manager might be forced to drop a product that seem to be
making a loss, even though it might be making a positive contribution. This will
reduce overall profits e.g.
Product Contribution
Y 24 667
Z 22 333
Total 47 000
Less fixed 36 000
costs
Net profit 11 000
Therefore dropping product X with an apparent loss of $4 000 reduces total profits
by $8 000, which is the contribution of product X.
Example: A firm manufactures a component AB500 and the cost for the current
production level of 50 000 units are:
Materials $2,50
Labour $1,25
Variable $1,75
overheads
Fixed overheads $3,50
Total cost $900
Component AB500 could be bought at $7, 75 and the production capacity utilised
will be unused. Should it be bought or manufactured?
Solution:
Comparing the buying price $7, 75 and full cost price of $9, 00 suggests the
component should be bought in. However the correct comparison is between $7, 75
and marginal cost $5, 80. The cost of manufacturing is lower therefore there is a
variable cost saving so is should be manufactured. Fixed costs of $3, 50*50 000
=$175 000 would continue to be paid because the capacity would not be used and
the fixed costs will not be absorbed into production. If bought overall profits will fall
by ($7, 75-$5, 50)*50 000=$112 500
A limiting factor is a factor which puts a limit on the level of output of the
organisation like machine capacity, labour hours, and raw materials. When this
prevents the business from satisfying customer demand, the most profitable product
mix must be determined. To maximise profit produce those products that makes
best use of scarce resources.
Example: Chinhoyi hotel produces four products for which the following information
is available.
A B C D
Selling price per unit 70 100 85 55
Less variable costs per unit 48 60 55 34
Contribution per unit 22 40 30 21
Machine hours per unit 2 10 5 3
The estimated demand for the next month is 600 units of each product. However
due to essential maintenance work machine capacity in the month will be limited to
9000 hours. Determine the optimum product mix for the next month.
A B C D
Contribution per unit 22 40 30 21
Machine hours 2 10 5 3
Contribution per machine hour 11 4 6 7
Rank products 1 4 3 2
The ranking of products show the order in which they are going to be produced. The
optimum production plan will be as follows:
Disadvantages
Inventory Management
Stock management
Therefore the manager should know the costs of holding stocks and costs of
running out of stocks.
-Lost sales as the firm can’t supply customers ‘from stocks’ then firms holding
high stock levels will benefit. This might lead to future lost orders too as
customers tend to be loyal to consistent suppliers. In purchasing contracts,
there can be a penalty if delivery dates cannot be met on time. This leads to
loss of goodwill
-Idle production resources and time due production stoppages. This leaves
equipment lying idle as well as labour. The cost f lost production output and
wasted resources could be so high
-Special orders could be expensive due to urgent orders given to suppliers to
deliver additional stocks due to shortages. Extra administration costs of
ordering are incurred
-Overtime , rescheduling and related costs arising from the need to expedite
special orders
-Small order quantities leads to loss of bulk buying discounts and transport
costs will be higher as many deliveries will be made. Higher prices are usually
paid when ordering small quantities with unusually short deliveries to make
up for shortages of goods
Stock control
Economic order quantity is the ordering quantity that minimises the balance between
stock holding costs and reordering costs.EOQ is affected by:
Ordering costs
Stock holding costs
E.g A uses 500 units of SAE 40 each year. The cost of procuring each batch is $600
and holding cost of each unit is $300.
EOQ =(√2Co*D/h)
(√2*500*600/300)
√2000
44.7 units
Graphical Method
A company purchases a raw material from an outside supplier at a cost of $9 per
unit. The total annual demand for this product is 40 000 units and the following
additional information is available.
Order quantity 100 200 300 400 500 600 800 1000
Average stock/units 50 100 150 200 250 300 400 500
No of purchase 400 200 133 100 80 67 50 40
orders
Annual holding costs $50 $100 $150 $200 $250 $300 $400 $500
Annual ordering $800 $400 $266 $200 $160 $134 $100 $80
costs
Total relevant costs $850 $500 $416 $400 $410 $434 $500 $580
The order quantity of 400 results in the least costs of $400 so is the economic order
quantity.
900
800
700
600
200
100
0
100 200 300 400 500 600
The EOQ is found at the point where the holding costs equal the ordering costs
Just in time stock control
This is a series of manufacturing and supply chain technique that aim to minimise
inventory levels and improve customer service by manufacturing not only at the
exact time customers require but also in the exact quantities they need and at
competitive prices.
The concept attempts to avoid holding stocks by requiring supplies to arrive just
when they are needed in the production process and completed products are
produced to order. Inventory is reduced to an absolute minimum or eliminated
Aims of J.I.T
This involves the elimination of all activities performed that do not add value
commonly called WASTE. Examples of waste include:
A Just in time manufacturer looks for a single supplier who can provide high quality,
frequent and reliable deliveries rather than lowest price. In return the supplier can
expect more business under long term purchase orders, providing greater certainty
in forecasting activity levels.
Smaller frequent loads are required at shorter notice. The haulier (transporter) is
regarded as a partner to the manufacturer and there can be penalties for non
delivery. The reduction in inventory levels reduces holding costs but ordering costs
go up.
J.I.T is a pull rather than a push system of production and each process ‘pulls’ more
parts from the preceding process using a card signal (Kanban in Japanese). The
Kanban is a means by which a customer (succeeding operation) instructs a supplier
(preceding operation) to send more parts. Using two bins the empty bin is wheeled
out to the component production section with its Kanban order card. This triggers
production of the component to be completed J.I.T before the other bin runs out.
Advantages of J.I.T
Disadvantages
Maxm level
5000
4000
Reorder
2000
The chart is used to record stock levels, stock deliveries, buffer stocks and maximum
stock levels over time. The manager will be able to determine order size and
quantity as well as an analysis of what would happen if an unusual event occurs
1. Buffer stocks are the minimum stocks that should be held to ensure that
production could still take place should a delay in delivery occur or should
production rates increase. If the uncertainty of delivery/production is high
then buffer stocks are held. This reduces the costs of shutting down
2. Maximum stock level= Reorder level +EOQ-buffer stocks
3. Reorder quantity is the number of units ordered each time
4. Lead time is the normal time taken between ordering new stocks and the
delivery. The longer the time, the higher will be the stock level reordered.
It is a system of inventory control in which two bins are used. When one bin is used
up, it triggers the need to reorder additional stock. The stock in the other bin is
enough to be used until the other order is received. The order quantity is equal to
the amount in the bin
Quality management
Quality of design means that the products are suitable for the purpose to which
they will be put. The firm should establish customers’ requirements; these should be
met fully in the design and specifications of products
Quality of conformance is the extent to which the goods that are produced
conform to the specifications laid down. Therefore quality procedures are designed
to ensure that the design of products satisfies customers’ requirements and that
these are consistently of a high standard.
The task and quality are normally integrated and depend on the skills of people
doing the job and supervising the work. The person performing the task and
supervisors are responsible for quality.
Batch production
The work has been deskilled. There is a separate quality control and inspection.
Employees and their line managers are responsible for quantitative aspects of the
output. There is an emphasis on detection of defects rather than ‘getting it right first
time’
Flow production
Quality is determined by the process as it reintegrated into the task. Employees are
engaged in monitoring and therefore, quality and task are naturally integrated.
2. Concurrent control
This involves the monitoring of ongoing activities to ensure the consistency of the
quality of the product as it is progressing. It is ideally proactive in that it prevents
defective products being produced. Quality control check points are built into the
process
This is based on the assumption that perfect quality is unattainable and or too
expensive. This involves the trade off between costs of quality control and costs of
product failure.
The optimum point O does not mean zero defects, but the amount of quality control
that minimises the total cost of achieving consistent quality. In some production
methods like job it is possible to produce, inspect or test every item. However it is
not more common to use sampling methods because:
Control by attributes
Control by variables
This refers to measurable features like size, weight where normal distribution
applies.
This is looking for problems and is therefore negative in its culture. It can
cause resentment among workers, as inspectors believe that he has been
successful when he finds a fault. Workers may consider it satisfying to get a
faulty product passed by inspectors
There is an implied mistrust between employees and inspectors which is not
good for working relationships and motivation
The job of inspection can be tedious so inspectors become demotivated and
may not carry out their tasks efficiently
If checking takes place only at the specific points in the production process,
then faulty products may pass through several production stages before being
picked up. This could lead to a lot of time being spent finding the source of
fault between quality check points.
It takes away from workers the responsibility of quality. The workers will not
see quality as their responsibility and will not feel that it is part of their task to
ensure that it is maintained. This can be demanding and will result in lower
quality output.
Quality Assurance
This is the system of agreeing and meeting quality standards at each stage of
production to ensure customer satisfaction. It is a commitment by a business to
maintain quality throughout the organisation. It involves checking by workers
their own products against agreed quality standards. The aim is to stop problems
before they occur rather than finding them after they occur. It also takes into
account customers views obtained through market research.
The stages at which quality standards are agreed include: product design, quality
of inputs, production quality, Delivery systems and customer service including
after sales service.
It makes everyone responsible for quality, and this can be a form of job
enrichment
Self checking and making efforts to improve quality increase motivation
The system can be used to trace back quality problems to the stage in the
production process
It reduces the need for expensive final inspection and correction or
reworking of faulty products
Involving all staff can promote team work and a sense of belonging which
aids motivation
To set quality standards for all stages of production so that all materials and
production phases are checked before it is too late and whole products has
been completed
To reduce costs of final inspection as this should become less necessary as all
stages and sub sections of the process have been judged against quality
standards
To reduce total quality by installing in the whole organisation a culture of
quality. It can lead to reduced costs of wastage and faulty products
To gain accreditation for quality awards as it can give the business real status
like ISO 9000
ISO 9000 is an internationally recognised certificate that acknowledges the existence
of a quality procedure that meets certain conditions. The certificate does not prove
that every good produced or service provided by the business is of good quality. It
indicates that the business has a system of quality procedures in place. To obtain
the ISO 9000, the firm has to demonstrate that it has:
Merits of TQM
Benchmarking
It is a technique used by some businesses to help them discover the best methods
of production available and then adopt them. It involves management identifying the
best firms in the industry and then comparing the performance standards, including
quality of these businesses with those of their own business. The purpose is to
improve its performance and sustain competitive advantage. It involves:
Consistency of product
Correct invoicing
Shorter lead times and improved after sales service
Shorter delivery times
The business can also benchmark product service, core business processes, support
services, employee performance, and supplier performance
There is need to collect data and analyse this data to identify ‘performance gaps’
between market leaders and the organisation. This is done as follows.
Advantages of benchmarking
Disadvantages of benchmarking
Quality Circles
Advantages
It revolves around customer needs and helps give an appropriate focus to the
business
It brings about cost reduction which increases the organisation’s
competitiveness
It encourages a strategic view of operational processes
It overcomes the problem of short sightedness arising from concentration on
functional boundaries
It can result in the elimination of unnecessary activities
It encourages creativity and innovation in teams
Demerits
Work Study
This is a generic term for a series of analytical techniques used to determine the
most efficient use of labour in relation to the other inputs into the production
process. It was developed from the work of Taylor and Gilbreth in Scientific
management. Taylor argued that a systematic study of work operations would result
in the identification of the ‘best’, most efficient and most productive methods of
carrying out tasks.
Method Study
This is the systematic recording and evaluation of ways of doing work (both existing
and proposed) as a means of developing easier, more effective methods and thereby
reducing costs. It implies that there is a best method of performing a task. This can
be discovered by means of scientific approach. The basic steps of method study
include:
Work measurement
This is the application of techniques to establish the time for a qualified worker to
carry out a particular job. The purpose of measuring the time required to complete a
job is to provide information for production schedules, manpower planning
requirements, costing, incentives payments and monitoring of performance.
Business Finance
Finance managers have to make also an investment decision which focuses on how
to profitably use the funds raised.
Ordinary shares form a permanent source of capital since they are not
redeemable. (The company cannot buy back its ordinary shares).
Ordinary shareholders collectively own the company and stand last in line for
rewards on investment (dividends) and in the event of Liquidation. Liquidation is
winding up a business which can be voluntary or forced. This means that they
receive their dividends when the preference shareholders have and debt holders
have received their dividends and interest respectively.
If a business becomes insolvent that is unable to pay its dues to creditors, ordinary
shareholders have the last claim on whatever remains. If nothing remains they will
lose and if a greater part remains they will benefit thus they are high risk takers.
Ordinary shareholders carry a vote in the management of the business but however
their control may be limited .e.g. the payment of dividends is not guaranteed and
the amount depends on the financial performance.
The board of directors can declare the dividend and the general shareholders cannot
vote to increase the dividend.
The company is required to maintain a shareholder register which should show each
member’s interest in the business.
Preference shares
These are entitled to a fixed percentage dividend which is paid before any
distribution is [made to ordinary shareholders.
These shares can have their unpaid dividends carried forward and becomes payable
when the company makes sufficient distributable profits.
2 Non cumulative preference shares stand to lose their dividends in the year the
dividends are not declared and the arrears will not be carried forward.
Preference share dividends are only paid if the company makes sufficient
distributable profits.
3. Convertible preference shares are those that are issued as convertible and can be
converted to ordinary shares at a predetermined date and rate.
Offer for Sale- the Company issues shares to an issuing house or a merchant
bank that in turn offers them to the public at a higher price. The company has
to publish a prospectus giving details of its business and the capital to be
raised.
Public Issue- This is whereby shares are offered to the market directly by the
company rather than through an issuing house. A prospectus is used to
appeal to the public to purchase the shares. To avoid the risk of under
subscription the share issue is underwritten by a financial institution e.g. a
merchant bank like Merchant bank of central Africa (MBCA) .Underwriting is
the act of trying to guarantee the business the issue of shares that all shares
will be purchased so as to raise the required amount. The financial institution
agrees to purchase any shares or securities not taken up at the issue price.
The financial institution is called the underwriter. The underwriter charges a
fee payable whether or not they are called upon to take up the surplus
shares. The underwriter will then sale the surplus shares in the market at a
higher price later.
Placing- The shares are sold privately to clients of the issuing house that
handles the issue.
Sale by tender- The investing public is invited to submit bids with the shares
being sold to the highest bidder. The bid should state the number of shares
intended to be bought and the price.
Rights Issue-This is issuing shares to the existing shareholders at a discount
from the market price in proportion to their shareholding in order to raise
additional capital. It is an inexpensive way of raising funds since no
advertising and underwriting costs are incurred.
Bonus issue-Shares are issued to the shareholders on a prorata basis utilising
the retained earnings and reserves. It is a mere restructuring of the balance
sheet and it does raise additional capital. It is can be referred to as a ‘scrip
issue’ that is the conversion of reserves into capital. A scrip dividend is when
shareholders dividends are converted into shares instead of being paid out as
cash.
DEBT CAPITAL
These are long term interest paying debt known as loan stock or debentures.
Holders of debentures are creditors of the company.
There is legal commitment to pay interest on debt as well as to repay the
capital sum when it is due.
This increases the risk of insolvency as the creditors have power to force
liquidation if interest payments are not made, under the contractual
agreement.
To the company interest on loan is allowable against tax.
The existence of fixed interest charge in a business is called Gearing. With
debt capital interest payments are made irrespective of profitability.
However interest payments become difficult to make in times of high interest
rates.
Mortgage bonds
Is a long term loan secured by the mortgagee for the purchase of land and
buildings usually payable over 30 years.
The loan is usually secured over land and buildings.
The borrower makes the promise to repay the loan on a separate document
called the mortgage bond.
The borrowing party is called mortgagee while the lender is called the
mortgagor.
Mortgage bonds are available from building societies like CABS.
Mortgage loan allow lender to charge interest rates in relation to changes in
bank rates.
Bank rate is the interest rate which the central bank charges on specific
advances to commercial banks.
The central in Zimbabwe is the Reserve Bank.
If the borrower fails to meet the payment obligations of the bond a law suit
may result in the sale of mortgage security property to the highest bidder in
an auction and proceeds of sale are used to repay the lender.
Any sum left over will be paid back to borrower and if the amount is
insufficient further court action may be taken to recover the difference. The
mortgagee can apply for an increase in the loan.
Debenture
A debenture is a financial certificate that is issued by a company and pays a
specified rate of interest at specific intervals.
To safe guard the interests of debenture holders they can appoint a trustee.
The trustee will act on behalf of debenture holders to intercede if the terms of
the debenture trust deed or Articles of Association in relation to the
debentures were breached eg failure to pay the correct amount of interest
instalments or exceeding the prearranged borrowing limit.
Debentures can place a limit to the borrowing a company which must not be
exceeding. Merchant banks usually act as Trustees.
Debentures are not part of share capital or holders are not owners of the
company but are creditors of the company.
In case of non payment they can enforce liquidation of the company.
This is done by appointing a Receiver which deprives the shareholders control
over the company.
Debenture can be secured over specific a asset which does restrict utilisation
of asset, or an unsecured (naked) debenture there is no specific security set
aside repayments.
Interest on loan is tax deductible to the company. This reduces the tax
liability of the business and in turn the effective cost of the debentures.
Secured debentures form an attractive and safe investment to investors since
in times of high or low profits they receive their fixed interests’ payments.
Debentures form a temporary source of finance for the company and can be
repaid when the company’s financial position improves. However flexibility in
timing of repayment depends on terms and conditions agreed upon.
When the terms of agreement permits the firm can buy its own debentures in
the open market and either cancels them if the firm has surplus funds.
Debenture holders are not owners of the firm so do not interfere with the
running of the business as long as their interest payments are met.
Disadvantages of Debentures
Interest on loan is payable even though the firm makes a loss. This may
cause undue financial hardships on a firm that continuously makes losses.
A specific charge on fixed assets makes debentures attractive but however a
company may not have the fixed assets to offer as security.
If debentures are redeemable in the form of annual appropriations of the
company’s profits they may result in lower dividend for ordinary
shareholders.
In the event of the company failing to meet the terms of the issue, the
debenture holders can enforce liquidation of the firm.
With some assets securing the debentures a company may be restricted from
using the asset.
The firm can be restricted from taking out further loans before the existing
one is repaid.
Is a class of stock that is issued as fixed interest loan initially but there is an
option to convert the loan into equity shares at a specific rate and time. The
conversion rate price often increases overtime with increased expectations as to
the share prices and returns from shares. The investor will gain a stake in the
company while maintaining the status of being a creditor and the security of
fixed interest. The company benefits by securing funds at fixed interest rates
lower than the payable on non convertible stock and a tax relief on interest.
The market value of the stock cannot fall below that for similar ordinary
stock of same coupon rate.
Increase of share price will cause the value of conversion to rise because
this is the amount the investor will receive.
Stock holders will be paid before shareholders in the event of liquidation.
Differences between debt and Equity capital ( ordinary shares)
Contributory capital i.e. capital Loan capital i.e. money borrowed from
contributed by shareholders. financial institutions and individual
Shareholders are owners of the investors
company Debenture holders are creditors to the
Earn dividends company
Dividends may fluctuate (for Earn interest
ordinary shares) Interest is at a fixed rate
Dividends are paid only when Interest is paid whether or not profits
profits are made are made
Are not attached to or secured Are mortgaged against company assets
against company assets Interest is paid before dividends on
Dividends are paid after interest shares are paid
on loan has been paid A secure form of investing or loan
A risky form of investment or Can be naked or mortgaged
capital Debenture holders can force a company
Can be ordinary or preference into liquidation(if interest is not paid)
shares Debenture holders are paid first before
Shareholders cannot force a shares of liquidation of a company
company (if dividends are not Debenture holders have no voting rights
paid) at annual general meetings
Shareholders are paid after Are redeemable
debentures on liquidation of a The interest on loan can be paid out of
company capital to avoid the risk of insolvency
Ordinary shareholders have There is a legal requirement to pay the
voting rights at annual general interest on loan
meetings
Are irredeemable
Dividends cannot be paid out of
capital
There is no legal requirement
even though there is need to keep
shareholders happy
Leasing
Operating lease
This includes short term rentals appropriate for office equipment, contract
hire agreement for the provision of vehicles.
These do not have to be reported on the face of the balance sheet. It does
not cover the economic life of the asset.
At the end of the contract the asset is leased to someone else.
It is useful in the case of high technology products which can quickly become
obsolete, the risk bearing being borne by the lessor.
Servicing and maintenance is the lessor’s responsibility.
The lessor is able to make profit from leasing the equipment and get tax relief
on the purchase of the asset.
To the lessee it is cheaper and easier than taking out a bank loan to buy an
asset.
Finance Lease.
These are leases in which the lessor will expect to recoup the whole or most
of the historical cost of performing the contract during the initial period of
rental, referred to as the basic lease period.
The lease period is for the greater part of the asset’s economic useful life. At
the end of the lease period the asset is either further leased or sold by the
lessor or lessee.
Finance leases are reported on the face of the balance sheet.
It gives the lessee the rights and obligations of ownership and is a form of
borrowing that increases capital gearing Lease rentals are generally
deductible for tax purposes in the hands of the lessee. Also servicing and
maintenance is the lessee’s responsibility.
Advantages of Leasing
Disadvantages of Leasing
All lease rental payments are outflows. They reduce liquidity of the business.
The payment is greater in the long run.
Lease might place limitations on the use of an asset or compel the use of
complementary goods.
Advantages
Disadvantages
Hire Purchase
1. There is no need for the buyer to save the full amount for the goods
2. Buyer can use the goods whilst paying for them
3. Profits generated from using the product can be used to pay for them e.g.
a sewing machine or a Delivery van
4. The firm can buy expensive goods e.g. Delivery van and machinery
5. Goods are under guarantee during the HP period
6. The payments are spread over a long time
7. The buyer enjoys an improved standard of living
8. The buyer is afforded legal protection during the HP period
Disadvantages
Disadvantages
Bank Overdraft
Trade Credit
Debt factoring
Disadvantages
Small firms find it difficult to find a factoring agent as they are considered
riskier.
Sometimes factors are reluctant to take on clients with seasonal trading
patterns.
The use of a factor can adversely affect the image of the client, as the public
can think it is doing so because of financial problems and hence confidence in
it is lost.
Invoice Discounting
Working capital is the capital available for conducting the day to day
operations of the business, normally the excess of current assets over current
liabilities.
This is done to minimise the risk of insolvency while maximising the return
on assets.
A firm must have sufficient working capital to allow it to operate smoothly and
have sufficient funds to pay its bills as they fall due.
The availability of cash and cash equivalents to pay its short term debts is
called Liquidity.
If the firm has insufficient cash resources to meet its payment obligations it
may be forced into liquidation by its unpaid creditors, even if its profitable
liquidation is when a firm cease trading and its assets are sold for cash to pay
its creditors.
If a shortage of cash is anticipated the firm should arrange for possibly an
overdraft to overcome liquidation.
If there is a short term cash surplus it should be invested in short term
marketable securities.
A firm should not over provide for working capital as this leads to: Excess stocks
o Excess debtors
o Excess cash lying idle in the bank or at hand.
The situation where the firm over provides for working capital is called
Overcapitalisation. There is an opportunity cost of capital tied up in stocks, debtors
and idle cash. This cash could be invested profitably and earn a return for the
business.
The key pressure points on working capital cycle are creditors, stock and debtors.
2010 2011
2010 2011
Comments
Debtor days –This is the credit period given to the debtors. In general a shorter
credit period is preferable. This makes the firm receive cash earlier and improve its
liquidity position. This also reduces the risk of bad debts. In 2010 it was 35 days
shorter 46 in 2011.Shorter credit periods may force customers to deal with firms
offering longer credit periods. The business can encourage prompt payment by
offering discounts .This improves liquidity but reduces profitability. In 2011 it could
have been increased in attempt to increase sales. Increases in sales can increase
profitability but put the business at the risk of bad debts.
Creditor days –This is the debt period given to the business by its suppliers.
Generally a longer period is preferable .In 2011 the period increased to 59 days. This
enables the business to use the cash reasonably. This can lead to loss of discounts
for prompt payments. Also it may lead to the suppliers charging interest on overdue
amounts which an expense to the business. The supplier can place restriction such
as cash only to the business or refuse to offer credit.
Factors affecting the Length of Working capital cycle
An unprofitable business can survive if they have liquidity whilst a profitable business
can fail if it runs out of cash to pay their liabilities. Profitability and liquidity issues
are affected by the following aspects.
Credit sales-The business can extend trade credit so as to increase sales. Increase in
sales also increases profits. Trade credit is a way of financing a customer using its
cash resources. This reduces the cash available in the business.
Capital expenditure-The cash outlay to acquire fixed assets reduces the cash in the
business. The expenditure is not treated as an expense in the income statement so
it does not affect the profits generated by the business.
Depreciation-This represents part of the cost of the asset consumed during the year.
It does not involve an outlay of cash thus it is a non cash item. It is provided for and
deducted from Gross Profit as an expense in line with the prudence concept in the
Income Statement. This reduces the profits of the business without an effect on
cash.
Accruals-Arise from services offered but not paid for in accounting period under
consideration. The unpaid amount is treated as an expense in the Income
statement. This treatment is in line with the Matching Concept. It reduces the profits
of the business without affecting the cash position of the business. Prepayments are
payments made in advance for services not yet rendered. The amount prepaid is not
included in determination of profits in the income statement so it reduces cash
position without affecting the profitability.
A good credit control system will establish an optimum length of the working capital.
This involves managing debtors and creditors effectively.
3. Industry norms
Retail supermarkets have few credit customers and high inventory turnover. They
can negotiate longer credit period from suppliers. The construction industry will
normally have longer working capital cycle.
Sources of Liquidity
Cash at bank
Short term investments that can easily be converted to cash
Cash inflows from normal trading operations
Overdraft facility
It measures the ability to cover current liabilities using current assets. The standard
is 2:1 or 2 times. If it is below this say 1:1 it means current liabilities cannot be
covered with current liabilities. This causes the risk of insolvency. If it is above 2:1 it
means the business has excess cash tied up in either stocks or debtors or just lying
idle in the bank. There is an opportunity cost of the cash tied up.
Stocks are the most difficult assets to convert to cash. To give an accurate measure
of liquidity the stock is deducted from current assets. The standard is 1:1.A
Company with a poor acid test ratio should have a standby overdraft facility to
ensure they meet the short term needs to service payments of current liabilities.
Overtrading
Symptoms of Overtrading
Faster debt collection (pressing debtors too much causes the firm to lose
customers)
More efficient stock control e.g. using Just in time
Slower payment to the creditors but there are penalties like interest on
overdue amounts
Increase bank financing
Slow down rate of stock turnover growth by allowing WIP to be finished
and sold thus reducing the amount of working capital needed.
1 Bank overdraft
The business can have a flexible loan and draw as much as possible up to the
agreed limit. However the interest rates may be high and the overdrafts can be
withdrawn by the bank causing insolvency.
3. Sale of excess or idle assets-cash will be generated by selling the redundant asset
but selling them quickly can result in low prices and the asset may be needed at a
later date.
4. Sale and Lease back-This is the Sale of a business asset to finance the company
and leased back to the firm again. However, leasing costs add to the annual
overhead costs. There can be loss of potential if the asset rises in the price and the
asset could have been used as collateral security.
5 .Reduce credit terms to customers-this brings cash flows forward. The firm can
accelerate inflows from customers but however customers may prefer to purchase
from firms that offer them credit terms.
6 .Debt Factoring-A finance house can buy a customer’s bill from the business and
offer immediate payment reducing the risk of bad debts. However only about 80%
of the debts will be paid by the Factoring Company and this reduces profits of the
firm.
Delay payments to suppliers- Cash outflows will fall in the short term but
however, suppliers may reduce any discounts offered with the purchase.
Suppliers can either demand cash on delivery or refuse to supply at all if they
believe that the risk of not being paid is high.
Delay spending on capital equipment-However efficiency may fall if outdated
and inefficient equipment is not replaced which will make expansion difficult.
Cut overhead spending that does not directly affect output.eg promotion.
However future demand for the product may be reduced by failing to promote
the product effectively.
Delay tax payment but there is an interest cost added
Reduce the level of dividend paid out.
Leasing as it does not require huge cash outflow
Debtors are customers who buy on credit. They can be managed by:
Creditors –These are suppliers who agreed to supply goods on credit and have not
yet been paid. They can be managed by:
1. Increase the range of goods and services bought on credit from different
suppliers. This may be easy if a business has a good credit rating. However
an unpaid creditor may refuse to supply and this causes production
bottlenecks and discounts may be lost.
2. Extend the time period taken to pay creditors. The larger the business is the
easier it is to extend the credit taken. This improves the firm’s working
capital.
Inventories
Cash –This represents the residual value in working capital analysis. Cash out
flows deplete Cash reserves and result in the need for overdrafts. Cash shortages
can be solved by a reduction in debtors, stocks or an increase in creditors. Cash
inflows increase cash reserves. The cash position of the organisation should be
monitored. This ensures that cash shortages do not act as constraints to the
business.
1. If the organisation has excess cash it can use it for:
i. Early payment to creditors in order to claim discounts
ii. Deposited or invested in short term interest bearing securities.
iii. Used to buy marketable securities like shares.
iv. It can be lend profitably to other businesses
v. Used to make forward purchases of raw materials of prices are
expected to go up
Inventory
Debtors (receivables)
Cash
Inventory
Debtors
Cash
This is a market where individuals and institutions seeking finance and those with
finance can meet. This is where stocks and securities can be traded. It is a market
for buying and selling shares and bonds and other second hand securities.
The Primary market which is concerned with new share issues or shares being
issued for the first time
Secondary market which is concerned with the trading of shares and securities
already in use
Capital markets can provide forex loans, consultancy services and underwriting of
share issues.
The Money Market
A segment of the financial market in which financial instruments with high liquidity
and very short term maturities are traded, It is used as a means of borrowing and
lending in the short term.
Money markets is distinguished from the capital market on the basis of the maturity
period, credit instruments and the institutions
Maturity period –Money market deals in the lending and borrowing of short term
securities while capital market deals with long term financial securities.
Nature of credit instruments- The credit instruments dealt with in the capital
market are more heterogeneous than those used in the money market. Too much
diversity creates problems for investors.
Credit instruments-The main credit instrument used in the money market are
collateral loans, acceptances, bills of exchange. On the other hand instruments used
are stocks, shares, debentures, bonds, securities of government.
Purpose of funds-Money market meets the short term credit needs of the
business, it provides working capital to the industrialist, while on the other side it
provides long term credit needs of the industrialist and provides fixed capital to buy
land and machinery.
Risk-The degree of risk is small in the money market. The risk is greater in the
capital market. Maturity period of less than 1 year gives less risk of default.
Basic role-The basic role of the money market is that of liquidity adjustments while
in the capital market it is to provide long term finance, secure investment capital.
Relation with central bank-The money market is closely and directly linked with
the reserve bank of the country. The capital market feels the central banks’ influence
but mainly indirectly and through the money market.
Investment Appraisal
It is an evaluation or assessment of the economic viability of a project determining
which project to choose.
Assessment of the level of expected returns earned for the level of expenditure
made.
When a capital project is evaluated, the costs and benefits of the project should be
evaluated over its foreseeable life usually the expected useful life. A typical project
involves an immediate purchase of a non current asset. The asset will be used for a
number of years where it is used to increase sales revenue or achieve savings in
operating costs. There will also be running costs for the asset. The asset may have a
residual value.
Payback Period
This is the period of time a project will take to pay back the money spent on it. It
is based on cash flows and provides a measure of liquidity.
The decision rule is to take projects which pay back within a specified time.
Choose a project with the fastest pay back.
To calculate the payback period in years and months multiply the decimal by 12
e.g. an expenditure of $1,8million with annual cash inflows of $350000
The payback is calculated by working out the cumulative cash flow over the life
of the project .e.g. a project is expected to have the following cash flows:
Capital outlay $1900 000. The outflows are, year 1 (300 000), year 2 (500 000),
year 3 (600 000), year 4 (800 000), year 5 (500 000).calculate the payback
period.
Solution
3 years 8months
Each year’s cumulative figure is simply the cumulative figure at the start of the
year plus the figure for the current year. The cumulative cash flows change from
negative to positive in the fourth year. This shows all the capital has been repaid
.It is assumed that cash flows arise throughout the year uniformly. However
assuming that cash flows arise at the end of the year the payback will be 4 years.
Disadvantages
Total Project returns may be ignored i.e. those cash flows arising after the
payback periods are totally ignored.
Time value of money is ignored
It is subjective-No objective measure of the length of time should be set as
minimum
Project profitability is ignored.
Accounting Rate of Return
NB scrap value and useful life can be used to calculate annual depreciation
Advantages
It is simple to understand
It links with other accounting measures
It uses all cash flows
It focuses on profitability
Disadvantages
Involves discounting all the relevant cash flows associated with the project back to
their present value
All cash outflows are treated as negative and inflows are treated as positive.
The NPV represents the surplus funds earned on the project therefore if net present
value is positive the project is financially viable. If NPV is zero the project breaks
even. The decision rule is to choose a project with a positive net present value.
Assumptions used
All cash flows occur at the start of the year or the end of the year.
Initial investments occur at Year zero and other cash flows begin at year 1.
Year cash
flows
0 (25 000)
1 6000
2 10 000
3 8000
4 7000
The cost of capital is 6%.calculate the NPV.
Solution
Advantages
Disadvantages
The decision rule is to accept projects if the IRR is greater than the cost of
capital
Calculate the NPVs for the project at two different costs of capital
IRR=L+ (NL*(H-L))/Nl-NH
A potential project’s cash flows give net present values of $50 000 at a discount
rate of 10% and ($10 000) at a rate of 15%.calculate the IRR
10% +4,166
14,166%
Solution
Advantages of IRR
Disadvantages of IRR
Business Managers
Banks
Creditors
To see if the business is secure and liquid enough to pay of its debts
To assess whether the business is a good credit risk
To decide to press for early repayment of outstanding debts
Customers
Government
Investors (shareholders)
Local community
To see if the business is profitable and likely to expand which could be good
for the local economy
To determine whether the business is making losses and whether this could
lead to closure.
Importance of Financial (accounting) Information
Accounting records confirm details of the transactions that took place.
They provide management with information on performance in terms of
profitability and liquidity
They enable evaluation of business in terms of liquidity and profitability
They provide information for owners of the business, investors and
government.
However
Accounts are affected by problems of incompetency which leads to wrong
information for decision making.(Errors in financial records prepared by
incompetent leads to wrong profit figures)
It is prone to window dressing; the act of presenting the company
accounts in a favourable light, to flatter business performance. This can be
done for the following reasons
(i)to influence the bank to lend more money to the business.
(ii) To reduce the tax payable by lowering the net profit.
(iii)To reduce the dividend payable
(iv) to encourage prospective investors to purchase more shares in the
business
(v)Managers might want to attract praise and financial rewards for good
performance (performance related rewards)
(vi) If the owners want to sell it the better the financial position the higher
the price they are likely to get form the disposal.
Selling assets such as buildings at the end of the financial year to give the
business more cash and improve liquidity position these assets could then be
leased back by the business
Reducing the amount of depreciation of fixed assets such as machines and
vehicles in order to increase declared profit and increase asset values
Ignoring the fact that some customers who have not paid for the goods
delivered may ‘never pay’, they are called bad debts. This is deliberate failure
to apply the prudence concept
Giving stock levels a higher value than they are probably worth
Delaying payment of bills or incurring expenses until after the accounts have
been published.
Manipulating sales revenue in the profit and loss account e.g. realising sales
revenue when an agreement of sale has been signed.
Changing asset values by way of revaluations e.g. land and buildings
Writing off research and development costs immediately rather than
capitalising them or writing them over a long time .This reduces current year
profits significantly.
Writing off costs from closure of factories and goodwill from acquisition of a
company at once in the same year so that profits will be better since there
will be no more depreciation of goodwill in future years.
Accounting ratio analysis
Profitability ratios
Return on capital employed= (Net profit before and tax/capital employed) *100
Capital employed=equity +long term loans or Net assets. If ROCE is lower than
interest rates in the market, it indicates that the business would have prospered
by depositing the amount in the bank. The figure is before tax and interest so as
to enable comparison of company’s performance year by year in a situation
where the rates of tax and interest change. This also enables it to compare
performance when the company has loan capital and when it has equity only.
Liquidity ratios
These include current ratio, quick ratio and rate of stock turnover.
It is the time that elapses before stock is sold. It is important for the following
reasons:
The more quickly the stock is sold the sooner the profit is realised and the
more times the profit is earned in the financial year. A slow stock turnover
rate may indicate that excessive stocks are held and the risk of obsolete
stock increases.
It may increase the stock holding costs and administration costs and
insurance.
Large quantities of slow moving stocks mean that capital or cash is tied up
in stock and not earning revenue. However different industries have
different stock turnover rates.
Investment ratios
Gearing is the fixed cost capital expressed as a percentage of the total capital.
Fixed cost capital is the money that finances the company in return for a fixes
return. It includes debentures and preference share capital.
Gearing ratio=Debentures +Preference share capital/ordinary share
cap+debentures+pref shares +Reserves.
A company is said to be highly geared if it is more than 50% and lowly geared
if it is below 50%.Gearing involves risks. The risk arises if the profits fall and
interest rates are high. The firm may fail to make interest payments leading
forced liquidation. Also if more profits are used to pay interests, then less will
be left for dividend payments. Lenders of the company such as banks maybe
concerned if it is geared. This may indicate that the proportion of profits used
to pay interest and fixed dividends is great. A highly geared company is solely
dependent on loans, showing that shareholders are unwilling to invest more of
their own money in the company. This shows less confidence in the company’s
future and performance. Also more assets will be pledged reducing control
over them.
Advantages of gearing
Interest cover
The ratio measures the number of times the profit generated covers loan interest.
Lenders are concerned about the ratio and need assurance that profit before interest
and tax covers interest payments several times. Shareholders are also concerned as
a good interest cover enables dividend payment as it is paid after interest payment.
A ratio of 1 is unsafe and is bad news for the shareholders.
Earnings refer to the profit left for the ordinary shareholders after interest, tax and
preference dividends have been met. Ordinary dividends are paid out of earnings.
Undistributed earnings increase reserves and the balance sheet values of shares.
An increase in EPS can allow an increased dividend to be paid and a small increase
in retained profit added to reserves.
Price Earnings ratio
It shows the number of times the price paid per share on the market exceeds the
EPS.
It is a measure of the confidence in the ability of the firm to maintain its earnings in
future. It is an important ratio for investors as it gives a quick and easily
understandable indicator of the market assessment of a company’s prospects.
It measures the dividend paid out against market value of shares. A higher ratio may
attract potential shareholders. However dividend yield could be high due to the fall
in share prices. Dividends may be paid out of reserves even in times of low
profits/loss.
Fixed Asset turnover =Sales/fixed assets. It measures how the assets acquired are
used to generate sales revenue. An increase in shows efficient utilisation of the
assets
The debtors and stock levels are determined by the level of sales. Increases in sales
are usually accompanied by higher stock levels and debtors.
Usefulness of ratios
Double entry principle For every transaction there is a debit and credit entry. The
transaction is looked at from two angles, so there are two sides to a transaction, the
receiving and giving side.
Realisation concept
Sales revenue and profits should be recorded in the accounts, when they have been
invoiced, and legal ownership has been transferred to debtors. This is when goods
have been provided to the customer. The customer is now legally bound to pay for
the goods unless they can be proven to be faulty.
The firm should match revenues and costs incurred in the same accounting period.
This leads to accruals and prepayments. Accruals arise when services have been
supplied to the business but have not been paid for at the time the accounts are
drawn up e.g. unpaid electricity bill at end of the year. This is added up to the total
for electricity expense in the Income Statement to determine profits .The amount
owing is treated as a current liability in the balance sheet.
Only items and transactions that can be measured in monetary terms are recorded
in the business accounts .Items such as experience of management cannot be
recorded in the books of accounts.
It states that accounts should be provided for and record losses as soon as they are
anticipated. Profits should not be recorded until they have been realised, that is until
it is certain that goods and services have been sold at a profit.
Capital expenditure is made when a firm spends money either to buy fixed assets
or add to the value of an existing asset. This includes:
These costs elements form part of the cost of an asset and are debited to the asset
account and credited to the bank
Revenue expenditure is meant for the day to day running of the business e.g. fuel
for motor vehicles, repairs to assets
It is a financial statement which records the revenue, costs and profits or losses of a
business over a given period. It shows the gross profit and the net profit.
Gross profit is pure profit from trading activities before deducting expenses. It is
obtained by deducting cost of sales from sales.
Net profit is the profit obtained after deducting operating expenses from gross profit.
The income statement shows how the net profit is split up or appropriated between
dividends (the share of profits paid to shareholders as a return on investment) and
retained profits.
The I.S. can be used to measure and compare the performance of a business over
time or with other firms. Ratios can be used to help with this form of analysis.
The actual profit data can be compared with the expected profit levels of the
business.
Bankers and creditors of the business will need the information to help decide
whether to lend money to the business based on profitability and gearing.
Prospective investors may assess the value of putting money into a business from
the level of profits being made.
Fixed Assets
Intangible assets are those assets which do not have a physical form or substance
but are of income earning value to the business e.g. patents, copyrights, brands,
goodwill and investments.
Shareholders equity is the total value of assets less total value of liabilities. It comes
from capital invested and retained profit of the business.
Share capital which is the total value capital raised from shareholders by the issue of
shares.
A balance sheet shows the net worth of the business. This refers to the level of
capitalisation, the actual amount of capital that belongs to the firm.Net worth is
important because it gives investors or creditors an opportunity to assess the
leverage (gearing),liquidity and credit worthiness of the firm.
Goodwill is the value of the business less the value of the net assets.
IAS7 states that a statement of cash flows should report cash flows during the
reporting period classified on the basis of operating, investing and financing
activities.
The standard does not recognise return on investment and return on servicing of
finance. Cash flows from operating activities are those which are primarily derived
from an entity’s primary revenue generating activities. These include:
Cash flows from investing activities are those which show the extent to which
expenditures are made for resources intended to generate future revenue. These
include.
Cash flows from financing activities are those which are based on transactions
between the firm and its capital providers. These include cash flows from issue of
shares, debentures and long term loans or their redemption.
The cash flow statement can be prepared using the following two methods
1 Direct method
2 Indirect methods.
Using the indirect method the following should be taken note of:
Net profit before interest and tax is used and adjusted for non cash items that are
charged in the income statement. The non cash items do not involve movement of
cash e.g. bad debts, depreciation, loss/profit on disposal e.t.c. Also adjustments are
done to working capital items that are stock, debtors, creditors, accruals and
prepayments.
An increase in stock might mean more money was used to purchase more stock and
thus it is cash outflow and vice versa.
A decrease in debtors might mean more cash was received when our debtors paid,
this is an inflow.
Interest xxxxxx
Direct Method
Sales xxxxxx
Xxxxxx
Stock valuation
Stock valuation is necessary for the pricing of materials issued from stores and for
the final accounts for the business. This figure affects cost of sales. This eventually
affects the profits generated by the business. The prudence concept states that
stocks should not be overvalued; they should be valued at the lower of cost or net
realisable value.
It is based on the assumption that materials are used in the order they were bought.
The oldest stock is issued out first and the price paid for the first batch of materials
is used for all issues until the first batch is used up. Thereafter the issues price paid
for the next batch is used until depleted.
Closing stock is valued in terms of more recent purchase prices. This produces a
higher figure of closing stock and therefore a lower cost of sales figure. This in turn
produces a higher figure for gross profit.
It is acceptable for Inland Revenue for tax purposes as costs are close to those
actually incurred and the value of closing stock is close to current market values.
However if FIFO is used for costing purposes it has the disadvantage that it lags
behind the current prices. There will be a delay before the prices paid for materials
will be passed on to production.
Advantages
It is realistic
Based on the assumption that issues are made in order of goods received
Based on prices paid
Closing stock based on recent prices
Acceptable under companies act for tax
Demerits
Identical items will be priced differently because they are deemed to be from
different batches.
It value stock at latest prices which in inflationary times lower cost of sales
and overstates profits.
This is based on the assumption that issues are drawn from the last batch. When
that has been used up, the price of previous batch is used. Production is charged
with price of the costs that are close to current market prices but closing stock is
valued at a price for the oldest existing stocks. This understates the value of
closing stocks and thereby reduces both cost of sales and gross profit. Thus LIFO
understates profitability of the business therefore it is not acceptable to Inland
Revenue for tax purposes
Advantages
Disadvantages
Advantages
Prices averaged out, thus recognising that all items should be included in
the calculations.
Variations in prices are minimised
Has the effect of smoothing out costs of production and cost of sales.
Profits of different periods can be realistically compared
Acceptable under SSAP and companies act.
Disadvantages
Depreciation
This is part of the cost of a fixed asset that is consumed during the period it is used
by the firm. Firms depreciate assets to spread the cost of the asset over its useful
life rather than full amount in the year of purchase in line with the matching
concept. It is a fairer way of treating fixed assets and helps to avoid overstating
profit or fixed assets in line with the prudence concept.
Causes of depreciation
Expenditure on the purchase of fixed asset is capital expenditure and is not debited
to the profit and loss. However, the cost of using the fixed asset to earn revenue
must be charged in the profit and loss account. This cost is depreciation.
Methods
Total depreciation is spread evenly over the number of years of its expected life. A
fixed amount is deducted per year from the value of the asset and charged to the
Income statement as an expense. The annual profits are uniformly affected by this
method. It therefore facilitates comparisons of the profits over time.
E.g a machine of $20 000 cost is expected to have useful life of five years, at the
end of which time is expected to be sold for $5000.The depreciation charged each
year is:
Depreciation=$20 000-$5000/5
=$3 000.
The ledger entries are a debit in the Income statement and a credit in the provision
for depreciation. The other option uses a fixed percentage of cost e.g 10% on cost
which gives $2000 every year.
This method of depreciation should be used for asset that is expected to earn
revenue evenly over their useful working lives. It is used when the pattern of
earning power is uncertain. It should be used to amortise the cost of assets with
fixed lives such as leases.
However cars, trucks and computers tend to depreciate much more quickly in the
first and second years than in the later years. This is not reflected by this method.
Also repairs and maintenance costs of an asset usually increase with age and this
will reduce the profitability of an asset. This is not adjusted by fixed depreciation
charges.
E.g. a machine of $20 000 is expected to have a useful life of five years. The
estimated residual value is 5000.Depreciation is calculated at 25% per annum on
reducing balance method.
The method should be used when it is considered that an asset’s earning power will
diminish as the asset gets older.
The reduction in the charge for depreciation compensate for the increases in the
cost of maintaining and repairing asset as they get older.
The consistency concept states that the chosen method of depreciating an asset
should be used consistently to ensure that the profit or loss of different accounting
periods can be compared on a like for like basis. The depreciation method causes
fluctuations in the net profit figures since a higher depreciation figure is charged in
the earlier years. Comparisons over time and with other firms become difficult.
Budgetary control is a control technique whereby budgeted and actual data are
compared one after the other and the managers accountable for any differences
take the necessary control actions or revise the budget.
Functions of budgeting
HOWEVER
Types of budgets
Fixed budgets are prepared on the basis of a given level of activity which may be
expressed in terms of output expenditure and/or sales. Fixed budgets may change
as revisions are made to reflect changing circumstances. They are reasonably easy
to prepare when the level of activity is known or can be predicted with some
confidence. In the public services the level of resourcing often determines the level
of activity and may be established in advance of the financial year.
Flexible budgets identify those variable or semi variable costs and recognise that
costs behave in different ways. Some costs are fixed over time but others may vary.
They can be prepared on a marginal or absorption costs basis - if the former is used
then fixed costs per unit will be fixed in advance. If absorption costing is used then
fixed costs will have to reflect the actual fixed cost absorbed at the level of activity
achieved. This model has applications in the manufacturing, service and public
sectors, e.g.
in the manufacturing sector plant and equipment costs account for a large
proportion of total costs and tend to be fixed;
Labour costs in public sector organisations are often fixed as they are part of
a permanent payroll. The only variable elements may be as a result of
overtime
Incremental budget
This involves using the previous year’s budget, adjusted for known factors (such as
new legislative requirements, additional resources, service developments, and
anticipated price inflation and pay awards). This means that existing operations and
the current budgeted allowance for existing activities are taken as the starting point
for preparing the next annual budget. It is relatively straightforward and is of most
relevance in services where there is little year-on-year change in service activity. It is
called incremental budgeting since the process is mainly concerned with the
increment in operations or expenditure that will be incurred during the next budget
period.
A key characteristic of this approach is that budget preparation takes place through
a process of negotiation and compromise. Incremental budgeting is therefore based
on a fundamentally different view of decision making than that of more rational
approaches.
a reliance on the current year budget to create the next year’s one;
concentration on multi scale incremental changes in policy from one year to
the next;
Negotiation and compromise between interest groups to achieve an
acceptable budget.
The actual process itself is relatively straightforward. As the next year’s budget
depends on the current one then time is a major factor. Since implementation
specifically precludes the setting of outputs or objectives there is an emphasis on
inputs instead. The key stages are:
It presumes that budgets can be recompiled from first principles i.e. from a
zero base and focuses on programmes and activities rather than departments
or units.
The preparation of operating budgets from a zero base even though the
organisation might be operating more or less as in previous years the
budgetary process assumes that it is starting anew’.
The process is usually applied to new services which, genuinely, are being
built up from a zero base.
The budget holders should present their requirements for resources in such a
fashion that all funds can be allocated on the basis of cost benefit or similar
evaluative analyses.
The cost benefit approach is an attempt to ensure value for money, it
questions long-standing assumptions and serves as a tool for systematically
examining and perhaps abandoning any unproductive projects.
ZBB is best suited to discretionary and support services and thus has extensive
potential application to the public sector. With discretionary costs such as advertising
or training managers have some discretion as to the amount they will budget for the
activity in question. There is no optimum relationship between inputs (as measured
by the costs) and outputs (measured by the revenues generated). Furthermore they
are not predetermined by previous commitments. In effect managers are free to
determine what quantity of service they are willing to provide and there is no
established method for determining the appropriate amount to be spent in particular
periods.