AQA A-Level Business

Why businesses exist

A business exists to combine resources (land, labour, capital and enterprise) into goods or services that customers will pay for, and to do so well enough to keep going. Who it does this for depends on who owns it: a company owned by shareholders usually exists to earn them a return, a charity exists to serve a cause, and a cooperative exists for its members. The owners' purpose shapes what the business tries to achieve, which is set out in its mission and its objectives.

The mission is a statement of the business's overall purpose: what it does, for whom and to what standard. It is broad, rarely changes and is not measurable. A mission such as providing affordable, healthy food to families gives direction, but it does not say what to do this year. An objective is a specific, measurable target that moves the business towards its mission. Objectives are what managers are judged against, so they need a number and a date: raising market share from 12% to 15% within three years, for instance.

The mission and the objectives are linked in one direction. The mission sets the boundaries, and the objectives are chosen inside them. A business whose mission is to be the most trusted name in its market will reject an objective of rapid growth if reaching it would mean cutting quality. The objectives then feed down into the targets of each function, such as marketing, operations, finance and human resources, which is how a mission ends up shaping daily decisions.

Why businesses set objectives

• They give everyone in the business the same aim, so decisions in different departments pull in the same direction.
• They are a basis for motivating staff, since a target can be met or missed.
• They allow performance to be measured, and so allow managers to see when a plan is failing and change it.
• They help in choosing between options: a proposal can be judged by how far it helps reach the objective.
• Lenders and investors can judge the business and its prospects more easily if it has clear aims.

Objectives can be blunt if they are badly chosen. A target based only on sales may lead staff to discount heavily and lose profit; a target based only on cost may lead to cuts that damage quality. Businesses therefore tend to hold several objectives at once, which may conflict.

Common business objectives

Profit

Profit is the most common objective for private businesses, because it rewards the owners and pays for investment. A business may aim to maximise profit, but many aim instead for a satisfactory level, since maximising is hard to know and to achieve and may upset other stakeholders. Profit objectives are often set as a total amount or as a margin.

Growth

Growth means a larger business: more sales, more outlets, more employees. Managers often favour it because it brings economies of scale, more market power, more status and pay and more secure jobs. The risk is that growing faster than the business can manage leads to cash shortages and a fall in quality.

Survival

A new business, or one in a recession or facing a powerful new competitor, may simply aim to stay in business. Survival usually means accepting low profit, cutting prices to keep customers and avoiding risk. It is mainly a short-run objective.

Cash flow

Cash flow is the movement of money into and out of the business. A business can be profitable on paper and still fail because it cannot pay its bills when they fall due, so an objective to keep enough cash, or to hold a minimum balance, is common in small businesses and in businesses that are growing quickly.

Social and ethical objectives

Some businesses aim to do good as well as, or before, earning a profit: reducing carbon emissions, paying a living wage, buying from fair trade suppliers or donating a share of revenue to charity. Social enterprises put such aims at the centre of the business. Other businesses adopt them because customers prefer them, because it improves their reputation or because the owners hold those values. These objectives can cost money in the short term and so may reduce profit.

Measuring profit

Profit is the difference between what a business earns and what it spends. The measurement uses four figures.

• Revenue, also called turnover or sales, is the money received from selling goods or services: price $\times$ quantity sold.
• Fixed costs do not change with the level of output in the short run, such as rent, insurance and salaries.
• Variable costs change directly with output, such as raw materials and packaging.
• Total costs are fixed costs plus variable costs.

Worked example

A bakery sells 4,000 loaves a month at £2.50 each. Its fixed costs are £3,200 a month. The variable cost of each loaf is £0.90.

The profit is £3,200 a month. A loss results when total costs are greater than revenue.

Why profit matters

Profit is the reward to the owners for taking risk, so it is what attracts investment. Retained profit is also the cheapest source of finance for growth, since it has no interest to pay and no new owners. A business that is consistently profitable can borrow more easily and has room to survive a bad year. High profit can also prompt criticism when it is earned by paying low wages or charging high prices, and competitors are drawn to markets where profits are high.

Profit has limits as a measure. It says nothing about how the profit was earned, and a business can raise it in the short run by cutting spending on training, research or maintenance, which harms the long run. A profit figure also has to be set against the capital used and the size of the business, which is why margins and returns are used alongside it.