Unit 3
Business Organization
Weber’s theory of Industrial Location
Alfered Weber a German economist was the first economist who gave scientific exposition to the theory of location and thus filled a theoretical gap created by classical economists. He gave his ideas in his Theory of Location of Industries’ which was first published in German language in 1909 and translated into English in 1929. His theory, which is also known as ‘Pure Theory’ has analytical approach to the problem.
The basis of his theory is the study of general factors which pull an industry towards different geographical regions. It is thus deductive in approach. In his theory he has taken into consideration factors that decide the actual setting up of an industry in a particular area.
Weber’s Problems:
Weber was faced with many serious problems. He wanted to find out why did industry moved from one place to another and what factors determined the movement. After considerable thinking he came to the conclusion that causes be responsible for this migration could be Regional Factors Primary Causes and Agglomerative and deagglomerate factors (Secondary Factors).
In so far as regional factors were concerned these, among other things, included cost of the ground, buildings, machines, material, power, fuel, labour, transportation charges and amount of interest that the capital would have earned.
i. Regional Factors (Primary Causes):
According to Weber transportation costs play a vital role in the location of an industry. Each industry will try to find location at a place where transportation charges are the barest minimum, both in terms of availability of resources and place of consumption. According to him transportation costs are determined by the weight to be transported on the one hand and distance to be covered on the other.
Then the cost will also depend on the type of transportation system available and the extent to which it is in use. the nature of the region i.e., whether rocky, plain, connected or unconnected with roads etc. the kinds of the roads in the area where the goods are to be transposed; nature of facilities required i.e., whether the goods are to be taken with great care, less care or even without any special care.
Locational Figure:
While discussing regional factors, Weber has discussed the idea of locational figure. According to him every industry will try to see that it is located at a place where raw material is available nearest to the place of consumption on the one hand and most advantageously located material deposits on the other. According to Weber, “Thus locational figures are created. These locational figures, therefore, represent the first and most important basis for formulating the theory.’’
Classification of Material:
Weber, before proceeding further, has classified raw material into different categories e.g.:
(a) Ubiquities material; which is suitable everywhere e.g., bricks, clay etc., and
(b) Localised material e.g., iron ore, mineral etc. which is available in certain regions and not everywhere. Obviously the later play a bigger and important role than the former. He has also categorised raw material as ‘Pure’ and ‘Weight Losing’ raw material is one which impart its whole weight to the products e.g., cotton, wool etc. and weight losing materials are those in which only a part of the material enters into the weight.
Laws of Transportation:
Weber, while discussing the theory of location, has also discussed laws of transportation. According to him material index measures the total weight to be moved. From material index he understood the portion of the weight of localised material to the weight of the product. According to him, “All industries whose material index is not greater than one and whose locational weight therefore, are not greater than two lie at the place of consumption.”
Causes of Deviation of Location:
Weber was faced with a serious problem namely why the industries deviate from the centre of least transport costs. One such reason could be differences in the labour costs. This labour cost can be cheap either because of differing levels of efficiency and of wages of labour or because of differing levels of efficiency in the organisation and the technical equipment which the labour is required to use. Labour cost can go up and come down due to distribution of population as well.
But whatsoever might be the reason for the low labour cost, According to Prof Kuchhal, deviation “will be possible only when the additional cost of transportation at the new centre is more than compensated by a saving in labour costs… When the labour costs are varied, an industry deviates from its transport locations in proportion to the size of its labour co-efficient”.
Weber himself has said that, with a high index of labour costs, a large quantity of labour costs will be available for comparison with correspondingly high critical isophanes, and therefore we shall find a high potential attracting powers of the labour locations and vice versa.
According to Weber’s theory if the behaviour of each industry in respect of labour cost is to be measured than it is necessary to calculate the proportion of labour costs per ton of weight to be moved.
ii. Agglomerative and Deagglomerate Factory (Secondary Causes):
We have so far been discussing primary causes of industrial location. Weber has also discussed secondary causes responsible for industrial location. He has taken into account agglomerative and deagglomerate factors. An agglomerative factor, according to him is a factor which provides an advantage in production or marketing a commodity simply because industry is located at one place. On the other hand deagglomerate factor is one which gives such advantage because of decentralisation of production.
Agglomerative factors include gas, water etc. and are conducive for concentration of industry and deagglomerate factors include land values and taxes and lead to decentralisation. Pulls of agglomerative factors are index of manufacture and locational weight. According to Weber ratio of manufacturing cost of locational weight is co-efficient of manufacture.
According to Weber Agglomeration is encouraged with high co-efficient and deglomeration with low. According to him, We shall do well to bear in mind that labour orientation is one form of deviation from the minimum point; agglomeration to another.
When agglomerative forces appear in an industry oriented towards labour, there takes place a competition between the agglomerative deviation and the labour deviation, a struggle to create, locations for agglomeration, as compared with labour locations, both bearing upon the foundations of the transportational ground work.
Split in Location:
Weber has considered the possibility of location of an industry at more than open one, particularly when production in an industry can be carried independently at more than one place. According to him in fact single location is an exception and split a rule. It is essential, according to him that all productive processes must go on at one and the same place and it is better that these be carried out at different stages and at number of places. Split is to occur in two stages. In the first stage it is elimination of waste and in the second working up of pure material.
Locational Coupling:
Weber along with split in location has also given the idea of locational coupling, meaning thereby that different types of industries can be coupled in one and the same locality. According to him it is just possible to combine production of different articles in one plant because of the availability of several raw materials from the same source.
This coupling can be possible either due to economic or technical reasons. It is also possible due to connection through material e.g., if the by-product of one industry happens to be raw material for another then the two industries may select a single place of location. Locational coupling can also be due to market connection between two industries. In such a case product of one industry may enter into another industry without being used as material or half-finished product.
Criticism of Weber’s Theory:
Weber’s Theory of Industrial location has been put to several criticisms.
Some such points of criticism are:
1. Unrealistic Assumptions:
According to critics of this theory, Weber has unrealistically over-simplified the theory of industrial location. Many assumptions in the theory are unrealistic. According to them Weber has taken only two elements for determining the cost of transportation namely weight and distance. He has not given due to place to the type of transport, quality of goods to be transported, topography, character of region etc.
2. Labour Centres Notion Defective:
Weber’s ideas about labour centres have also not been accepted. He has started with the presumption that there are fixed labour centres with unlimited supplies of labour in each of them. Obviously both these assumptions are not correct. There cannot be fixed labour centres, because each industry creates new labour centres. Similarly, there can never be unlimited supplies of labour in any centre.
3. Ideas about Fixed Points of Consumption:
It is argued that Weber’s this idea does not work well with the market conditions in a competitive structure. Consumers are always scattered all over the country and thus consumer centres always shift with a shift in industrial population. There can therefore be no fixed point of consumption.
4. Vague Generalisations:
Weber, while expounding his theory of industrial location, has introduced, it is believed, certain vague generalisations. He has given no due place to non-economic factors of industrial location, which play a big role in this regard. Who can deny that there are certain historical and social forces which go a long way while deciding industrial location of an industry, but he has completely ignored them, which has made his theory very unrealistic?
5. Not a Deductive Theory:
Andreas Predohl is of the view that Weber’s Theory is only selective and not deductive. According to him he has made an artificial distinction between general and special factors which influence location of an industry. Such a distinction, in fact, has no logical significance. According to Weber transport costs and labour costs are only general costs. He has failed to explain why capital costs and management costs cannot be included or covered under it.
6. Defective Method of Analysis:
Weber has tried to classify material into ubiquities and fixed material. Again the division is arbitrary. According to Robinson who does not know that in actual practice materials are drawn from a large number of alternative fixed points.
7. Overburdened with Technical Considerations:
Dennison is of the view that Weber’s theory is heavily over burdened with technical considerations. It has not laid due stress on costs and prices and has over stressed technical coefficients. According to him, “The most important criticism about Weber’s analysis is that it is lamentably removed from all considerations of costs and prices and it is formulated mainly in terms of technical coefficients.”
Sargant’s theory of Industrial location
Sargant Florence has given his theory about industrial location, which has become popular. He started with the idea that some of Weber’s assumptions are not realistic. According to him geographical location of an industry is not as important, as the distribution of occupied population. His main consideration is that occupational distribution of population should be the main and primary factor for taking into consideration the location of an industry.
His theory is mainly based on inductive analysis and while explaining location factor of an industry he has taken into consideration location factor and co-efficient of localisation. Now a question arises as to what is location factor. According to him, it is an index of the degree of concentration of an industry in a particular region. Now this raises another problem namely how to arrive at the index, to which Sargant has made a reference.
According to Saviyya and Dass, this index is calculated by taking into consideration two ratios, namely, the percentage of workers of the industry in question found in the region under consideration and the percentage of all industrial workers in the country.
In calculating index to find out the location factor the first one is divided by the second and if the quotient is one, the location factor is said to unity and it can be said that the industry is evenly tribute over the whole country. If quotient is above unity, then the conclusion can be that the region under reference has higher share of industry.
Co-Efficient of Localisation:
By this he meant prosperity of an industry for concentration. It indicates an industry’s tendency for localisation anywhere in the country. It is primarily concerned with a particular industry and not a particular region. It will thus be a single figure for the industry and also for the country as a whole.
Co-efficient of localisation can be found with the help of following formula:
(a) % age of all workers found in each region;
(b) % age of the workers of industry in question in each region;
(c) Positive deviations of (b) from (a) are to be added;
(d) Sum thus derived is to be divided by 100.
On the basis of coefficients, it becomes possible to divide the industries into three categories namely high, medium and low. Thus, coefficient helps in classifying industries according to their dispersion or concentration.
While discussing the advantages of method Prof. Kuchhal says, “Thus the location significance of industries is shown and the problem of investigation becomes easier. Industries with low- coefficient of localisation can thrive in different regions and are thus dispersed. Industries which show a high coefficient of localisation…. are centralised in particular regions.”
Critical Assessment of the Theory:
1. The theory is not in a position to explain the causes responsible for the choice of location of an industry. It can only help in finding out the existing state of industrial distribution in a country. It is said that the theory is only the investigation of status quo and nothing beyond that.
2. While finding out coefficient of localisation, the unit is political region, which it is said cannot be much justified in discussing an economic theory. Therefore, the unit should be economic region.
3. According to this theory number of workers is the only one factor as the indicator of concentration of an industry, but there is no logic in choosing this one factor alone for finding out concentration of an industry.
4. According to Florescence co-efficient of location for all the countries is the same. But it cannot be the same because distribution of workers in each country varies according to local conditions.
5. While formulating his theory, he has not given due place and consideration to various forces of concentration which have direct bearing on the location of industrial units namely the role of external economies or tax incentives etc.
Value of the Theory:
Like Weber’s theory, this theory also suffers from some defects, about which a mention has already been made. But the theory has its advantages too. The theory is of considerable use for studying location dynamics in any country. These indices help in guiding the trends of industrial development in a country.
Then another advantage is that coefficient of localisation helps in deciding the types of industries that may be dispersed under a scheme of regionalism. It then becomes possible to diversify industries with a medium coefficient of localisation over a wide area, according to factor equipment in each area.
Key Takeaways:
- There are two popular theories of Industrial Location: Weber’s and Sargant’s.
- The basis of Weber’s theory is the study of general factors which pull an industry towards different geographical regions. It is thus deductive in approach.
The factors influencing the location of industry can be divided into two broad categories i.e.
(I) Geographical factors, and
(II) Non-geographical factors.
I. Geographical Factors:
Following are the important geographical factors influencing the location of industries.
1. Raw Materials:
The significance of raw materials in manufacturing industry is so fundamental that it needs no emphasising. Indeed, the location of industrial enterprises is sometimes determined simply by location of the raw materials. Modem industry is so complex that a wide range of raw materials is necessary for its growth.
Further we should bear in mind that finished product of one industry may well be the raw material of another. For example, pig iron, produced by smelting industry, serves as the raw material for steel making industry. Industries which use heavy and bulky raw materials in their primary stage in large quantities are usually located near the supply of the raw materials.
It is true in the case of raw materials which lose weight in the process of manufacture or which cannot bear high transport cost or cannot be transported over long distances because of their perishable nature. This has been recognised since 1909 when Alfred Weber published his theory of location of industry.
The jute mills in West Bengal, sugar mills in Uttar Pradesh, cotton textile mills in Maharashtra and Gujarat are concentrated close to the sources of raw materials for this very reason. Industries like iron and steel, which use very large quantities of coal and iron ore, losing lot of weight in the process of manufacture, are generally located near the sources of coal and iron ore.
Some of the industries, like watch and electronics industries use very wide range of light raw materials and the attractive influence of each separate material diminishes. The result is that such industries are often located with no reference to raw materials and are sometimes referred to as ‘footloose industries’ because a wide range of locations is possible within an area of sufficient population density.
2. Power:
Regular supply of power is a pre-requisite for the localisation of industries. Coal, mineral oil and hydro-electricity are the three important conventional sources of power. Most of the industries tend to concentrate at the source of power.
The iron and steel industry which mainly depends on large quantities of coking coal as source of power are frequently tied to coal fields. Others like the electro-metallurgical and electro-chemical industries, which are great users of cheap hydro-electric power, are generally found in the areas of hydro-power production, for instance, aluminium industry.
As petroleum can be easily piped and electricity can be transmitted over long distances by wires, it is possible to disperse the industry over a larger area. Industries moved to southern states only when hydro-power could be developed in these coal-deficient areas.
Thus, more than all other factors affecting the location of large and heavy industries, quite often they are established at a point which has the best economic advantage in obtaining power and raw materials.
Tata Iron and Steel Plant at Jamshedpur, the new aluminium producing units at Korba (Chhattisgarh) and Renukoot (Uttar Pradesh), the copper smelting plant at Khetri (Rajasthan) and the fertilizer factory at Nangal (Punjab) are near the sources of power and raw material deposits, although other factors have also played their role.
3. Labour:
No one can deny that the prior existence of a labour force is attractive to industry unless there are strong reasons to the contrary. Labour supply is important in two respects (a) workers in large numbers are often required; (b) people with skill or technical expertise are needed. Estall and Buchanan showed in 1961 that labour costs can vary between 62 per cent in clothing and related industries to 29 per cent in the chemical industry; in the fabricated metal products industries they work out at 43 per cent.
In our country, modem industry still requires a large number of workers in spite of increasing mechanisation. There is no problem in securing unskilled labour by locating such industries in large urban centres. Although, the location of any industrial unit is determined after a careful balancing of all relevant factors, yet the light consumer goods and agro-based industries generally require a plentiful of labour supply.
4. Transport:
Transport by land or water is necessary for the assembly of raw materials and for the marketing of the finished products. The development of railways in India, connecting the port towns with hinterland determined the location of many industries around Kolkata, Mumbai and Chennai. As industrial development also furthers the improvement of transport facilities, it is difficult to estimate how much a particular industry owes to original transport facilities available in a particular area.
5. Market:
The entire process of manufacturing is useless until the finished goods reach the market. Nearness to market is essential for quick disposal of manufactured goods. It helps in reducing the transport cost and enables the consumer to get things at cheaper rates.
It is becoming more and more true that industries are seeking locations as near as possible to their markets; it has been remarked that market attractions are now so great that a market location is being increasingly regarded as the normal one, and that a location elsewhere needs very strong justification.
Ready market is most essential for perishable and heavy commodities. Sometimes, there is a considerable material increase in weight, bulk or fragility during the process of manufacture and in such cases, industry tends to be market oriented.
6. Water:
Water is another important requirement for industries. Many industries are established near rivers, canals and lakes, because of this reason. Iron and steel industry, textile industries and chemical industries require large quantities of water, for their proper functioning.
Significance of water in industry is evident from Table 1. Also, it requires 36,400 litres of water to produce one kwh of thermal electricity. Further, it is worth noting that water used in industries gets polluted and is therefore not available for any other purpose.
Table1: Requirement of Water in Industry:
Name of the industry | Amount of water required in litres/tonne |
Steel | 300,000 |
Sulphite paper | 290,000 |
Oil refining | 25,600 |
Rayon | 1,000,000 |
Paper from wood | 173,000 |
7. Site:
Site requirements for industrial development are of considerable significance. Sites, generally, should be flat and well served by adequate transport facilities. Large areas are required to build factories. Now, there is a tendency to set up industries in rural areas because the cost of land has shot up in urban centres.
8. Climate:
Climate plays an important role in the establishment of industries at a place. Harsh climate is not much suitable for the establishment of industries. There can be no industrial development in extremely hot, humid, dry or cold climate.
The extreme type of climate of north-west India hinders the development of industries. In contrast to this, the moderate climate of west coastal area is quite congenial to the development of industries. Because of this reason, about 24 per cent of India’s modem industries and 30 per cent of India’s industrial labour is concentrated in Maharashtra-Gujarat region alone.
Cotton textile industry requires humid climate because thread breaks in dry climate. Consequently, majority of cotton textile mills are concentrated in Maharashtra and Gujarat. Artificial humidifiers are used in dry areas these days, but it increases the cost of production.
II. Non-Geographical Factors:
Now-a-days alternative raw materials are also being used because of modern scientific and technological developments. Availability of electric power supply over wider areas and the increasing mobility of labour have reduced the influence of geographical factors on the location of industries.
The non-geographical factors are those including economic, political, historical and social factors. These factors influence our modern industries to a great extent. Following are some of the important non- geographical factors influencing the location of industries.
1. Capital:
Modem industries are capital-intensive and require huge investments. Capitalists are available in urban centres. Big cities like Mumbai, Kolkata, Delhi, and Chennai are big industrial centres, because the big capitalists live in these cities.
2. Government Policies:
Government activity in planning the future distribution of industries, for reducing regional disparities, elimination of pollution of air and water and for avoiding their heavy clustering in big cities, has become no less an important locational factor.
There is an increasing trend to set up all types of industries in an area, where they derive common advantage of water and power and supply to each other the products they turn out. The latest example in our country is the establishment of a large number of industrial estates all over India even in the small-scale industrial sector.
It is of relevance to examine the influence of India’s Five Year plans on industrial location in the country. The emergence of suitable industries in south India around new nuclei of public sector plants and their dispersal to backward potential areas has taken place due to Government policies.
The state policy of industrial location has a greater hand in the establishment of a number of fertiliser factories, iron and steel plants, engineering works and machine tool factories including railway, shipping, aircraft and defence installations and oil refineries in various parts in the new planning era in free India.
We may conclude by noting that the traditional explanation of a location of industry at a geographically favourable point is no longer true. Location of oil refinery at Mathura, coach factory at Kapurthala and fertiliser plant at Jagdishpur are some of the results of government policies.
3. Industrial Inertia:
Industries tend to develop at the place of their original establishment, though the original cause may have disappeared. This phenomenon is referred to as inertia, sometimes as geographical inertia and sometimes industrial inertia. The lock industry at Aligarh is such an example.
4. Efficient Organisation:
Efficient and enterprising organisation and management is essential for running modem industry successfully. Bad management sometimes squanders away the capital and puts the industry in financial trouble leading to industrial ruin.
Bad management does not handle the labour force efficiently and tactfully, resulting in labour unrest. It is detrimental to the interest of the industry. Strikes and lock-outs lead to the closure of industries. Hence, there is an imperative need of effective management and organisation to run the industries.
5. Banking Facilities:
Establishment of industries involves daily exchange of crores of rupees which is possible through banking facilities only. So the areas with better banking facilities are better suited to the establishment of industries.
6. Insurance:
There is a constant fear of damage to machine and man in industries for which insurance facilities are badly needed.
Key Takeaways:
1. The factors influencing the location of industry can be divided into two broad categories i.e.
(I) Geographical factors, and
(II) Non-geographical factors.
2. Geographical factors can be in the form of raw materials, climate, water, market, soil, etc
3. Non-geographical factors can be in the form of Government policies, Capital, Industrial Inertia, Organizational efficiency, etc
The fundamental objective of government policy on location is to achieve balanced regional development of the economy through decentralization of industries, with a view to ensuring the following benefits:
1. Reduction of inequalities of income and wealth, in various regions
2. Provision of employment opportunities on an equitable basis.
3. Increase in the standard of living in backward areas through removal of poverty
4. Avoid over-concentration of industries in particular regions for strategic defence considerations
5. Controlling social problems like – development of slums, over-crowding, pollution, traffic-congestion etc.
Measures taken by government towards dispersal of industries are of two types:
(I) Positive measures, for encouraging location of industrial units in backward areas
(II) Negative measure, for restraining establishment of industrial units in over-concentrated areas.
Following is a brief account of positive and negative measures, of the government’s policy on industrial location:
(I) Positive Measures:
(i) Provision of basic infrastructure and public utility services like – water, electricity, gas, transportation etc. in backward areas.
(ii) Provision of social services like education, health, entertainment, training etc. for development of backward regions.
(iii) Granting of direct subsidies (like supply of raw-materials and machinery at lower prices) and indirect subsidies (like reducing the cost of certain services to offset the influence of unfavorable factors), for industrial location in rural areas.
(iv) Granting of income-tax, sales-tax and excise duty exemptions to the units set up in backward areas.
(v) Public financial institutions to provide finance at low rates of interest to industrial units to be set up in 246 backward districts, specified by the government.
(vi) Assistance to the State Governments for the development of infrastructural facilities in ‘no-industry districts’ of their respective States.
(vii) Giving assurance by the government to purchase the products of industrial units established in backward areas.
(viii) Development of industrial estates in backward areas, to provide benefits of common services like land, power, water etc. to a large number of industrial units located in the industrial estate.
(ix) Setting up of growth centres throughout the country to attract industries to backward areas; each growth centre to be endowed with best possible infrastructural facilities like water, power, banking, telecommunications etc.
(II) Negative measures:
(i) Enhanced rates of local taxes in urban areas
(ii) Absolute prohibition to set up new industries in particular areas. Big industrial units shall not be set up within certain limits of big cities.
(iii) Not to allow establishment of chemical and other industries involving hazards to human life in populated areas; in view of Bhopal Gas Tragedy of 1984.
Key Takeaways:
- The fundamental objective of government policy on location is to achieve balanced regional development of the economy through decentralization of industries.
- Measures taken by government towards dispersal of industries are of two types:
(I) Positive measures, for encouraging location of industrial units in backward areas
(II) Negative measure, for restraining establishment of industrial units in over-concentrated areas.
When a voluntary association of firms is formed to achieve common goals and to enjoy the monopoly advantages, that sort of initiative is called business combination. The combination may be formed by a written or oral agreement among the firms.
Sometimes firms decide to merge themselves into one unit. The main object of the business combination is to achieve common economic welfare for its members.
Types of Business Combination
Combinations may take several forms, such as horizontal, vertical, lateral, and diagonal, circular, or maybe a mixture of two or more of these types.
Horizontal Combination
A horizontal combination comes into being when units carrying on the same trade or pursuing the same productive activity join together with a common end in view.
Example of horizontal combinations are;
- Disney’s 2006 acquisition of Pixar.
- Facebook’s 2012 acquisition of Instagram.
The intensity of competition is naturally reduced when several units competing in the same line of business join together. The combining units can well take advantage of the various economics associated with large scale production by making common purchases, pooling resources for research, common advertising, etc.
Vertical Combinations
Vertical integration is the combination of firms in successive stages of the same industry. It implies the integration of various processes of an industry.
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Vertical combinations are brought into existence with the following objects in view:
- To eliminate the wasteful and unnecessary expenses involved in carrying on the connected processes separately.
- To eliminate middlemen functioning between various units
- To securer economies in marketing, advertising, and transport
- To maintain control over the quality of raw materials and finished products.
Lateral Combination
Lateral integration refers to the combination of those firms which manufacture different kinds of products though they are ‘allied in some way.’
It can be of two kinds;
- convergent lateral integration, and
- divergent lateral integration.
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The convergent lateral combination comes into existence when different forms join together to supply goods and services to help the functioning of major undertakings.
Example: For instance, a book publishing may join with other units producing paper, doing printing work, and providing bookbinding services.
Diagonal Combination
It is also called ‘Service’ integration Diagonal integration comes into existence when a unit providing auxiliary goods and services to industry is combined with a unit engaged in the mainline of production, within the organization.
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Example: For example, if an industrial enterprise combines with a transport company, a power station or a repairs and maintenance workshop, and makes these facilities available within the organization, it will be said to have effected diagonal integration.
Circular Combination
When firms belonging to different industries and producing altogether different products and combine under the banner of a central agency, it is called a mixed or circular combination.
This is affected to ensure smooth conduct of business operations by making timely availability of auxiliary services within the organization.
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Example, Godrej is engaged in the manufacturing of cosmetics, electrical goods, office equipment locks, etc. The object is to secure the benefits of large-scale operations arising out of co-operation.
Forms of Business Combinations
Combinations take different forms that have been developed over some time.
- Associations
- Trade associations.
- Chambers of commerce.
- Informal agreements.
- Federations
- Formal Agreement.
- Pools.
- Cartels.
- Consolidations
- Partial consolidations
- Trust.
- Holding companies.
- Community of Interest
- Complete consolidations
- Mergers.
- Acquisition.
- Amalgamations.
- Partial consolidations
Associations
Business units combine to attain some purposes without surrendering their autonomy.
- Trade Associations
Under trade association, business units engaged in a particular trade generally come together and discuss matters for the promotion of their economic and business interest.
They are generally formed on ‘territory bases.
Such association is organized on a non-profit basis and is essentially educational. Sometimes the association may make representations to the government to safeguard the interests of a trade or an industry.
2. Chamber of Commerce
Chamber of commerce is voluntary associations of persons connected with commerce, trade, and industry.
These are formed with the object of promoting and protecting the interests of business and business communities in a region, country, or even in the world as a whole.
Their functions include promoting, supporting, or opposing legislative or other measures affecting the trade interests of the members, the collection and dissemination of information concerning trade, commerce, etc. to members.
They also undertake the function of referring disputes arising out of trade activities to arbitrations for settlement, performing such other things as may be conducive to the expansion of trade.
3. Informal Agreement
Informal agreements involve the exchange of promise among members regarding restriction of output, fixation of prices, etc. They are also referred to as Gentlemen’s agreements.
It is only the moral duty of business units to keeping the promise.
Federations
Federations form of combination aims at rendering benefit to member-units for certain specific purposes under an agreement. Of such federations, ‘Pools’ and ‘Cartels’ are most notable.
- Pools
It means that the members of the pooling agreement joint together to regulate the demand or supply of a product without surrendering their separate entities.
The agreement may relate to the regulation of output, reallocation of output, redistribution of income, etc.
Haney defines and industrial pools as a form of a business organization established through a federation of business units whose members seek a degree of control over prices by combining some factors in the price making process in common aggregate and apportioning that aggregate among members.
2. Cartels
A pool having a common sales agency is known as Cartel. It is, thus, an output and profit pool.
The object of a cartel is to eliminate competition by forming a federation of producers that pool the output, fixes the price, and sells the product. The profits reaped by cartels are distributed amongst the members – units on a pre-determined basis.
Consolidations
The last form of combination is consolidation. This form involves the highest degree of integration. The consolidation may be of two types:
Partial Consolidation
- Trusts
Trusts may be defined as a form of a business organization through temporary consolidation in which the shareholders of the constituent organizations under a trust agreement transfer a controlling amount of their stock to a board of trustees in exchange for a trusted certificate.
These trust certificates show their equitable interests in the income of the combinations.
Thus, trustees under the trust manage the affairs of the member concerns in the interests of the real owners, who are entitled to dividends based on trust certificates held by them.
2. Holding Companies
A holding company is a form of business organization that is created to combine industrial units by owning a controlling amount of their share capital.
Controlled companies are referred to as subsidiary companies. The subsidiaries are independent and function in their name. But they are effectively managed by the holding company.
3. Community of Interests
A Community of interest may be defined as a form of business organization, in which without any formal central administration, the business policy of several companies is controlled by a group of common stockholders or directors.
Thus, the administration of different companies is possible either through managerial integration, administrative integration, or financial integration.
Complete Consolidation
In complete consolidation, the combining units lose their entity.
It is defined as a form of business organization which is established by the outright purchase of the properties of the constituent organizations and the merging of such properties into single business units.
Complete consolidation may be of the following types:
- Merger
A merger takes place when; two or more organizations merge, and their operations are absorbed by a news organization.
2. Acquisition
Acquisition refers to the process of acquiring a company at a price called the acquisition price or acquisition premium. The price is paid in terms of cash or acquiring the company’s shares or both.
3. Amalgamation
Amalgamation is an arrangement where two or more companies consolidate their business to form a new firm or become a subsidiary of any one of the companies.
For practical purposes, the amalgamation and merger of the terms are used interchangeably.
Causes/Reasons for Business Combination
Although the business combination is primarily formed for achieving a common (single) goal, it may also be formed keeping in mind the following reasons: -
- Elimination of Competition
Due to hard competition among the firms’ rate of profit decreases. Some firms may suffer a loss also. So, the industrialists feel pleasure in setting up a combination to avoid the competition.
2. To Solve Capital Problem
Small units of production face the problem of capital shortage. They cannot expand their businesses. As a result, small units may form a combination to overcome this problem.
3. To Achieve Economies
Some small units combine themselves to achieve the economies of large-scale production advantage. It helps to purchase the raw materials at low prices and sell more product which would increase the profit
4. Effective Management
Generally, small units are unable to hire the services of experts and experienced managers. So small industrial units combine themselves to hire the services of effective management
5. Tariff Facilities
To compete with external firms, some industrial units combine themselves. The government also imposes heavy duties to protect domestic producers.
6. Uniform Policy
All the units adopt uniform policy due to business combinations. It regularizes the business activities of all the units.
7. Use of Technology
The business combination can use the latest technology and new methods of production because its sources are sufficient. In contrast, a single unit cannot do so.
8. To Face Crises
It is very difficult for the small industrial units to face crises in the days of inflation and deflation. So, the small units combine themselves to face these problems easily.
9. Growth of Joint Stock Companies
The growth of Joint-stock companies has also made it possible for various industrial units to form combinations.
10. Status in Market
A big firm enjoys a higher status and respect than the smaller one. So, small business units prefer to combine themselves for higher status.
11. Demand and Supply Balance
A business combination is very useful in controlling the overproduction. It adjusts the supply according to the demand of the market. So, overproduction cannot take place, and prices remain stable.
Advantages/Merits of Business Combination:
The advantages of a combination are controversial because the creation of monopoly and elimination of competition both are considered the merits and demerits of the combination.
- Increase in Capital
The volume of capital may be increased by the formation of a combination. The members combine their resources to conduct large size business.
2. Elimination of Competition
By the formation of combination, unnecessary competition is eliminated, and member firms earn monopoly profit.
3. Saving in Expenses
Administrative production and distribution expenses reduce due to combination.
4. Controls over Production
The combination is very effective in controlling overproduction. It helps to adjust the supply according to the demand.
5. Large Scale Marketing
In the market, competition position is strong in bargaining. So it sells the product at a higher price.
6. Experts Services
A combination can acquire the services of experienced specialists. It increases the efficiency of the combination.
7. Research Work
A combination can spend money on research work, which is very important for the business. This research work reduces its cost and increases its profit.
8. Use of Modem Technology
A combination is capable of using the latest inventions and new methods of production as a consequence of a transfer of technology. It will increase profit.
9. Stability
A combination is a more stable form of business as compared to the individuals’ units. The chances of dissolution are also less than others.
Disadvantages/Demerits of Business Combination:
Following are important disadvantages of combination:
- Creation of Monopoly
It creates a monopoly that is harmful to the people in the long run.
2. The concentration of wealth
It concentrates the wealth in a few hands and divides society into few classes, such as rich, middle, and poor.
3. Reluctant to be Accepted
The combination is disliked by the people, and it is not acceptable.
4. Changes in Friction
The chances of friction among directors and officers are bright. They quarrel with, each other for their interest
5. No Personal Contact
It is not possible to maintain direct contact between employees, creditors, and shareholders, due to this business may suffer a loss.
6. Costly Management
A combination hires costly management, which increases the cost of production.
7. Over Capitalization
There is always a danger of over-capitalization in the combination. It is harmful to the combination.
8. Misuse of Funds
The directors of the company enjoy unlimited power and misuse the capital.
9. National Interest Ignored
Generally, the combinations ignore the national interest, and they involved in such activities that are against the national interest.
Key Takeaways:
- When a voluntary association of firms is formed to achieve common goals and to enjoy the monopoly advantages, that sort of initiative is called business combination.
- Business combination can be in the form of Diagonal, Lateral, Horizontal and Circular.
Business risk can be defined as uncertainties or unexpected events, which are beyond control. In simple words, we can say business risk means a chance of incurring losses or less profit than expected. These factors cannot be controlled by the businessmen and these can result in a decline in profit or can also lead to a loss.
Nature of Business Risk
Business risk is the possibilities a company will have lower than anticipated profits or experience a loss rather than taking a profit. Business risk is influenced by numerous factors, including sales volume, per-unit price, input costs, competition, and the overall economic climate and government regulations.
1. Arises due to Uncertainties
Uncertainties mean when you are not sure of what is going to happen in future. Common examples of uncertainties are: change in demand, government policy, technology etc. Business risk is due to these uncertainties.
2. Essential part of any Business
A risk is an important characteristic of business. No business can avoid risk although the degree of risk may vary Risk can be reduced but cannot be eliminated.
3. Degree of Risk Depends upon the Nature and Size of Business
The degree of risk depends upon the type of business; for example, a business involved in fashion items bears more risk as compared to the business involved in standardized goods. Similarly, a business operating at large scale bears more risk as compared to small-scale business houses.
4. Profit is the Reward for bearing the Risk:
The business earns a profit because they are bearing risk. “No risk no gain” larger the risk more is the profit. An entrepreneur bears risk with the expectations of earning a profit.
Causes of Business Risk
- Natural Causes
Nature is an independent phenomenon and human beings have no control over it. Natural calamities like earthquake, flood, drought, famine etc. Affect a business a lot and can result in heavy losses. The natural causes are such type of uncertain factors that human beings cannot make any preparation against.
- Human Causes
Human causes are related to a chance of loss due to human being or employees of the organization. The dishonesty of employees can bring heavy losses for business e.g., the employees may leak a business secret to a competitor and may commit fraud also bring heavy losses by wastage of resources.
The employees may hamper the production by going on strikes, riots etc. This can also lead to heavy loss of business condition. There can be price fluctuations in the market, there can be a change in fashion, taste, preferences, and demands of customers
- Economic Causes
Economic causes are related to a chance of loss due to change in the market. There can be a change in the degree of competition. All these have a direct impact on the earnings of the business.
Even change in Government policy affects the business a lot. For example, in 1971 when Janata government came to power the Coca-Cola Company and many other foreign companies were sent back to India
- Physical Causes
All the causes which result in damage of assets are considered as a physical cause, for example, change in technology may result in machinery being outdated, use of old technology, mechanical defects may also result in damage of assets such as the bursting of a boiler, accident to employee etc.
Types of Business Risk
The business risk can be classified into two major categories:
- Insurable Risk
The risks which can be recovered are called insurable risks. The losses which can be made good or losses for which company can get compensation from the insurance company are called Insurable Risks. Generally, the natural and physical risks are insurable risks, e.g., businessmen can take a fire insurance policy to get protection from flood, earthquake or from the damage of assets such as the bursting of boiler etc.
- Non-insurable Risks
The risks for which no protection is available are called Non-insurable risks. The businessmen cannot get compensation for a change in demand or loss due to negligence or carelessness of employees. Whether the risk is insurable or non-insurable, only the loss can be shared but the risk remains
Minimization of Risk
Business has many risks but it can also be avoided by adopting some measures. Management can adopt the technique to minimize the chance of occurring any particular event which form may cause the loss. All the risks cannot be avoided but these can be minimized.
So, such policies are adopted which reduce the loss. For example, there is a greater risk to send the product by air then by train. So, the risk can be reduced by sending the product by train. Similarly, when you introduce a new product, there is a greater risk, so you may refuse to avoid the risk.
Though a firm can never escape from a presence of any risk it can still employ methods to avoid them. For instance, the firm can:
- Avoid itself from entering into a risky transaction;
- Preventive measures can be taken like firefighting;
- Transfer the risk to an insurance company by taking a policy:
- Share risk with other enterprises by making the manufacturers agree to compensate the losses in the case of falling prices.
Key Takeaways:
- Business risk can be defined as uncertainties or unexpected events, which are beyond control.
- Causes of business risks can be economic, human, physical and natural.
- All the risks cannot be avoided but these can be minimized.
References:
- Business Organization and Management by P.C.Tulsian
- Business Organization and Management by S.Chand
