Small and Medium Enterprises - Essay Example

Small and Medium Enterprises Questions 1: The Impact of 2008 Recession on SMEs Before the recession that began in 2008, SMEs were performing well and could access credit from financial institution to expand their operations. However, the recession brought about uncertainties on the future performance of businesses. Thus, small and medium enterprises could not easily access credit. The credit approval rates reduced not only for SMEs but also for large institutions as well. The recession weakened the ability of lenders to meet the demand for loans especially without security. The economic downturn brought about financial difficulties in SMEs and at the same time, lenders could not guarantee access to additional funds. Some of the SMEs were forced to shut due to financial difficulties and bankruptcy. The level of investments in SMEs also declined due to lack of funds for investments (Stokes and Wilson, 2010). One of the factors that limited the ability of SMEs to access credit during the recession was the tight credit controls. The government efforts to control the level of money supply lead to high interest rates. Banks had to raise their lending rates and tighten their credit policies to comply with government regulations. Consequently, the SMEs that could not meet these new credit terms could not access funds from banks to finance their operations. SMEs were more vulnerable to the negative effects of the recession of business operations compared to large firms. This is because SMEs lack resource and market man power to withstand sudden environmental changes. The changes in the global economic environment brought about by the 2008 recession had severe effects on SMEs especially on the young and new business (Stokes and Wilson, 2010). The 2008 recession forced organisations to lay off many employees to survive. The level of production reduced and layoffs were used as a way of reducing the cost of production. SMEs were not spared from this move and they too had to lay off a significant number of their employees. This means that they would later incur additional labour costs of recruiting and training new employees after the economic recovery. The performance of SMEs in terms of output production and revenues was severely affected during the recession. The effects on performance were more severe in high risk SMEs relative to low risk SMEs. High risk organisations tend to have high debt to assets ratios. These organisations were forced to take drastic measures of laying off their employees and reducing the dividends paid to shareholders (Stokes and Wilson, 2010; Richard 2011). The profitability of SMEs reduced during the recession and the level of competition increased as well. The demand for products was low and thus, firms intensified their marketing activities to attract customers. However, the effectiveness of the marketing strategies was limited by the reducing purchasing power of the consumers during the recession. The SMEs across Europe faced excessive regulations administration, lack of skilled human resources and high costs of productions (Richard 2011). Question 2: Reasons why small firms dominate some market structures There are many theories that explain why small firms dominate certain market structure. The technical efficiency theory argues that the existence of small firms in a certain market will depend on economies of scale. Industries with large economies of scale compared to the market size tend to have many small firms and a few large firms that control the market. However, the number of small firms in such markets may increase if the concentration ratios and the economies of decline. The size of a market or its geographical distance has an effect on its composition. A large geographical distance will results in high transportation costs for large firms. Such a market will also have diseconomies of scale. Consequently, there will be more small firms than large firms in the market. The institutional efficiency theory of small firms indicates that large firms will dominate a market if they can minimise their average costs by reducing transaction costs. In some market situation, small firms can reduce transaction costs better than large firms. Consequently, the small firms will dominate such a market. The neo-classic theory of small firms relates the market structure to the size of firms in the market. According to this theory, small firms will dominate an industry with perfect competition. Under perfect competition, there are many buyers and sellers and all the firms are price takers. Firms under perfect competition sell homogenous products, have perfect information on their customers and can freely enter or exit the market. Small firms will dominate such a market as long as increases in firm size do not result in economies of scale and lower transaction costs. For instance, the construction of new airports has attracted new small firms into an industry that was once dominated by British Airways. A monopolist controls the price and supply of their product. There are barriers for other firms to enter a monopolistic industry and a single firm dominate the market. In most cases, monopolists are large firms that enjoy low transaction costs and economies of scale. However, some economic changes may result in diseconomies of scale and high transaction costs. In such cases, monopolies are forced to disintegrate into small firms to reduce costs. An industry characterised by monopolistic imperfect competition has many sellers with differentiate products. The sellers have limited ability to control the price of their products. Such conditions are favourable for small firms to thrive. Under an oligopoly, there are few sellers who set the prices of the products. Such prices are based on their own production costs and the prices of their rivals. Oligopolies are in most case large firms. However, such a market structure may contain small firms if it is largely segmented. The other explanation of why small firms dominate certain market structures is the dynamic approach. This approach explains the size of a firm based on its age and not the existence of small firms in different industries. According the dynamic approach, the size of a firm will increase as it grows older. Every firm undergoes the inception, survival, growth, expansion and maturity stages. Movement from one stage to another involves an increase in size. According to the historic approach, small firms exist because of change in the enterprise culture, technological changes, globalisation, high unemployment rates, privatisation and reduction of red tape. Other historical reasons include subcontracting, outsourcing and disintegration of businesses. The political environment has an influence on the emergence of small firms in a country. Question 3: Churn Economic churn is the process through which plans and firms enter and exit an industry. The process has an effect on the productivity of an industry and the economic growth in a country. The increase in productivity of industries is caused by increased competition among firms which causes them to improve their cost efficiency. Economic churn can also lead to reduce productivity in cases where innovative firms join an industry. Such firms will replace some the existing firms in the industry because they have access to modern technology. Any incumbent firms in such industry can only survive by adopting new technologies in their production processes. According to the neo classical theories, firms will enter an industry as long as profitable opportunities exist. This approach to economic churn is only realistic under perfect competition. Market imperfections such as sunk costs and asymmetries in market information will limit the entrance of many firms into industry with profitable opportunities (Robinson et al 2006). The entrance of firms into an industry does not only depend on industrial dynamics but also on the prevailing macroeconomic environment. Macroeconomic issues such as changes in interest rates have an effect on the entrance of firms into industry. High interest rates limit the ability of firms to access credit to expand their operations into new markets or industries. In addition, firms are likely to join an industry if they feel that they superior products to offer to consumers compared to the current products in the market. Economic churn relates to the process through which business enter and exit a certain market. However, the resultant reallocation of resources occurs at the plant level in multi-plant organisations. When analysing economic churn, entrance into an industry does not just represent starting up a new business neither does exit simply represent business failure (Robinson et al 2006). At the aggregate level, economic churn results in lower reallocation of resources between industries. The long-term effects of economic churn of industrial productivity are more visible compared to the short term effects. There are several ways of estimating economic churn in an industry. The accuracy of a certain measure in estimating economic churn will depend on the characteristics of an industry such as age. For young industries, net entry measures provide an estimate on the competitive entry into the industry. In young industries, many firms join in to take advantage of new profitable opportunities. In mature industries, composite measures indicate the rate at which firms exit the industry. Empirical data on previous estimates of economic churn across industries indicate that economic churn is higher in service industries and lower in manufacturing industries. The comparison of economic churn across countries indicates that UK has the highest level of economic churn (Robinson et al 2006). Business churn contributes to economic growth by creating employment opportunities and increasing productivity. Resources are reallocated from less efficient sectors to the most efficient sectors of the economy. However, churn does not always result in positive effects on the economy. Churn may lead o inefficient allocation of resources. Estimation of the rate of churn in cases of mergers and acquisitions is difficult. This is because such business models represent both entry and exit into industries. However, mergers and acquisitions result in higher levels of efficiency and minimal disruption of employees and supply chains (Robinson et al 2006). Question 4 Figure 1: SMEs enterprises in UK From figure 1 above, it is evident that the number of SMEs in the UK has been increasing since year 2000. The highest increase was between 2003 and 2005. Between year 2000 and 2003, the rate of growth of SMEs in the UK was slow. The rate of growth in the number of SMEs since 2008 has been slow. This slow growth can be attributed to the global economic crises that had a negative effect on SMEs in UK and other parts of the world. Figure 2: The trend of employment in SMEs in UK Figure 2 above represents the trend of employment in SMEs. The number of employees in SMEs in the UK has been over the years. The graph indicates that there steady growth in the number of employees in this sector of the economy between 2000 and 2003. This was followed by a rapid decline in the number of employees between 2003 and 2004. Since that decline, the number of employees in this sector has been on the increase. Figure 3: The trend of Turnover in SMEs in UK Figure 3 above indicates the trend of turnover in SMEs in the UK. The graph indicates a steady growth in turnover especially from year 2007. The trend in the number of SMEs, employees in SMEs and turnover in SMEs has been fluctuating due to changes in local and global business environment. Government policies towards SMEs have also been effective in encouraging the growth of existing and establishment of new employees. Various factors contribute to fluctuations in employment levels in SMEs including economic downturn that force SMEs to lay off some of their workers. Question 5: The impact of changes in Industrial size structure on performance In the 1970s, large corporations were considered to the driving force of many economies. This period was characterised by high levels of production, centralisation and concentration. Large scale production was efficient at that time due to the prevailing technological demand characteristics and level of technological advances. Large corporations enjoyed economies of scale and could employ highly trained specialists to work on their technological progress. Therefore, exploiting economies of scale was viewed as the only way of dominating an industry. Small enterprises were considered to be temporal. However, the collapse of the former Soviet Union, Central and Eastern Europe economies brought about a revolution in industrial economics. Industries could no longer depend on concentration and centralisation to increase efficient (Audrestsch et al 2000). The collapse of major economies was followed by a shift from large firms to small firms. This shift was caused by increases in global competition, increased uncertainties and increased market segmentation. Technological reduced the level of competition between large and small firms and increase product differentiation. Large firms could no longer maintain the condition necessary for large scale production. Technological advance was also characterised by diseconomies of scale. Consequently, small firms began to thrive in many markets. The change in industrial structure from large to small firms is associated with higher levels of economic performance. The emergence of small firms has an effect on the locus of economic activities (Audrestsch et al 2000). The shift to small firms creates a supportive environment for radical innovation and rejuvenation of industries. As a result, the level of economic growth increases. Small firms increase competition and stiff competition pushes firms to enhance their efficiency in production to remain in the industry. Small firms are vehicles for creating job opportunities in and economy and encouraging entrepreneurship. As more individuals engage in production of goods and services, the level of economic performance increases. There are penalties for not shifting from large to small firms. Economic experience negative effects on their growth process and the effects are large. The countries that have embraced industrial shift from large firms to small firms enjoy higher levels of economic growth relative to economies that maintain large firms as their driving force for economic growth. European countries have been on the fore front of changing their industrial structure and this is reflected in their level of economic growth (Audrestsch et al 2000). Question 6: Major Ingredients of UK Government Policy towards SMEs The UK government policy towards SMEs is based on three principles which include promoting start-ups of SMEs, promoting their growth and promoting their level of efficiency. The government has made various initiatives since 1971 as a way of promoting SMEs in the economy. Apart from the three underlying principles, modern government policies towards SMEs aim at improving their access to funds and government services. The modern policies also aim at encourage the start-ups of SMEs in disadvantage communities and promoting a SMEs culture. The modern policies also aim at improving regulation of SMEs and developing better policies. The fundamental principles are outlined in the 2000 policy document. The UK government policies towards SMEs in 2012 build on previous policies. The current policies aim at improving access to finance, creating an environment that will support the growth of SMEs in the economy. A new aspect has been introduced in the current policies where the government aims at developing programs that will provide information and guidance to individuals who wish to start SMEs. The government has also recognition to its current policies where SMEs will outstanding performance will be awarded. This recognition of performance is through the Queen’s Awards for Enterprise. Another ingredient of current SMEs policies is equipping individuals with the necessary skills to start successful businesses. \ Research and evaluation has a significant contribution to policy development. Research outlines the need for certain policies and programmes. Research and evaluation help in defining policy objectives and designing the strategies of achieving the objectives. Constant evaluation enables the government to determine the effectiveness of its policies in promoting the growth and establishment of SMEs. Evaluation also helps in monitoring the progress of various institutions that are directly responsible for implementing government policies. Question 7: Reasons for the absolute and relative decline of Venezuela SMEs Venezuela’s economy has faced various changes in an attempt to transform it into a modern economy. The first attempt to transform the economy was in 1958. This was the time that the country adopted a democratic political system. The second attempt was in 1989 and this involved an attempt to change Venezuela’s economy into an open free market economy. Both attempts were unsuccessful and instead, the economy is characterised by a decline in SMEs especially in the manufacturing sector. The relative decline in SMEs began in 1960 while the absolute decline began in the 1970s. The decline in SMEs is attributed to inefficiency and insufficient efforts to introduce innovation in SMEs. Inefficiency pushed some of SMEs out of the manufacturing sector and other sectors. This is because the SMEs were no longer profitable and competitive to withstand the changing business environment. Another reason why SMEs declined in Venezuela is the existence of barriers to entry in the manufacturing industry. The barriers such as lack of access to productive prevented new SMEs to join the manufacturing industry. Venezuela’s political system also contributed to the decline of SMEs. The political history of the country contributed to the establishment of an economic structure that was exclusionary in nature. Such an economic nature was a hindrance to the continuous growth of SMEs across sectors. The exclusionary economic structure created a business environment that discouraged entrepreneurs from taking advantage of profitable opportunity in different sectors. In such an economic structure, large firms enjoy large political and economic advantages compared to small firms. The large firms have the largest share of economic gains and this discourages individuals from investing in small and medium firms. The unsupportive business environment for small firms in Venezuela brought about investments in the informal sector. The decline of SMEs in Venezuela is also attributed to its uncompetitive economic structure. This economic structure is coupled with private and state interests in the share of economic gains. Such interests did not only have a negative effect of the establishment of SMEs but also on the growth of the overall economy. Lack of economic participation has had a significant contribution to Venezuela’s declining SMEs. SMEs in Venezuela can only be revived through the establishment of democratic economic participation and improved access to productive resources for SMEs. A change in the political system is necessary because the prevailing political has a significant contribution to economic systems. References Audrestsch, D, B., Carree, M, A., Stel, A, J & Thurik, A, R 2000, Impeded industrial restructuring: the growth penalty, Tinbergen Institute Discussion Paper Mulhen, A 2012, Model C Five forces approach to competitive structure: Michael Porter, Viewed May 7, 2012 Mulhen, A 2012, Small firm theory: the economic of SMEs BE3198, Viewed May 7, 2012 Mulhen, A 2012, Venezuela manufacturing, SME decline and failed transition Mulhnen, A 2012, Systemic competitiveness and SMEs. Section 4 of the lecture notes, Viewed May 7, 2012 Robinson, C., O’Leary, B., Rincon, A 2006, Business start-ups, closures and economic churn: a review of literature. Viewed May 7, 2012 Stokes, D & Wilson, N 2010, Small business management and entrepreneurship, Cengage Learning, Connecticut Richard, S 2011, From recession to renewal: the impact of the financial crisis on public services and local government. The Policy Press, United Kingdom Appendix 1: Raw Data Year Employment /1000 Turnover /£ million No. of Enterprises 2000 22,132.02 2,033,728.48 3,722,610.00 2001 22,621.51 2,112,012.52 3,746,340.00 2002 22,674.31 2,199,923.26 3,797,725.00 2003 21,654.07 2,240,345.11 4,021,390.00 2004 21,999.00 2,350,740.00 4,282,845.00 2005 22,131.00 2,447,644.00 4,342,045.00 2006 22,402.00 2,613,907.00 4,466,700.00 2007 22,734.00 2,794,684.00 4,679,080.00 2008 23,128.00 2,994,978.00 4,783,285.00 2009 22,819.00 3,240,329.00 4,834,045.00 Read More