the advantages and disadvantages of being a small business

1.3 Size of Business – Significance of Small Businesses

Learning Objectives

• Explain how business size is measured and assess the suitability of each method.
• Identify the advantages and disadvantages of being a small business.
• Analyse the role of small firms – especially family‑run enterprises – in the wider economy.
• Describe the main internal and external growth routes for small firms and the impact of mergers, take‑overs, joint ventures and strategic alliances on stakeholders.

What is a Small Business? (Cambridge definition)

A business is classed as a small enterprise if it meets any one of the following criteria (as set out in the Cambridge IGCSE/A‑Level syllabus):

• ≤ 50 employees
• Turnover ≤ £10 million (or the equivalent in local currency)
• Balance‑sheet total ≤ £5 million
• Market‑share below a defined threshold (usually < 5 %)

National thresholds may differ (e.g., EU: ≤ 250 employees), but for the syllabus only the above four criteria are required.

1.3.1 Methods of Measuring Business Size

1.3.2 Significance of Small Businesses in the Economy

• SMEs account for ≈ 99 % of all enterprises in the UK and the EU.
• They provide around 60 % of private‑sector employment and contribute roughly 45 % of GDP (OECD, 2023).
• Over 50 % of UK patents in the last decade originated from firms with fewer than 250 employees – a key source of innovation.
• Policy support (grants, tax reliefs, simplified regulation) is justified by their role in job creation, regional development and competition.

Key Characteristics of Small Businesses

• Owner‑managed or family‑run
• Limited access to conventional finance
• High flexibility in decision‑making
• Close, personal relationships with customers and suppliers
• Often operate in niche or local markets

Family‑Run Small Businesses – Strengths & Weaknesses

1.3.3 Growth Routes for Small Firms

Growth can be categorised as internal (organic) or external. The choice depends on resources, market conditions and stakeholder objectives.

Internal (Organic) Growth

• Re‑investing retained profits into product development or new locations.
• Extending the product/service line.
• Geographic expansion through own‑store openings.

External Growth Options

Decision‑Making Flowchart (suggested diagram)

Start → Assess internal resources → Is organic growth sufficient? → Yes → Implement organic plan → No → Evaluate external options (franchise, alliance, acquisition, external finance) → Choose route → Assess stakeholder impact → Implement.

1.3.4 Impact of Mergers & Take‑overs on Stakeholders

• Owners/shareholders: May receive a premium price or equity in the new entity; risk of loss of control if a takeover occurs.
• Employees: Potential for redundancy, redeployment or new career opportunities; morale can be affected by uncertainty.
• Suppliers: Larger combined firm may negotiate better terms, possibly reducing supplier margins; however, increased order volumes can benefit key suppliers.
• Customers: May gain a wider product range and improved service, but could face higher prices if competition falls.
• Local community: Consolidation can lead to closure of a local outlet, reducing employment, but may also bring investment and modern facilities.

1.3.5 Importance of Joint Ventures & Strategic Alliances

• Allow SMEs to pool scarce resources (R&D, marketing, distribution) without full ownership transfer.
• Facilitate entry into markets where a single SME would lack scale or local knowledge.
• Spread risk – losses are shared, making high‑risk projects (e.g., new technology) more feasible.
• Enhance innovation through knowledge‑spillovers between partners.
• Stakeholder impact is generally balanced: partners share profits, employees may gain new skills, customers receive improved offerings.

Advantages of Being a Small Business

1. Speed of decision‑making – few hierarchical layers enable rapid response to market changes.
2. Close customer relationships – personal contact builds loyalty and provides immediate market intelligence.
3. Lower overheads & bureaucracy – smaller premises and limited administrative staff keep fixed costs low.
4. Innovation driven by necessity – resource constraints stimulate creative problem‑solving and niche product development.
5. Owner motivation & commitment – direct link between effort, profit and reputation encourages high work ethic.
6. Access to alternative finance – micro‑finance, crowdfunding, government grants and business angels can fill the gap left by banks.
7. External economies of scale – clusters, shared services and knowledge spill‑overs can offset limited internal scale.

Disadvantages of Being a Small Business

1. Limited access to conventional finance – higher interest rates, stricter collateral requirements or outright denial of bank loans.
2. Higher unit costs (limited economies of scale) – smaller production runs and weaker bargaining power raise per‑unit expenses.
3. Vulnerability to market fluctuations – thin cash reserves and limited product diversification increase exposure to downturns.
4. Dependence on key individuals – loss of a founder, skilled technician or primary sales contact can disrupt operations.
5. Limited market power – SMEs often face higher input prices and less favourable credit terms.
6. Risk‑management constraints – limited resources for insurance, hedging or specialist advisory services.

Comparison: Small vs. Large Businesses

Illustrative Example: “Sweet Crumbs” Bakery

Profile: 8 employees, annual turnover £250 000.
Advantage in action: After a customer suggests a gluten‑free pastry, the owner develops and launches it within one week, gaining an immediate sales boost.
Disadvantage in action: To open a second shop the owner needs a £100 000 loan; banks refuse on collateral grounds. He secures a regional government grant and raises £20 000 via crowdfunding, but the expansion is delayed.
Contrast with a national chain: The chain obtains financing at 3 % interest, negotiates bulk‑buying discounts, and rolls out the same gluten‑free line across 150 outlets in three months.
Stakeholder impact of a potential takeover: If a larger food‑service group acquires “Sweet Crumbs”, the owner may receive a premium, employees could face redeployment, suppliers might gain larger orders, and customers could lose the boutique feel but gain wider availability.

Key Points to Remember

• SMEs are the backbone of most economies – they create the majority of jobs and a substantial share of GDP.
• Their agility, close customer contact and innovation driven by necessity are core competitive advantages.
• Financial constraints, limited economies of scale and reliance on key individuals are the main challenges.
• Family‑run SMEs add trust and cohesion but face succession and governance issues.
• Growth can be organic or achieved through franchising, alliances, acquisitions or external‑finance‑driven expansion; each route has distinct stakeholder effects.
• Mergers, take‑overs, joint ventures and strategic alliances reshape market structure, redistribute risk and can either enhance or threaten the contributions of small firms.
• Policy measures (grants, tax relief, simplified regulation) aim to offset disadvantages and encourage sustainable growth.

Exam‑Style Question

“Discuss the advantages and disadvantages of small businesses in the context of a rapidly changing technological environment.”

In answering, candidates should:

1. Identify at least three advantages (e.g., speed of decision‑making, innovation driven by necessity, close customer feedback) and three disadvantages (e.g., limited finance for technology investment, vulnerability to rapid market shifts, lack of specialised IT staff).
2. Explain how each point influences performance, using economic terminology such as economies of scale, opportunity cost and risk exposure.
3. Support arguments with real‑world examples (e.g., a local retailer adopting a new e‑commerce platform versus a national chain that can invest in AI‑driven logistics).
4. Provide a balanced judgement on whether the advantages outweigh the disadvantages for SMEs operating in a digital age.