the appropriateness of different methods of measuring the size of a business

1.3 Size of Business – Measurements, Significance of Small Firms & Business Growth

Learning objective

Explain the range of methods used to measure the size of a business, evaluate which method is most appropriate in a given context, describe the economic role of small firms and outline the main routes to business growth.

Why do we measure the size of a business?

• Stakeholders (owners, investors, creditors, government) need reliable information to assess risk, performance and creditworthiness.
• Size indicators help decide whether to enter a market, expand operations or diversify.
• They provide a basis for benchmarking against rivals and industry averages.
• They aid policy‑makers in designing support schemes for different size‑categories.

1.3.1 Measurements of Business Size

Common size indicators

1. Turnover (Revenue) – total sales value before any costs are deducted.
2. Profit (Net Income) – earnings after all expenses, interest and tax.
3. Market share – firm’s percentage of total industry sales.
4. Number of employees – head‑count (full‑time equivalents).
5. Value of assets – total worth of tangible and intangible assets.
6. Production / sales volume – physical units produced or sold.
7. Capital employed – equity + long‑term debt used to finance the business.
8. Revenue per employee – turnover ÷ employee count (productivity gauge).
9. Market capitalisation – share price × number of shares (only for listed firms).
10. Size classification – e.g. micro, small, medium, large (EU/UK thresholds based on turnover, assets and employee numbers).

Comparative table of size indicators

Criteria for choosing the most appropriate size measure

• Industry characteristics – Capital‑intensive (oil, utilities) → Value of assets or Capital employed; Labour‑intensive (retail, hospitality) → Number of employees or Revenue per employee.
• Purpose of analysis
  • Investment decisions – Profit, Return on assets, Market capitalisation.
  • Market positioning – Turnover, Market share, Sales volume.
  • Credit assessment – Asset value, Capital employed.
  • Productivity benchmarking – Revenue per employee.
• Data availability & reliability – Turnover and employee numbers are usually published; market share, asset values or capital employed may require audited accounts or industry reports.
• Comparability – Use the same metric for all firms being compared (e.g., turnover in the same currency and accounting period).
• Time horizon – Short‑term performance – turnover, profit; long‑term strategic planning – assets, capital employed, market capitalisation.

Illustrative example – which measure tells you which “bigger” firm?

Two firms operate in the same sector:

• Firm A: Turnover $50 m, profit $5 m, 200 employees, assets $30 m.
• Firm B: Turnover $30 m, profit $8 m, 120 employees, assets $45 m.

Result of different measures:

1. Turnover – Firm A (larger market presence).
2. Profit – Firm B (more efficient or higher‑margin business).
3. Employees – Firm A (greater labour force).
4. Asset value – Firm B (more capital‑intensive).

Conclusion: “Largest” depends on the analytical purpose. A creditor will focus on assets, an investor on profit, and a marketer on turnover.

1.3.2 Significance of Small Businesses

Key advantages

• Flexibility & innovation – Quick decision‑making; ability to respond to niche opportunities.
• Employment creation – Often the first source of jobs in local economies.
• Economic diversification – Reduces reliance on a few large firms and spreads risk.
• Local community benefits – Profits tend to stay within the area, supporting other local enterprises.
• Supply‑chain role – Provide specialised inputs to larger firms.

Potential disadvantages

• Limited access to finance and credit.
• Vulnerability to economic downturns and market fluctuations.
• Higher unit costs due to lack of economies of scale.
• Dependence on a small number of key personnel; risk of skill loss.
• Less bargaining power with suppliers and customers.

Cambridge‑syllabus emphasis on the role of small firms

• Contribute a substantial share of total employment (often > 50 % in many economies).
• Drive innovation, especially in technology‑driven or creative sectors.
• Act as suppliers to larger firms, forming an essential part of the supply chain.
• Provide a testing ground for new products, services and business models.
• Are the primary recipients of many government support schemes (e.g., grants, tax relief).

1.3.3 Routes to Business Growth

Organic (internal) growth

• Increasing sales – market penetration, new product development, price adjustments.
• Expanding capacity – new facilities, additional staff, investment in technology.
• Improving efficiency – process optimisation, economies of scale, better utilisation of assets.

Inorganic (external) growth

• Mergers & acquisitions (M&A)
  • Horizontal merger – two firms in the same industry combine (e.g., two mobile‑phone manufacturers).
  • Vertical merger – firms at different stages of the supply chain combine (e.g., a retailer acquiring a supplier).
  • Conglomerate merger – unrelated businesses join (e.g., a food company buying a media firm).
• Take‑overs – acquisition of a controlling interest, usually by cash offer or share swap.
• Joint ventures (JVs) – two or more firms create a separate legal entity for a specific project or market.
• Strategic alliances – informal agreements to share resources, technology or distribution without forming a new company.

Evaluation checklist for choosing a growth route

• Strategic fit with long‑term objectives.
• Availability of finance and impact on the capital structure.
• Risk level (e.g., cultural integration risk in a merger, regulatory risk).
• Speed of market entry required.
• Control versus sharing of profits and decision‑making.
• Regulatory considerations (anti‑trust, foreign‑investment rules).

Example – organic vs. inorganic growth

Company X – a regional bakery wants to increase market share.

• Organic route: Open three new stores, launch a premium product line and invest in automated baking equipment.
• Inorganic route: Acquire a smaller competitor that already operates in a neighbouring city, gaining immediate market share and an existing distribution network.

Decision factors include X’s cash reserves, appetite for risk, the speed at which it wishes to expand and the availability of suitable acquisition targets.

Key take‑aways

• No single size measure is universally “best”; the most appropriate indicator aligns with industry characteristics, the purpose of the analysis, data availability, comparability and the time horizon.