Understanding the Nature & Purpose of Business

Why Businesses Exist

A business is owned by one or more people. It may also have people who work for the business who are not owners. The owners of business set up for lots of reasons, and those reasons can easily change over time.

1. A business can only survive in the long run if it makes a profit, although most businesses do not exist solely to make the greatest possible
2. A business can only survive in the short run if it can pay its bills on time. That means it needs a positive cash flow.

When you are assessing business decisions, find out the specified reasons for operating, normally their goals. Goals are usually set out as objectives.

Businesses base their decisions on their objectives, which can be day-to-day decisions or decisions that will affect the business in the longer term.

Different businesses, different objectives

Businesses need to make a profit to survive in the long run. Otherwise, they won’t be able to pay their suppliers, employees or their owners. But they rarely aim to maximize their profits.

More startups fail than succeed. So, when a business first starts out, it has to survive in the short run making decisions that generate cash now. This may mean immediate focus on current survival, putting on hold more profitable projects for the future

Most businesses want to grow. That can lead to greater profitability through lower cost per unit or being able to have more control of the market. Some owners prefer to stay the same size because becoming larger may carry greater responsibility and, with that, possibly more stress.

Cash flow determines what is available to the business a day-to-day basis to pay their bills. Failure to pay might lead to problems with supply, staff leaving because they aren’t being paid, or in the worst case scenario, going out of business. Banks and the tax man can force the business to go into administration if they are not paid on time.

Many businesses have stated or unstated social and ethical objectives. Although these objectives may have some positive effect on profits, they are normally in place because the business owners and managers believe they have an obligation to a wider society. This imposes costs on the business, which reduce their profitability. Social objectives might be: developing cheap alternatives to help people in less developed countries. Ethical objectives might be: deciding not to test a product on animals.

Businesses can exist to achieve all of these objectives, even though they might be in conflict with each other. But it is the owners and managers who make the decisions. Their individual human characteristics, their personalities guide that process. So, understanding the personality of the decision maker helps to understand why they made or might make a decision.

The Relationship Between Mission and Objectives

A mission is a short statement which aims to capture the whole direction of the business, giving stakeholders in the business a common sense of purpose.

Missions and mission statements have advantages and disadvantages

Advantages

1. Helps decision making because everyone understands the direction.
2. Can be motivational.

Disadvantages

1. Can be meaningless unless thoroughly understood or clearly expressed.

In larger businesses, where there are lots of layers of management, a mission statement is a good way of conveying a common sense of direction. This helps make decisions more connected.

An example of a mission statement

Provide a global trading platform where practically anyone can trade practically anything.

Common Business Objectives

Typically, the main objectives are:

Survival, profit maximization, profit targets, growth in sales or size, ethical/social objectives.

Here are examples of common business objectives

1. Profitable by the end of the year.
2. Five new shops opening by June.
3. An increase in market share of 5%.
4. To expand in the US in two years’ time.
5. Become carbon-neutral in three years.

Why Businesses Set Objectives

Objectives are targets. They have the following advantages:

1. They allow the business to plan its cash flow, workforce, supplies, output and marketing.
2. The business can check how well it’s doing against these targets.
3. It’s motivational because it’s something to aim at.

In assessing business objectives, consider whether they are SMART and meet the following criteria:

1. __S__pecific – does it apply to something the business does or can do?
2. __M__easurable – can it be quantified?
3. __A__greed – do the key stakeholders who will be involved in delivering the objective agree with the objective?
4. __R__ealistic – is it something that can be achieved in the time frame allowed?
5. __T__imed – when does it need to be achieved by?

Because the marketplace (that’s their customers and competition) is constantly changing, objectives can quickly become obsolete. However, without objectives, planning is difficult. Also, some decisions can take time to come into effect. For instance, installing new machinery, training staff or developing a new product.

The Measurement and Importance of Profit

Profit is measured over a defined time period, such as a year. It’s the difference between the revenue generated over the year less the costs to the business.

A business must earn a profit in the long run to allow it to continue to operate. It can make a loss in the short term as long as it has either spare reserves, can borrow money or delay outstanding payments.

Revenue is also known as sales or turnover. It’s generated from the business’s day-to-day operations.

Costs are split into fixed and variable costs. Fixed costs don’t change with the level or volume of production, while variable costs will.

To measure profit you need you need to know:

1. Revenue, which is the quantity of sales multiplied by the price of the product sold.
2. Fixed costs, such as rent or salaries.
3. Variable costs, like materials and fuel, as components of the product multiplied by the number of units produced.

Definitions

Stakeholders	An individual or organisation who has an interest or concern in the business
Profit	The difference between revenue and costs generated by a business over a period of time
Cash flow	The money coming in and out of the business over a period of time
Objectives	Long-term measurable goals for the business
Social objectives	Goals for the business based on the needs of society
Ethical objectives	Goals for the business based on what they believe is morally right
Missions	A summary of the purposes and values of a business
Revenue	The total sales for a business from its normal operations
Fixed costs	Costs which do not vary with output during a certain time period
Variable costs	Costs which vary in proportion to changes in output