Size of firms

How to measure the size of a firm

Firms are usually grouped together as either: large enterprises, or small and medium-sized enterprises (SMEs). The size of a firm can be measured by different ways.

Number of employees

Firms with less than 50 employees are called “small”. Large firms may employ much more than that from thousands to maybe just hundreds. However, large firms can still choose to get rid of capital intensive production and use a lot of machinery. For example, a firm can have 40 employees but are producing popular products that are trending such as a fidget spinner or something else. This firm can be making millions but should it be technically defined as small?

Organization

In large firms, operations are usually divided into different sections or categories, such as marketing, sales, advertising, accountability, etc. Normally, the more sections of organization a firm has, the larger it can be classified as.

Capital employed

Capital employed is how much money is spent on productive assets that can produce and sell goods in a firm. Larger firms tend to have a large amount of capital employed, with not only many employees working, but also machinery. Any form of capital that helps the firm produce and sell goods is classified as capital employed, human or not. The more capital employed a firm has, the higher their scale of production, although some companies can choose to have a more labour intensive production which means that they can hire many workers but at a low price.

Market share

The term market share is the share of the total market sales a firm is able to capture. For example, how much sales a supermarket is able to capture compared to the rest that are competing against it. It is the quantity of total sales revenue in the whole industry that the firm receives. The larger the market share a company has, the bigger the firm is usually described as. However, there is a problem with this measurement, not all market shares are large. Take the example of a new company that sells indoor drones for carrying food. The market share for this industry is extremely low because there is not a high demand for indoor food-carrying drones, and there are very few companies offer products like this.

How firms grow in size

Usually, entrepreneurs want their firms to grow in size and also want to increase the scale of production, or, in other words, producing more output. The two main ways to do this are:

Internal growth

This means expanding the scale of production by buying more equipment or machinery, increasing the size of its premises, and hiring more labour if needed. This will increase its fixed costs. To finance this type of growth, business owners need to use their firm's profit, borrow money from a bank, or sell some of their shares.

External growth

External growth, which is more common, involves one or more firms joining together to form a larger enterprise. We call this integration through a merger or takeover. When two firms merge, the owners of these two firms agree to form a new and larger enterprise. A takeover occurs when one company buys enough shares of another company that it can take overall control. This could also happen without the owners of the second firm agreeing to this. Or, a new company can be formed just for buying shares of other companies, which is called a holding company. The companies that they buy enough shares of can keep their names and management but the holding company gets to decide on overall policies of the firm. An example of a holding company is Alphabet, which owns big tech companies such as Google and many more.
Integration between firms can be classified in three types:

Horizontal integration involves a merger or takeover of firms engaged in the production of the same type of good or service. It occurs when one or more firms agree to make their two or more firms one single firm to take down competitors and earn a larger part of the market share as a joint company. This has many benefits, such as much more customer demand looking for products of one provider that end up also buying from the other companies that have been merged together.

Vertical integration occurs between firms at different stages of production. This means that when a firm does vertical integration, it is essentially buying companies that are necessary for the production or selling of their final products. For example, a cheese producing company can buy the dairy farm that supplies the milk or the cheese shop that sells. All of this is done so that the total cost of production and selling is reduced significantly and to ensure full control of services. An example of vertical integration is Amazon delivering packages to customers themselves with their own shipping service instead of relying on third parties. This allows them to be in control of any package, so if they figure out something is wrong, they can immediately have the package sent back to their premises. More importantly, it reduces the cost of shipping packages that would have to be paid to shipping companies. There are three types of vertical integration: Forward integration occurs when a firm buys a company in charge of the distribution or selling of their products once they have been developed and finished. Backward integration is the opposite of forward integration, it involves buying the firms that supply the necessary materials in order to produce your final product. For example, the cheese company buying the dairy farm where they can get the milk cheaply.

A large glass building that could be a large firm