How small firms differ from large businesses

How small firms differ from large businesses Penrose (1959) stated that small and large firms are as fundamentally different from each other as a caterpillar is from a butterfly; they identify those characteristics of the small firm, other than size, which distinguish it from the larger enterprise. Thus, while creating, establishing and running a small business, these characteristics will influence the small business owners approaches and management style compared to large ones. Wynarczyk et al (1993) argue that there are three central respects in which small firms are different to large firms: Uncertainty The first key area of differences is uncertainty. With regard to uncertainty, three dimensions have been identified: The first uncertainty is the lack of market power, Thus, when creating and establishing a small business, the owner should have a clearer approach of the lack of market power as an external uncertainty. This associates small businesses as the price-taker as they have no power to set prices, as the threats of new entrants is high. However, it can be argued that it depends on what type of small businesses does the owner want to create, establish and run. For instance, focusing on niche markets with good customer-engagement approach, such as a small holiday agency, will make small businesses to have an influence in setting their prices. Hence, small businesses have to seek to compete in other ways such as service, quality, and timeliness. In contrast, large businesses are the price-maker due to high market power; this has to be used carefully to avoid attracting the attention of competition authorities. So, market prices are strongly influenced by large businesses that, through scale economies, should be able to set low prices. The marketing approach would be to use an integrated communication mix such as, mass advertising and PR, as their financial resources allow them to do so. Thus, the competitive focus of small and large businesses is likely to differ sharply. The second source of uncertainty for small firms is their limited customer and product base. A classic example is where small firms simply act as subcontractors to larger firms. Such firms are open to subcontractor vulnerability (Lyons and Bailey, 1993), which is created not only by dependence on dominant customers, but also upon the extent to which output is specialised to particular customers. The smaller firm clearly perceives to be more vulnerable than the larger firm and acts accordingly (Lyons and Bailey, 1993). The third uncertainty relates to the much greater diversity of objectives of the owners of small firms, compared with large firms. Many small business owners seek only to obtain a minimum level of income rather than maximising sales or profits (Storey 1994). Small business owners do not have to concern themselves with reporting their actions to external shareholders and so performance monitoring effectively do not exist. For a small firm, the relationship between the business and the owner is very much closer than it is between the shareholder and the large firm, and so the motivation of the owner of the small firm is a key influence upon the small firm performance (Storey, 1994). Large firm emphasises the importance of control. The central issue is how the owners of the business ensure that the managers of the business act in their interest, and how senior managers exert control over more junior managers. This form of internal conflict is largely absent in small firms (Storey, 1994) where ownership and control are located in the hands of a few people or even a single individual, thus, while running a small business, the owner will adopt a more dynamic and organic management style. In contrast, large businesses are more likely to suffer from internal uncertainty, defined by Curran and Blackburn (2001), as an inability to deliver a product or service consistently throughout the organisation. Much managerial time in large businesses is devoted to address this issue with therefore formality and procedures implemented. Hence, the large businesses tend to have a bureaucratic management style with formal control over performance. Innovation A second key area of difference between small and large firms is their approach to innovation. The role small firms play in innovation relates to their niche role where: it is the ability of the small firm to provide something marginally different, in terms of product or service, which distinguishes it from the more standardised product or service provided by the larger firm (Storey, 1994: 11-12). Small firms are more likely to introduce fundamentally new innovations than larger firms, a feature often attributed to small firms having less commitment to existing practices and products (Pavitt et al. 1987). However, Schumpeter (1934) has provided empirical evidence that large businesses use static measures, and are more innovative than smaller businesses. This is because most small businesses do not set out to be innovative: at best, their key innovation is just to enter a given market. Furthermore, Van Praag and Versloot (2007) stated that small businesses are likely to commercialise innovations but less likely to adopt innovations. However, large businesses innovation capitalise on heavy expenditure on formal research and development. While most small businesses do not innovate, and many fewer undertake formal research and development, those that do are able to bring ideas to the marketplace quickly if they are able to access suitable funding. Evolution The third area of difference between small and large firms is the greater likelihood of evolution and change in the smaller firm (Storey, 1994). Small firms that become larger undergo a number of stage changes which influence the approaches and style of management as well as the structure of the organisation (Scott and Bruce, 1987) than is the case for larger firms (Storey, 1994). Thus, creating, establishing and running a new small business has different approaches, management styles and skills learn through experience, at different stages of the small business development. Churchill and Lewis (1983) summarised the Five Stages of Small Business Growth stating that small businesses have varied management styles and approaches according to the stage the small business is in. For example, being at the existence stage (creating and establishing), the owner has direct supervision management style; his major strategy approach would be to stay alive, thus, there would be no formal systems to follow. Figure : source http://www.tameer.org.pk/images/The_Five_Stages_Of_Small_Business_Growth.pdf [accessed on 17/11/2010] However, not all small businesses grow; some of them fail to survive due to the lack of environmental scanning; finance or planning. Moreover, Hakim (1989), in her survey of approximately 750,000 UK businesses, 55 per cent had no plans for growth, at a time when the economy was growing. The finding was clearly influenced by business size, with 60 per cent of businesses with fewer than 3 workers having no growth aspirations, compared with only 2 per cent of those with 25-49 employees. Hence, the smaller the operational size of the business the less likely it is to seek to increase its scale or growth. Skills Required to Create, Establish and Run a Small Business A skill is simply a knowledge which is demonstrated by action. It is an ability to perform in a certain way. The Five-Must Skills Requires when creating; establishing and running the Small Business Planning skills Personal skills and characteristics Sales and marketing skills Accounting and financial skills Administrative skills These are the basic skills necessary to enable the small business owner to start, develop, finance, and market his small business. Apart from all these skills mentioned, other important skills are needed to run a business mainly: leadership skills; human skills; conceptual skills and technical skills. Planning skills Creating a new business is the pre-start-up phase where planning skills are very important. While creating the business, an appropriate business plan is required which explain the business concept and model (Justin et al 2002). The business plan will require the owner or shareholder to have an organisation-wide approach skill as it consists of the business model, financial, marketing and operational management plan. The approaches towards the business plan in small and large businesses differ. According to (Bridge et al. 1998), the preparation of business plan may be unsuitable for small businesses due to the dynamic changes in the environment. Small business has a more tactical approach to planning as they concentrate on the survival and stability strategy at the creating and establishing stage and an emergent strategy at the running stage In addition, Paul D. Hannon and Andrew Atherton (1997) developed a model of planning in the journal of small firm success and show that there is a critical relationship between planning in small business and strategic awareness capability which lead to the small business success known as the successful orienteer. Nevertheless, this is not always the case for small business owner to be a successful orienteer due to the internal and external factors affecting them. However, in large businesses, they have a strategic (long term vision) approach as regard to their business plan. They emphasised the corporate level of strategy (Philip S, 2003) which aim for the stability and growth. The corporate strategy seek to grow the business by implementing long term marketing strategies (the Ansoff Matrix) and also to achieve higher profitability, sales revenue and to have better competitive advantages over its rivals. Figure : Ansoff Matrix (2007 When creating; establishing and running a small business time management skills are also essential. The small owner should be able to create a work life balance. Small business owner may spend too much time at work. Moreover, their main motivation is their income to satisfy their family needs, thus, they should make effective decisions to balance their business life with their personal life. Figure : The business/Personal overlap In contrast, large businesses have an effective time management skills, due to formal procedures of meeting deadlines and being compliance with legal proceedings. Personal skills In the early stages of business development, the personal characteristics and skills of the small business owner will influence the management style of the business. Thus, the individual attributes influence the skills of the owner which shapes the leadership outcomes. General cognitive ability Motivation Personality Individual attributes Problem solving skills Social judgement skills Knowledge Competencies Leadership outcomes Effective problem solving Performance Table : the three components of the skills model pg. 41 According to Lundberg (1985), the personal skills and characteristics such as problem-solver, determination, self-discipline, analytical skills, good judgement of characters and so on, motivate the small business owner to create and establish and also run his business successfully, and as Birley (1996) mentioned à ¢Ã¢â€š ¬Ã‚ ¦.The owner perceives the business as an extension of his or her personality, intricately bound with family needs and desires. However, many small businesses fail compare to large businesses because they run their business as an extension of their personality. For example, if the small business owner is introvert, quite assertive, make his own decision rather than consulting subordinates or explore the external environment, he/she is more prone to adopt the closed and indirect management style rather than open and direct management style (David A 1993) which may result in failure. The self-motivating skills and aspirations of small business owners are also different from those who operate large businesses. Miner (1997) concluded that small business owners are motivated by their performance, independence, status and family needs. Gray (2002); Hart and Oulton (1996), some are lifestyle owners of small businesses whose object is primarily to obtain a comfortable living for themselves, it may be a hobby that generate incomes or to pass on their business to family members. In contrast, a minority may wish to grow their business rapidly. However, owners or shareholders of large businesses seek to maximise the value of the company. The task management is to achieve this maximisation of shareholders value by seeking profit maximisation and continuous growth and expansion. In addition, the management style will be mostly influenced by the organisational culture, which consists of six elements according to Johnson and Scholes (1992). Figure : Johnson Cultural Web (1992) Networking skills including interpersonal skills are also important. Networks can be defined as: à ¢Ã¢â€š ¬Ã‚ ¦ a firms set of relationships with other organisations (Perez and Sanchez 2002:261). In essence, what Birley (2002) suggests is that individuals use their networks to gain legitimation and resources for their established business. Without the benefit of such support, the implication is that many new established (start-up) businesses would be stillborn. The social network approach differ from the way small businesses use it compared to large ones in order to support the development of their business. Small businesses uses the support of its family, limited customers base and other owners of small businesses to develop the establish organisation whereas, large businesses use a pool of social network (stakeholders). Thus, Birley states the credibility is lower in small businesses, than in large businesses due to the lack of market power and sources of funds to satisfy the suppliers and customers. Figure : The credibility cycle (Sue Birley and David Norburn, 1976) Sales and Marketing skills The business should create awareness of his product or service and distinguish them from their competitors by effective marketing skills. The business then needs to be able to convert interest into cash! This is where sales, oral communication, negotiation skills and interpersonal skills come in. Thus, the small business owner should rely on their effective sales and marketing skills to maintain and acquire good customer relationship. For example, identify the sales opportunity, be confident to handle objection and negotiate to reach win-win situation (Fred E, 1987). In large business, lot of finances are put towards sales and marketing. In addition, specialist sales and marketing manager, with high competence, expertise and knowledge, are those who deal with different sales and marketing techniques to be implemented in order to have good customer relationship and expand their product/market portfolio. Besides, in large businesses, brand positioning plays a big role in their marketing strategy. Shocker et al. (1994) and Hatten and Schendel (1977) reveals that in large businesses, brand can be a positive factor influencing sales. It provides the customer with the awareness leading to confidence and ultimately loyalty. They also showed that small businesses such as hairdresser; pubs, corner shops etc., have no brand value, apart from some local loyalty. Thus, protecting a positive brand image is vital for large businesses. Accounting and Financial skills When creating, establishing and running a small business, the most important skill that the owner should possess is the financial skill. To implement the business idea, source of finance is required to start-up and run the establishment. Financial skills include: planning annual budget; cash flow forecast, effective management of the cash cycle; avoid overtrading and the profit and loss account should be analysed. In small businesses the owner has hands-on skills, thus, such financial skills are needed to survive and remain in existence. However, large businesses are in better advantage as they not only have specialist financial analysts to analyse their accounts and prepare their budgets, but the banks and building societies also help them. In addition, Ang (1991), conducted empirical evidence and stated that small businesses are funded primarily from the owners savings and retained profits and the use of external equity is rare. Small businesses pay higher interest rates on borrowed funds than large businesses, which have a wide choice of sources of finance. Thus, the small businesses faces lots of financial difficulties as mentioned in the figure below. Figure : The Financial Skills face by Small Business Owners by Jonathan Tucker and Jonathan Lean -2003 Administrative skills Administrative skills include a wide range of organisational and technical skills from planning, organising, scheduling and to staffing. Thus, a small business owner should possess administrative skills, such as good filing procedure for the billings, invoices and so. In contrast, large businesses normally have the finance to invest in latest technology in order to manage their administrative skills. Key Differences in Running Small businesses and Large Businesses: Skills; Approaches and Management style The management styles are distinctive ways of making decisions and relating to subordinates. Different management styles can be used dependent on the culture of the business, the nature of the task, the nature of the workforce and the personality and skills of the owners or leaders. As discussed in the essay, the small business owners skills are more or less the same as the entrepreneurial skills, they adopt an adaptive and organic management style whereas large businesses ownership skills are more predictive and mechanist which relate to their autocratic management style. Figure : Differences between the small business management skills and management style compared to large ones (Beaven and Jenning- 1995) However, stating that large businesses have a more autocratic management style due to its bureaucratic organisational structure, is too generalised, ignoring the fact that the management styles and the relative importance of the skills (technical; decision-making and interpersonal skills) varies within the level of management. Management level Primary Management Skills needed Primary Management Functions Performed Management or leadership styles Top Decision-Making and Interpersonal skills Planning and Organising Participative leadership style Middle Balance of Interpersonal; Technical; and Decision-Making skills Balance of all five functions (Planning; Organising; Controlling; staffing and Leading) Balance of autocratic; democratic and paternalistic as result to circumstances First-Line Technical and Interpersonal Skills leading and controlling Balance of democratic and autocratic as result to circumstances Table : Skill needed; Function performed and Management styles used at different management levels. Source: lassier (2002) In addition, the culture prevails in the organisation will shape the organisational structure. Nowadays, many large businesses, such as BQ are concentrating in developing a flat structure, with more flexibility. Besides, approaches and management styles changes according to circumstances and objectives. Skills can quickly become obsolete if owners or shareholders are not constantly updating them. Thus, training and development and knowledge management of the owners and employees are very crucial. In small businesses, owners management style will be influenced by their skills and characteristics, thus, stating that due to informal control and undifferentiated roles, the small businesses have an organic or flatter structure due to fewer tiers is not always the case. Some small businesses fail as some owners are autocratic as they want things to be done their way and are often the one who makes decisions without consulting the employees and analysing the external environment. The table below will provide evidences of the key differences between small and large businesses as regard to the running of the business which will influence the owners skills, approaches and management style. Aspect (Evidence) Small Business Large Business What difference does it make? Strategy (Man et al. 2002; Rangone 1999) Has to be flexible since it lacks the opportunity to reap scale economies. So, more likely to develop an emergent strategy The large business will seek to exploit its price advantages, and advantage obtained by heavy investment in people, fixed assets or research and development The development of new markets and particular new industries has often been pioneered by smaller businesses. Once, those industries have become established, average business size increases because economies of scale become important Political influence (Dannreuther 1999) The individual small business, acting alone, will have minimal impact on government. Large businesses are widely consulted by governments, even at the early stage when legislation is considered. Large businesses have considerable power and can influence the formulation of government policy. If legislation. However, large businesses argue that, whilst they comply fully with legislation, smaller businesses can avoid enforcement by avoiding the scrutiny of government. Wages and benefits for workers (Brown et al. 1990; Troske, 1999) Small businesses generally pay lower wages and provide fewer fringe benefits Larger businesses pay higher wages and provide more fringe benefits Large and small businesses hire different types of worker. The small business worker is more likely to be either old or young, attracted by a team ethnic and less likely to have formal qualifications. Human resources (Vickers et al. 2005; Forth et al. 2006) At their best, small businesses provide a happy environment in which to work. At, their worst, they can be unsafe, exploitative, working environments. Large businesses are more likely to attract prime age workers, with formal qualifications, and those seeking a career. Overall, job satisfaction appears to be higher in small than in large businesses. Large business workers are likely to receive a higher remuneration package but small business workers may derive greater satisfaction from flexibility and sense of teamwork. Training and Recruitment (Carroll et al. 1999; Storey 2005) Small businesses provide less training and recruit new staff through informal channels. Large businesses are much more likely to provide formal training and use formal channels to recruit new staff. Small businesses, because they emphasise the use of informal procedures, are viewed by some as backward. But this is to misunderstand the motivations and constraints of small business owners. What is less clear is whether small businesses provide more informal training than large ones. Competitive advantages (Jennings and Breaver 1997) Flexible, responsive to the customer. Able to undertake investment and provide a more comprehensive service. Large businesses can reap scale economies, so they are more likely to be able to compete on price. They are also able to supply a wider range of liked services, avoiding the need for customers to have to shop around. Table : The key differences between small and large businesses; Source: Storey and Greene (2010) Conclusion Thus, creating, establishing and running a small business does require some of the skills as operating large ones, but the approaches and management styles will be different to large and small businesses due to their differences in characteristics and the different factors affecting them internally and externally. Besides, the small business owners do have different goals, plan, skills and approaches. For example, a small business owner has undifferentiated roles, thus need to have a hand-on skills to promote diversity and flexibility. However, it was also mentioned that skills and management style varies upon the levels of management and also people are different individuals who use different management styles according to the circumstances and objectives. The key advantage of the small business is that while the external uncertainty they experienced are greater than large businesses, they experienced less internal uncertainties due to their close control over the business. In addition, small businesses see themselves as customer focused, placing emphasis on service. However, generalisation is untrue: that all small businesses have lack of market power and do not grow. For example, the crematorium, a small business was able to exert real market power over a competitor. We should not forget as well that skills; approaches and management style of small businesses would be different to large businesses because small businesses tend to be higher in the risk of failure. The main reasons are normally lack of contingency plans, poor risk assessment done and lack of leadership style. This is why small businesses concentrate on cash rather than profit (Birley, 1992).