Businesses sell to customers in markets. A market is any place where buyers and sellers meet to trade products - it could be a high street shop or a web site. Any business in a marketplace is likely to be in competition with other firms offering similar products. Successful products are the ones which meet customer needs better than rival offerings.
Markets are dynamic. This means that they are always changing. A business must be aware of market trends and evolving customer requirements caused by new fashions or changing economic conditions.
There is far more to marketing than selling or advertising. Put simply, marketing is about identifying and satisfying customer needs.
The first step is to gather information about customers needs, competitors and market trends. An entrepreneur can use the results of market research to produce competitive products.
New magazines will hope to retain customers after their launch
The first step for a new business or product is to attract trial purchases.
A new magazine may run special offers to get customers to try the first issue, hoping that repeat sales are generated. The magazine will soon close if customers fail to buy future issues. The aim of a special offer scheme is to convert trial purchases into repeat sales.
Market research involves gathering data about customers, competitors and market trends.
The Marketing Mix
The marketing mix is the combination of product, price, place and promotion for any business venture.
No one element of the marketing mix is more important than another – each element ideally supports the others. Firms modify each element in the marketing mix to establish an overall brand image and unique selling point that makes their products stand out from the competition.
Using The Marketing Mix
An exclusive brand of jewellery uses the best materials but comes at a high price. Such designer brands can only be bought at exclusive stores and are promoted using personal selling sales assistants. By contrast, cheap and cheerful jewellery for the mass market is best sold in supermarkets and can be promoted using television adverts.
Market research findings are important in developing the overall marketing mix for a given product. By identifying specific customer needs a business can adjust the features, appearance, price and distribution method for a target market segment.
New technologies and changing fashion means goods and services have a limited product life cycle. Ideally, the marketing mix is adjusted to take account of each stage. For example, the life of a product can be extended by changing packaging to freshen a tired brand and so boost sales.
The overall marketing mix is the business’ marketing strategy and is judged a success if it meets the marketing department’s objectives, eg increase annual sales by 5%.
A product is a good or a service that is sold to customers or other businesses. Customers buy a product to meet a need. This means the firm must concentrate on making products that best meet customer requirements.
A business needs to choose the function, appearance and cost most likely to make a product appeal to the target market and stand out from the competition. This is called product differentiation.
How product differentiation is created:
- Establishing a strong brand image (personality) for a good or service.
- Making clear the unique selling point (USP) of a good or service, for example, by using the tag line quality items for less than a pound for a chain of discount shops.
- Offering a better location, features, functions, design, appearance or selling price than rival products.
An alternative marketing strategy is to produce a budget brand. If a mobile phone has limited functions and a standard design then it can be manufactured cheaply. The low production costs allow for discount pricing.
Remember there is a big difference between costs and price. Costs are the expenses of a firm. Price is the amount customers are charged for items.
Firms think very carefully about the price to charge for their products. There are a number of factors to take into account when reaching a pricing decision:
- Customers. Price affects sales. Lowering the price of a product increases customer demand. However, too low a price may lead customers to think you are selling a low quality ‘budget product’.
- Competitors. A business takes into account the price charged by rival organisations, particularly in competitive markets. Competitive pricing occurs when a firm decides its own price based on that charged by rivals. Setting a price above that charged by the market leader can only work if your product has better features and appearance.
- Costs. A business can make a profit only if the price charged eventually covers the costs of making an item. One way to try to ensure a profit is to use cost plus pricing. For example, adding a 50% mark up to a sandwich that costs £2 to make means setting the price at £3. The drawback of cost plus pricing is that it may not be competitive.
There are times when businesses are willing to set price below unit cost. They use this loss leader strategy to gain sales and market share.
Promotion refers to the methods used by a business to make customers aware of its product. Advertising is just one of the means a business can use to create publicity. Businesses create an overall promotional mix by putting together a combination of the following strategies:
- Advertising, where a business pays for messages about itself in mass media such as television or newspapers. Advertising is non-personal and is also called above-the-line promotion.
- Sales promotions, which encourage customers to buy now rather than later. For example, point of sale displays, 2-for-1 offers, free gifts, samples, coupons or competitions.
- Personal selling using face-to-face communication, eg employing a sales person or agent to make direct contact with customers.
- Direct marketing takes place when firms make contact with individual consumers using tactics such as ‘junk’ mail shots and weekly ‘special offer’ emails.
There is no one right promotional mix for all firms. The combination of promotional elements selected takes into account the size of the market and available resources. Large businesses have the resources to use national advertising. Small firms with limited resources and a local market may instead opt for leaflet drops to promote their activities.
Place is the point where products are made available to customers. A business has to decide on the most cost-effective way to make their products easily available to customers.
This involves selecting the best channel of distribution. Potential methods include using:
- Retailers. Persuading shops to stock products means customers can buy items locally. However, using a middle man means lower profit margins for the producer.
- Producers can opt to distribute using a wholesaler who buys in bulk and resells smaller quantities to retailers or consumers. This again means lower profit margins for the manufacturer.
- Telesales and mail order. Direct communication allows a business to get products to customers without using a high street retailer. This is an example of direct selling.
- Internet selling or e-commerce. Online selling is an increasingly popular method of distribution and allows small firms a low cost method of marketing their products overseas. A business website can be both a method of distribution and promotion.
Developing new or improved channels of distribution can increase sales and allow a firm to grow.
A stakeholder is anyone with an interest in a business. Stakeholders are individuals, groups or organisations that are affected by the activity of the business. They include:
- Owners who are interested in how much profit the business makes.
- Managers who are concerned about their salary.
- Workers who want to earn high wages and keep their jobs.
- Customers who want the business to produce quality products at reasonable prices.
- Suppliers who want the business to continue to buy their products.
- Lenders who want to be repaid on time and in full.
- The community which has a stake in the business as employers of local people. Business activity also affects the local environment. For example, noisy night-time deliveries or a smelly factory would be unpopular with local residents.
Internal stakeholders are groups within a business - eg owners and workers. External stakeholders are groups outside a business - eg the community.
Sources Of Finance
Finance refers to sources of money for a business. Firms need finance to:
- Start up a business, eg pay for premises, new equipment and advertising.
- Run the business, eg having enough cash to pay staff wages and suppliers on time.
- Expand the business, eg having funds to pay for a new branch in a different city or country.
New businesses find it difficult to raise finance because they usually have just a few customers and many competitors. Lenders are put off by the risk that the start-up may fail. If that happens, the owners may be unable to repay borrowed money.
Some sources of finance are short term and must be paid back within a year. Other sources of finance are long term and can be paid back over many years.
Internal sources of finance are funds found inside the business. For example, profits can be kept back to finance expansion. Alternatively the business can sell assets (items it owns) that are no longer really needed to free up cash.
External sources of finance are found outside the business, eg from creditors or banks.
Short-term sources of external finance
Sources of external finance to cover the short term include:
- An overdraft facility, where a bank allows a firm to take out more money than it has in its bank account.
- Trade credits, where suppliers deliver goods now and are willing to wait for a number of days before payment.
- Factoring, where firms sell their invoices to a factor such as a bank. They do this for some cash right away, rather than waiting 28 days to be paid the full amount.
Long-term sources of external finance
Sources of external finance to cover the long term include:
- Owners who invest money in the business. For sole traders and partners this can be their savings. For companies, the funding invested by shareholders is called share capital.
- Loans from a bank or from family and friends.
- Debentures are loans made to a company.
- A mortgage, which is a special type of loan for buying property where monthly payments are spread over a number of years.
- Hire purchase or leasing, where monthly payments are made for use of equipment such as a car. Leased equipment is rented and not owned by the firm. Hired equipment is owned by the firm after the final payment.
- Grants from charities or the government to help businesses get started, especially in areas of high unemployment.
Revenue,Cost And Profit
Revenue is the income earned by a business over a period of time, eg one month. The amount of revenue earned depends on two things - the number of items sold and their selling price. In short, revenue = price x quantity.
For example, the total revenue raised by selling 2,000 items priced £30 each is 2,000 x £30 = £60,000.
Revenue is sometimes called sales, sales revenue, total revenue or turnover.
Costs are the expenses involved in making a product. Firms incur costs by trading.
Some costs, called variable costs, change with the amount produced. For example, the cost of raw materials rises as more output is made.
Other costs, called fixed costs, stay the same even if more is produced. Office rent is an example of a fixed cost which remains the same each month even if output rises.
Another way of classifying costs is to distinguish between direct costs and indirect costs. Direct costs, such as raw materials, can be linked to a product whereas indirect costs, such as rent, cannot be linked directly to a product.
The total cost is the amount of money spent by a firm on producing a given level of output. Total costs are made up of fixed costs (FC) and variable costs (VC).
Profit and loss
Put simply, profit is the surplus left from revenue after paying all costs. Profit is found by deducting total costs from revenue. In short: profit = total revenue - total costs.
For example, if a firm has a total revenue of £100,000 and a total cost of £80,000, then they are left with £20,000 profit.
Profit is the reward for risk-taking. A business can use profit to either:
- Reward owners.
- Invest in growth.
- Save for the future, in case there is a downturn in revenue.
Trading does not guarantee profit. A loss is made when the revenue from sales is not enough to cover all the costs of production. For example, if a company has a total revenue of £60,000 and a total cost of £90,000, then they have lost £30,000 from trading.
Losses can be reduced or turned into profit by:
- Cutting costs, eg by letting staff go and asking those who remain to accept lower wages.
- Increasing revenue, eg by cutting prices and selling more items - if demand is elastic.
Cash flow is the movement of money in and out of the business.
- Cash flows into the business as receipts, eg from cash received from selling products or from loans.
- Cash flows out of the business as payments, eg to pay wages, supplies and interest on loans.
- Net cash flow is the difference between money in and money out.
Profit and cash flow are two very different things. Cash flow is simply about money coming and going from the business. The challenge for managers is to make sure there is always enough cash to pay expenses when they are due, as running out of cash threatens the survival of the business.
If a business runs out of cash and cannot pay its suppliers or workers it is insolvent. The owners must raise extra finance or cease trading. This is why planning ahead and drawing up a cash flow forecast is so important, as it identifies when the firm might need an overdraft.
This is an example of a cash flow forecast for the next three months:
A sample cash flow table for January to March
Item Jan Feb Mar Opening bank balance £2,000 £1,000 £-1,250 Total receipts (money in) £500 £750 £5,000 Total spending (money out) £1,500 £3,000 £2,000 Closing bank balance £1,000 -£1,250 £1,750
At the beginning of January, the business has £2,000 worth of cash. You can see that the total flow of cash into the business (receipts) for January is expected to be £500, and that the total outflow from the business (expenditure) is £1,500. There is a net outflow of £1,000 which means the projected bank balance at the beginning of February is only £1,000.
In February, there are expected payments of £3,000 and only £750 of expected income. This means that the business is short of £1,250 cash by the end of February and cannot pay its bills. An overdraft is needed to help the business survive until March when £5,000 worth of payments are expected.
A business can improve its cash flow by:
- Reducing cash outflows, eg by delaying the payment of bills, securing better trade credit terms or factoring.
- Increasing cash inflows, eg by chasing debtors, selling assets or securing an overdraft.
At low levels of sales, a business is not selling enough units for revenue to cover costs. A loss is made. As more items are sold, the total revenue increases and covers more of the costs. The breakeven point is reached when the total revenue exactly matches the total costs and the business is not making a profit or a loss. If the firm can sell at production levels above this point, it will be making a profit.
Establishing the breakeven point helps a firm to plan the levels of production it needs to be profitable.
The breakeven point can be calculated by drawing a graph showing how fixed costs, variable costs, total costs and total revenue change with the level of output.
Here is how to work out the breakeven point - using the example of a firm manufacturing compact discs.
You can assume the firm has the following costs:
Fixed costs: £10,000. Variable costs: £2.00 per unit
You first construct a chart with output (units) on the horizontal (x) axis, and costs and revenue on the vertical (y) axis. On to this, you plot a horizontal fixed costs line (it is horizontal because fixed costs don't change with output).
Then you plot a variable cost line from this point, which will, in effect, be the total costs line. This is because the fixed cost added to the variable cost gives the total cost.
To calculate the variable cost, you multiply variable cost per unit x number of units. In this example, you can assume that the variable cost per unit is £2 and there are 2,000 units = £4,000.
Once you have done this you are ready to plot the total revenue line. To do this, you multiply:
sales price x number of units (output)
If the sales price is £6 and 2,000 items were to be manufactured, the calculation is:
£6 x 2,000 = £12,000 total revenue
Where the total revenue line crosses the total costs line is the breakeven point (ie costs and revenue are the same). Everything below this point is produced at a loss, and everything above it is produced at a profit.
A business keeps various types of financial record to monitor its performance and ensure that taxes are paid. These include cash flow statements, profit and loss accounts and a balance sheet.
Trading, profit and loss account
A trading, profit and loss account shows the business's financial performance over a given time period, eg one year.
Sample trading, profit and loss account
Sales revenue £80,000 Less costs of sales £50,000 Gross profit £30,000 Less other expenses £20,000 Net profit £10,000
The trading account shows the business has made a gross profit of £30,000 before taking into account other expenses such as overheads.
The profit and loss account shows a net profit of £10,000 has been made.
Total Variable Cost = Variable Cost * Output Level
Total Costs = Fixed Cost + Variable Cost
Total Revenue = Price Per Unit * Sales