An Introduction Business

The Basics of Supply and Demand To appreciate how perfect competition works, we need to understand how buyers and sellers interact in amarket to set prices.. Finally, we’ll see how suppl

An Introduction to

Business

v 2.0

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About the Author 1

Acknowledgments 2

Dedication 5

Preface 6

Chapter 1: The Foundations of Business 11

Introduction 13

Getting Down to Business 15

What Is Economics? 20

Perfect Competition and Supply and Demand 27

Monopolistic Competition, Oligopoly, and Monopoly 33

Measuring the Health of the Economy 36

Government’s Role in Managing the Economy 44

Cases and Problems 48

Chapter 2: Business Ethics and Social Responsibility 53

Misgoverning Corporations: An Overview 56

The Individual Approach to Ethics 62

Identifying Ethical Issues 72

The Organizational Approach to Ethics 80

Corporate Social Responsibility 85

Environmentalism 97

Stages of Corporate Responsibility 104

Cases and Problems 110

Chapter 3: Business in a Global Environment 117

The Globalization of Business 119

Opportunities in International Business 131

The Global Business Environment 142

Trade Controls 154

Reducing International Trade Barriers 159

Preparing for a Career in International Business 166

Cases and Problems 169

iii

Sole Proprietorship 179

Partnership 182

Corporation 187

Other Types of Business Ownership 193

Mergers and Acquisitions 201

Cases and Problems 205

Chapter 5: The Challenges of Starting a Business 211

What Is an Entrepreneur? 213

The Importance of Small Business to the U.S Economy 222

What Industries Are Small Businesses In? 228

Advantages and Disadvantages of Business Ownership 233

Starting a Business 238

The Business Plan 248

How to Succeed in Managing a Business 256

Cases and Problems 263

Chapter 6: Managing for Business Success 269

What Do Managers Do? 271

Planning 273

Organizing 283

Directing 298

Controlling 302

Managerial Skills 305

Cases and Problems 312

Chapter 7: Recruiting, Motivating, and Keeping Quality Employees 321

Human Resource Management 323

Developing Employees 332

Motivating Employees 338

What Makes a Great Place to Work? 346

Performance Appraisal 358

Labor Unions 367

Cases and Problems 375

Why Teamwork Works 393

The Team and Its Members 399

The Business of Communication 410

Communication Channels 416

Forms of Communication 429

Cases and Problems 439

Chapter 9: Marketing: Providing Value to Customers 446

What Is Marketing? 448

The Marketing Mix 457

Pricing a Product 467

Placing a Product 472

Promoting a Product 484

Interacting with Your Customers 490

The Product Life Cycle 500

The Marketing Environment 505

Careers in Marketing 517

Cases and Problems 520

Chapter 10: Product Design and Development 526

What Is a Product? 527

Where Do Product Ideas Come From? 533

Identifying Business Opportunities 537

Understand Your Industry 541

Forecasting Demand 545

Breakeven Analysis 550

Product Development 554

Protecting Your Idea 560

Cases and Problems 562

Chapter 11: Operations Management in Manufacturing and Service Industries 568 Operations Management in Manufacturing 570

Facility Layouts 579

Managing the Production Process in a Manufacturing Company 583

Graphical Tools: PERT and Gantt Charts 588

The Technology of Goods Production 592

Operations Management for Service Providers 595

Producing for Quality 605

Cases and Problems 612

v

Understanding Financial Statements 626

Accrual Accounting 641

Financial Statement Analysis 653

The Profession: Ethics and Opportunities 667

Cases and Problems 676

Chapter 13: Managing Financial Resources 685

The Functions of Money 686

Financial Institutions 691

The Federal Reserve System 701

The Role of the Financial Manager 707

Understanding Securities Markets 719

Financing the Going Concern 728

Careers in Finance 733

Cases and Problems 737

Chapter 14: Personal Finances 746

Financial Planning 760

Time Is Money 776

The Financial Planning Process 782

A House Is Not a Piggy Bank: A Few Lessons from the Subprime Crisis 796

Cases and Problems 807

Chapter 15: Managing Information and Technology 809

Data versus Information 811

Managing Data 819

Types of Information Systems 824

Computer Networks and Cloud Computing 832

Data Communications Networks 840

Security Issues in Electronic Communication 848

Careers in Information Management 858

Cases and Problems 860

Chapter 16: The Legal and Regulatory Environment of Business 864

Law and the Legal System 867

Criminal versus Civil Law 873

Negligence Torts 881

Product Liability 889

Some Principles of Public Law 906

Cases and Problems 927

Karen Collins

Dr Karen Collins is associate professor of accounting at

Lehigh University in Bethlehem, Pennsylvania She has

a Ph.D in accounting from Virginia Tech Dr Collins

coordinates the college's freshman-level Introduction to

Business course Exploring Business has evolved based on

Dr Collin’s innovative and successful approach to

Lehigh’s Introduction to Business course She was

honored with an Innovation in Teaching Award for the

course from the Middle Atlantic Association of Colleges

and Business Administration

Dr Collins’s research interests include upward mobility

of women in accounting, quality of life issues, stress, and ethnic diversity in the

accounting profession She has published articles in journals such as Accounting, Organizations and Society, Accounting Horizons, Journal of Accountancy, Journal of

Vocational Behavior, and Journal of Occupational Health Psychology.

Dr Collins has won numerous teaching awards while at Lehigh, including theDeming Lewis Faculty Award (for the faculty member who had the strongest

influence on the ten-year graduating class); the Faculty Recognition Award (fromthe Dean of Students Office); and the Andersen Consulting Faculty Fellowship forExcellence in Teaching

1

The author would like to thank the following colleagues who have reviewed the textand provided comprehensive feedback and suggestions for improving the material:

• Tim Allwine, Lower Columbia College

• Douglas Antola Crowe, Bradley University

• Vondra Armstrong, Pulaski Technical College

• April Bailey, Shippensburg University of Pennsylvania

• Michael Baran, South Puget Sound Community College

• Ruby Barker, Tarleton State University

• Murray Brunton, Central Ohio Technical College

• Laura Bulas, Central Community College

• Leon Chickering, South Puget Sound Community College

• Glenn Doolittle, Santa Ana College

• Amy Epplin, Rend Lake College

• Andrea Foster, John Tyler Community College

• Joseph Fox, Asheville-Buncombe Technical Community College

• Leatrice Freer, Pitt Community College

• George Generas, University of Hartford

• Connie Golden, Lakeland Community College

• David Gilliss, San Jose State University

• Alfredo Gomez, Broward College

• Madeline Grant, Santa Ana College

• Graham Harvey, Athivia College

• Graham Henning, Adelphi University

• Gail Jacobs, LA College International

• Francis Krcmarik, Mott Community College

• Elaine Madden, Anne Arundel Community College

• Timothy March, Kaskaskia College

• Marian Matthews, Central NM Community College

• Gina McConoughey, Illinois Central College

• Tom McFarland, Mt San Antonio College

• Bill McPherson, Indiana University of Pennsylvania

• Diane Minger, Cedar Valley College

• Jennifer Morton, Ivy Tech Community College of Indiana

• John Olivo, Bloomsburg University of Pennsylvania

• Lauren Paisley, Genesee Community College

• Col Stephen Pomeroy, Norwich University

• Anthony Racka, Oakland Community College

• Nancy Ray-Mitchell, McLennan Community College

• P Gerard Shaw, Dean College

• Martin St John, Westmoreland County Community College

• John Striebich, Monroe Community College

• Frank Titlow, St Petersburg College

• Bob Urell, Irvine Valley College

• Dean Williamson, Brewton-Parker College #2004

• John Wolford, LaBrae High School

In addition, a select group of instructors assisted the development of this material

by actually using it in their classrooms Their input, along with their students’feedback, has provided us critical confirmation that the material is effective andimpactful in the classroom:

• Nikolaos Adamou, Borough of Manhattan CC

• April Bailey, Shippensburg University of Pennsylvania

• Michael Davis, Yavaipai College

• Andrea Foster, John Taylor Community College

• Frank Markham, Mesa State

• Donn Miller-Kermani, Florida Institute of Technology

• Diane Minger, Cedar Valley College

• Tony Racka, Oakland Community College

• P Gerard Shaw, Dean College

• Dean Williamson, Brewton-Parker College

• David Woolgar, Santa Ana College

I am sincerely grateful to a great team of individuals atUnnamed Publisherwhomade working on this project an enjoyable experience Special thanks to JeffShelstad and Eric Frank for their confidence in me and in the project and to SharonKoch-Schwarzmiller for her enthusiasm Thanks to my project manager, BeckyKnauer, for her hard work, dedication to quality, constant support, and positiveattitude Thanks also to several very special friends who made substantialcontributions to the textbook project: Ron Librach, Joseph Manzo, Judy Minot, andEleanore Stinner

Thanks to the members of the Introduction to Business faculty team at LehighUniversity who are a constant source of ideas and advice Their excitement aboutthe course and dedication to our students create a positive and supportive teachingenvironment I enjoy the hours we spend in the “bullpen” sharing teaching tips,brainstorming ways to improve the course, and just having fun

3

Finally, I thank my husband, Bill, my sons, Don and Mark, and their wives, Courtneyand Tara, for their support and encouragement during this project They’re the best

of my world

This book is dedicated to Jayden, Jack, Rowan, and Brooke who always bring joy to

my heart and a smile to my face

5

My desire in writing this text was to provide faculty with a fully developed teachingpackage that allows them to enhance student learning and introduce students to

business in an exciting way Exploring Business is designed to be a powerful but to-use teaching tool I’ve devised a broad range of features that allow instructors to

simple-introduce students to business in an exciting way, but also worked to fashion

material that’s straightforward, current, relevant, and easy to teach from The text

is purposely brief and covers business essentials without burdening students orfaculty with unnecessary detail

What’s New in the Second Edition

Given the dynamic nature of business today, it is essential that business texts stay current, and this was the goal of the second edition The

introduction-to-coverage in each chapter was updated to reflect today’s environment in business.This was accomplished by updating the chapter content, tables, figures, exercises,problems, and cases Numerous business examples were added to the text andseveral new topics that are crucial to business today were introduced, includingsustainability, serial entrepreneurship, social media marketing, and cloud

computing

Overview of Textbook Package

I’ve tried to build a textbook package that’s as supportive as possible to both

students and faculty The textbook package supports learning through content andteaching materials designed to help students master topics and assess their

learning The sixteen chapters are written using a modular format with

self-contained sections Each module ends with a detailed summary and relevant

exercises written to assist students as they learn from the text

Using our make-it-your-own (MIYO) platform, you can easily customize your book

to suit your needs and those of your students You can reorder, add, or deletechapters and sections; upload your own word or PDF documents; insert videos; adddiscussion questions; and even edit the text at the line level

As in other Introduction to Business books, this text uses a wide variety of

company-specific examples However, I improve on the traditional approach by

adding an optional case study of a dynamic organization that can easily be

integrated into the text The company chosen for this purpose is Nike I have also

included an optional business plan project.

I have designed this textbook package to be flexible and meet the needs of four

groups of instructors—those who want to

• teach the course using the textbook alone;

• teach the course using the comprehensive Nike case (or a company oftheir choice);

• teach the course using the optional business plan project; or

• teach the course by incorporating both a company case study and thebusiness plan project

Enhanced Learning

“Tell me and I forget Teach me and I remember Involve me and I learn.”

I believe that this quote summarizes an important goal of this textbook package: to encourage students to be active learners Thus I’ve designed the textbook to facilitate

the attainment of this goal I strive to enhance student learning through provoking questions, problems, and cases that ask students to do more than merelyregurgitate information from the text Most of these exercises require students togather information, assess a situation, think about it critically, and reach aconclusion Many are based on current business situations involving well-knowncompanies of interest to students Each chapter presents a number of Questions andProblems as well as five cases on areas of skill and knowledge endorsed by theAssociation to Advance Collegiate Schools of Business (AACSB): Learning on theWeb, Career Opportunities, The Ethics Angle, Team-Building Skills, and The GlobalView The questions are challenging and stimulating, and most are appropriate forin-class discussions More than 70 percent of our items help students build skills inareas designated as critical by AACSB, including analytical skills, ethical awarenessand reasoning abilities, multicultural understanding and globalization, use ofinformation technology, and communications and team-oriented skills EachAACSB-inspired exercise is identified by an AACSB tag and a note indicating therelevant skill area

thought-Author-Prepared Instructor’s Manual

For the past twelve years, I have been developing, coordinating and teaching anIntroduction to Business course in which first-year students are introduced tobusiness through the study of Nike and the preparation of a business plan During

7

this twelve-year period, more than 3,500 students have taken the course Over theyears, sections of the course have been taught by a mix of permanent faculty,graduate students, business executives, other adjuncts, and even the dean Eachsemester, I oversee the course and guide approximately ten instructors as theyteach their sections—a task that’s been made possible through the development andcontinuous improvement of extensive teaching materials.

Because I feel strongly that well-structured and easily understood teachingmaterials are vital to the success of this course, I have personally written theInstructor’s Manual In doing this, I relied on the experiences that I’ve gained indeveloping these materials for my faculty team The Instructor’s Manual includescomprehensive teaching notes that integrate material from the chapter, materialgeared toward the optional Nike case study, and material dedicated to the optionalbusiness plan project The easy-to-use notes include teaching tips and ample in-class activities The Instructor’s Manual also contains author-prepared solutions toall questions, problems and cases

Test Item File and PowerPoint Slides

The teaching package includes an extensive Test Item File designed to assessstudents’ understanding of each of the learning objectives The Test Item File isgrouped by module In addition, there are about thirty-five to forty PowerPointslides per chapter

Nike: An Integrated Case Study

A Nike case study is available for those instructors who decide to introduce theirstudents to business using an exciting case—one which is updated yearly Through

an in-depth study of a real company, students can learn not only about thefunctional areas of business, but how these functional areas fit together Studying adynamic organization on a real-time basis allows students to discover the

challenges that it faces and exposes them to critical issues affecting the business,such as globalization, ethics and social responsibility, diversity, sustainability,product innovation, supply chain management, social medial marketing, and e-business

Students learn about Nike by reading a case study based on extensive research andexecutive interviews The case is broken down into 26 individual case notes, whichare linked to the appropriate sections of the text Each provides a real-worldexample to help students master a particular business topic For example, afterreading about the ways companies promote their products, students are directed to

a Nike case note that traces the evolution of the company’s promotional strategies,

including its well-known sports-marketing efforts After reading chapter materials

on the pros and cons of doing business in a global environment, students can read aNike case note that examines both the benefits that Nike derives from its

international operations and the responsibilities that it has to the countries inwhich it operates

We help students expand their understanding of Nike by providing four winning videos featuring key company executives discussing specifically chosentopics: the company’s history, its corporate-responsibility challenges andinitiatives, its commitment to product innovation, and its carefully orchestratedentrance into the soccer-shoe market We structured interview questions to elicitinformation that will be valuable to students in mastering particular topics, andwe’ve selected and organized footage to capture students’ attention Instructors canshow the 15-minute videos in class or ask students to watch them online Discussionquestions, written by the author, aid classroom discussions on the topics covered inthe videos Each chapter also contains a multi-part question on one of the Nike casenotes covered in the chapter These questions require students to think about thecase and present their opinions on the issues covered In addition to these

award-questions, the test item file contains multiple-choice questions keyed to the Nikecases

Current (and sometimes controversial) topics can be woven into the class throughNike-related memo or e-mail writing (or debating) assignments accompanying eachchapter These assignments, which are updated frequently, provide students with

an opportunity to strengthen their writing skills and form opinions on currentissues affecting Nike One assignment, for example, asks students to deliver anopinion on Nike’s failure (until recently) to connect with female consumers

Another asks students to discuss Nike’s use of celebrity athletes in light of recentscandals involving several of its athletes Once the memos themselves have beencomposed, they underpin excellent in-class discussions or debates In fact, as analternative to having students write memos, instructors might ask students toresearch the topic and come to class prepared to debate the pertinent issues

I’ve found that, by studying Nike, students willingly participate in classroomdiscussions Why? Because Nike is on just about everybody’s radar screen Studentsenjoy discussing the opportunities and challenges faced by Nike and speculating onwhat the company intends to do about them, now and in the future

Business Plan Project

I’m convinced that having students develop a business plan as a component of anIntroduction to Business course has considerable academic value A business plan

9

project introduces students to the excitement and challenges of starting a businessand helps them discover how the functional areas of business interact Thus this

textbook package includes an optional business plan project that’s fully integrated

into the book The business plan project is modeled after one used and refined by

me and my teaching team over the past twelve years During this time period, morethan 800 student teams have prepared and presented business plans using thisapproach

If their instructor elects to assign the business plan project, students begin theproject early in the course by reviewing a document describing the business planproject In chapters that follow, students are asked to complete another section ofthe 10-part business plan project By the time they’ve reached the end of the coursethey’re shown how to integrate each of these individual sections into a final version

of the plan Because the project is carefully coordinated with the presentation ofcourse materials, students are able to apply what they’re learning, as they’relearning it, to the practical process of preparing a business plan

Because I understand that preparing the financial section of the business plan can

be difficult for students, we furnish students with an Excel template that simplifiesthe process of preparing financial reports for their proposed businesses They don’teven need to be competent in Excel to use it; it’s designed to be simple to use, and

we provide detailed instructions

Introduction to Business Community

Those teaching Introduction to Business come from varied backgrounds but sharecommon goals of exciting students about business and sparking their interest infuture business courses I wrote this text to provide members of this communitywith a fully developed teaching package that enhances the learning environmentand helps them introduce students to business in an exciting way My hope is that

by sharing my materials, experiences and approach to teaching with others, theywill enjoy the course as much as I do

Karen Collins

The Foundations of Business

Why Is Apple Successful?

In 1976 Steve Jobs and Steve Wozniak created their first computer, the Apple I.Thisvignette is based on an honors thesis written by Danielle M Testa, “Apple, Inc.: AnAnalysis of the Firm’s Tumultuous History, in Conjunction with the AboundingFuture” (Lehigh University), November 18, 2007 They invested a mere $1,300 andset up business in Jobs’s garage Three decades later, their business—Apple Inc.—hasbecome one of the world’s most influential and successful companies Did you everwonder why Apple flourished while so many other young companies failed? Howdid it grow from a garage start-up to a company generating $65 billion in sales?How was it able to transform itself from a nearly bankrupt firm to a multinationalcorporation with locations all around the world? You might conclude that it was thecompany’s products, such as the Apple I and II, the Macintosh, or more recently itswildly popular iPod, iPhone, and iPad Or you might decide that it was its people: itsdedicated employees and loyal customers Perhaps you will decide it was

luck—Apple simply was in the right place at the right time Or maybe you willattribute the company’s success to management’s willingness to take calculatedrisks Perhaps you will attribute Apple’s initial accomplishments and reemergence

to its cofounder, the late Steve Jobs After all, Jobs was instrumental in the originaldesign of the Apple I and, after being ousted from his position with the company,returned to save the firm from destruction and lead it onto its current path

Before we decide what made Apple what it is today and

what will propel it into a successful future, let’s see if

you have all the facts about the possible choices: its

products, its customers, luck, willingness to take risks,

or Steve Jobs We’re confident that you’re aware of

Apple’s products and understand that “Apple customers

are a loyal bunch Though they’re only a small

percentage of all computer users, they make up for it

with their passion and outspokenness.”Ellen Lee,

“Faithful, sometimes fanatical Apple customers

continue to push the boundaries of loyalty,” San

Francisco Chronicle, March 26, 2006 We believe you can

understand the role that luck or risk taking could play

in Apple’s success But you might like to learn more

11

Following the iPad’s release in

2010, it has become popular for a variety of uses including use by students.

http://ei.cs.vt.edu/~history/Jobs.html(accessed January 21, 2012) Not everyone atApple appreciated Jobs’s brilliance and ability to motivate Nor did they all go alongwith his willingness to do whatever it took to produce an innovative, attractive,high-quality product So at age thirty, Jobs found himself ousted from Apple by JohnSculley, whom Jobs himself had hired as president of the company several yearsearlier It seems that Sculley wanted to cut costs and thought it would be easier to

do so without Jobs around Jobs sold $20 million of his stock and went on a month vacation to figure out what he would do for the rest of his life His solution:start a new personal computer company called NextStep In 1993, he was invitedback to Apple (a good thing, because neither his new company nor Apple was doingwell)

two-Steve Jobs was definitely not humble, but he was a visionary and had a right to beproud of his accomplishments Some have commented that “Apple’s most successfuldays have occurred with Steve Jobs at the helm.”Cyrus Farivar, “Apple’s first 30

years; three decades of contributions to the computer industry,” Macworld, June

2006, 2 Jobs did what many successful CEOs and managers do: he learned, adjusted,and improvised.Dan Barkin, “He made the iPod: How Steve Jobs of Apple created the

new millennium’s signature invention,” Knight Ridder Tribune Business News,

December 3, 2006, 1 Perhaps the most important statement that can be made abouthim is this: he never gave up on the company that once turned its back on him Sonow you have the facts Here’s a multiple-choice question that you’ll likely getright: Apple’s success is due to (a) its products, (b) its customers, (c) luck, (d)willingness to take risks, (e) Steve Jobs, or (f) some combination of these options

1.1 Introduction

As the story of Apple suggests, today is an interesting time to study business

Advances in technology are bringing rapid changes in the ways we produce anddeliver goods and services The Internet and other improvements in

communication (such as smartphones, video conferencing, and social networking)now affect the way we do business Companies are expanding internationaloperations, and the workforce is more diverse than ever Corporations are beingheld responsible for the behavior of their executives, and more people share theopinion that companies should be good corporate citizens Plus—and this is a bigplus—businesses today are facing the lingering effects of what many economistsbelieve is the worst financial crisis since the Great Depression.Jon Hilsenrath,Serena Ng, and Damian Paletta, “Worst Crisis Since ’30s, With No End Yet in Sight,”

Wall Street Journal, Markets, September 18, 2008,http://online.wsj.com/article/SB122169431617549947.html(accessed January 21, 2012) Economic turmoil thatbegan in the housing and mortgage industries as a result of troubled subprimemortgages quickly spread to the rest of the economy In 2008, credit markets froze

up and banks stopped making loans Lawmakers tried to get money flowing again

by passing a $700 billion Wall Street bailout, yet businesses and individuals werestill denied access to needed credit Without money or credit, consumer confidence

in the economy dropped and consumers cut back their spending Businessesresponded by producing fewer products, and their sales and profits dropped

Unemployment rose as troubled companies shed the most jobs in five years, and760,000 Americans marched to the unemployment lines.“How the Economy Stole

the Election,” CNN.com,http://money.cnn.com/galleries/2008/news/0810/

gallery.economy_election/index.html(accessed January 21, 2012) The stock marketreacted to the financial crisis and its stock prices dropped by 44 percent whilemillions of Americans watched in shock as their savings and retirement accountstook a nose dive In fall 2008, even Apple, a company that had enjoyed strong salesgrowth over the past five years, began to cut production of its popular iPhone.Without jobs or cash, consumers would no longer flock to Apple’s fancy retail stores

or buy a prized iPhone.Dan Gallagher, “Analyst says Apple is cutting back

production as economy weakens,” MarketWatch, November 3, 2008,

production/story.aspx?guid=%7B7F2B6F99-D063-4005-87AD-

http://www.marketwatch.com/news/story/apple-cutting-back-iphone-D8C36009F29B%7D&dist=msr_1(accessed January 21, 2012) Things have turnedaround for Apple, which reported blockbuster sales for 2011 in part because ofstrong customer response to the iPhone 4S But not all companies or individuals aredoing so well The economy is still struggling, unemployment is high (particularlyfor those ages 16 to 24), and home prices remain low

13

As you go through the course with the aid of this text, you’ll explore the excitingworld of business We’ll introduce you to the various activities in which

businesspeople engage—accounting, finance, information technology, management,marketing, and operations We’ll help you understand the roles that these activitiesplay in an organization, and we’ll show you how they work together We hope that

by exposing you to the things that businesspeople do, we’ll help you decide whetherbusiness is right for you and, if so, what areas of business you’d like to study

further

1.2 Getting Down to Business

L E A R N I N G O B J E C T I V E

1 Identify the main participants of business, the functions that mostbusinesses perform, and the external forces that influence businessactivities

Abusiness1is any activity that provides goods or services to consumers for thepurpose of making a profit When Steve Jobs and Steve Wozniak created AppleComputer in Jobs’s family garage, they started a business The product was theApple I, and the company’s founders hoped to sell their computers to customers formore than it cost to make and market them If they were successful (which theywere), they’d make aprofit2

Before we go on, let’s make a couple of important distinctions concerning the terms

in our definitions First, whereas Apple produces and sells goods (Mac, iPhone, iPod, iPad), many businesses provide services Your bank is a service company, as is your

Internet provider Hotels, airlines, law firms, movie theaters, and hospitals are alsoservice companies Many companies provide both goods and services For example,your local car dealership sells goods (cars) and also provides services (automobilerepairs)

Second, some organizations are not set up to make profits Many are established toprovide social or educational services Suchnot-for-profit (or nonprofit)

organizations3include the United Way of America, Habitat for Humanity, the Boysand Girls Clubs, the Sierra Club, the American Red Cross, and many colleges anduniversities Most of these organizations, however, function in much the same way

as a business They establish goals and work to meet them in an effective, efficientmanner Thus, most of the business principles introduced in this text also apply tononprofits

Business Participants and Activities

Let’s begin our discussion of business by identifying the main participants ofbusiness and the functions that most businesses perform Then we’ll finish thissection by discussing the external factors that influence a business’s activities

1 Activity that provides goods or

services to consumers for the

purpose of making a profit.

2 Difference between the

revenue that a company brings

in from selling goods and

services and the costs of

generating this revenue.

3 Organization that has a

purpose other than returning

profits to owners.

15

Figure 1.1

Hospitals specialize in an intangible product—health care.

© 2010 Jupiterimages Corporation

Participants

Every business must have one or more owners whose primary role is to invest

money in the business When a business is being started, it’s generally the ownerswho polish the business idea and bring together the resources (money and people)

needed to turn the idea into a business The owners also hire employees to work for

the company and help it reach its goals Owners and employees depend on a third

group of participants—customers Ultimately, the goal of any business is to satisfy

the needs of its customers in order to generate a profit for the owners

Functional Areas of Business

The activities needed to operate a business can be

divided into a number of functional areas: management,

operations, marketing, accounting, and finance Let’sbriefly explore each of these areas

Management

Managers are responsible for the work performance ofother people.Management4involves planning for,organizing, staffing, directing, and controlling acompany’s resources so that it can achieve its goals

Managers plan by setting goals and developing strategies for achieving them They organize activities

and resources to ensure that company goals are met

They staff the organization with qualified employees and direct them to accomplish organizational goals.

Finally, managers design controls for assessing the

success of plans and decisions and take corrective actionwhen needed

and oversees the transformation of resources into goods or services is called an

operations manager5 This individual is also responsible for ensuring that productsare of high quality

4 Process of planning for,

organizing, directing, and

controlling a company’s

resources so that it can achieve

its goals.

5 Person who designs and

oversees the process that

converts resources into goods

or services.

Marketing6consists of everything that a company does to identify customers’needs and designs products to meet those needs Marketers develop the benefitsand features of products, including price and quality They also decide on the bestmethod of delivering products and the best means of promoting them to attract andkeep customers They manage relationships with customers and make them aware

of the organization’s desire and ability to satisfy their needs

Accounting

Managers need accurate, relevant, timely financial information, and accountantsprovide it.Accountants7measure, summarize, and communicate financial andmanagerial information and advise other managers on financial matters There are

two fields of accounting Financial accountants prepare financial statements to help

users, both inside and outside the organization, assess the financial strength of the

company Managerial accountants prepare information, such as reports on the cost of

materials used in the production process, for internal use only

Finance

Finance8involves planning for, obtaining, and managing a company’s funds

Finance managers address such questions as the following: How much money doesthe company need? How and where will it get the necessary money? How and whenwill it pay the money back? What should it do with its funds? What investmentsshould be made in plant and equipment? How much should be spent on researchand development? How should excess funds be invested? Good financial

management is particularly important when a company is first formed, becausenew business owners usually need to borrow money to get started

6 Marketing is the activity, set of

institutions, and processes for

creating, communicating,

delivering, and exchanging

offerings that have value for

customers, clients, partners,

and society at large.

7 Financial advisor responsible

for measuring, summarizing,

and communicating financial

and managerial information.

8 Activities involved in planning

for, obtaining, and managing a

company’s funds.

Figure 1.2 Business and Its Environment

External Forces that Influence Business Activities

Apple and other businesses don’t operate in a vacuum: they’re influenced by anumber of external factors These include the economy, government, consumertrends, and public pressure to act as good corporate citizens.Figure 1.2 "Businessand Its Environment"sums up the relationship among the participants in abusiness, its functional areas, and the external forces that influence its activities.One industry that’s clearly affected by all these factors is the fast-food industry A

strong economy means people have more money to eat out at places where food standards are monitored by a government agency, the Food and Drug

Administration Preferences for certain types of foods are influenced by consumer trends (eating fried foods might be OK one year and out the next) Finally, a number

of decisions made by the industry result from its desire to be a good corporate citizen.

For example, several fast-food chains have responded to environmental concerns by

eliminating Styrofoam containers.David Baron, “Facing-Off in Public,” Stanford Business, April 15, 2006,http://www.gsb.stanford.edu/news/bmag/sbsm0308/feature_face_off.shtml(accessed January 21, 2012) As you move through this text,you’ll learn more about these external influences on business (Section 1.3 "What IsEconomics?"will introduce in detail one of these external factors—the economy.)

• The activities needed to run a business can be divided into fivefunctional areas:

1 Management involves planning, organizing, staffing,

directing, and controlling resources to achieveorganizational goals

2 Operations transforms resources (labor, materials, money,

and so on) into products

3 Marketing works to identify and satisfy customers’ needs.

4 Finance involves planning for, obtaining, and managing

company funds

5 Accounting entails measuring, summarizing, and

communicating financial and managerial information

E X E R C I S E S

1 (AACSB) Analysis

The Martin family has been making guitars out of its factory inNazareth, Pennsylvania, factory for more than 150 years In 2004,Martin Guitar was proud to produce its millionth instrument Go

tohttp://www.martinguitar.comto link to the Martin GuitarWeb site and read about the company’s long history You’lldiscover that, even though it’s a family-run company with afairly unique product, it operates like any other company

Identify the main activities or functions of Martin Guitar’sbusiness and explain how each activity benefits the company

2 (AACSB) Analysis

Name four external factors that have an influence on business

Give examples of the ways in which each factor can affect thebusiness performance of two companies: Wal-Mart and Ford

1.3 What Is Economics?

L E A R N I N G O B J E C T I V E S

1 Define economics and identify factors of production.

2 Explain how economists answer the three key economics questions

3 Compare and contrast economic systems

To appreciate how a business functions, we need to know something about theeconomic environment in which it operates We begin with a definition ofeconomics and a discussion of the resources used to produce goods and services

Resources: Inputs and Outputs

Economics9is the study of the production, distribution, and consumption of goodsand services.Resources10are the inputs used to produce outputs Resources may

include any or all of the following:

• Land and other natural resources

• Labor (physical and mental)

• Capital, including buildings and equipment

• Entrepreneurship

Resources are combined to produce goods and services Land and natural resourcesprovide the needed raw materials Labor transforms raw materials into goods andservices Capital (equipment, buildings, vehicles, cash, and so forth) are needed forthe production process Entrepreneurship provides the skill and creativity needed

to bring the other resources together to produce a good or service to be sold to themarketplace

Because a business uses resources to produce things, we also call these resources

factors of production11 The factors of production used to produce a shirt wouldinclude the following:

• The land that the shirt factory sits on, the electricity used to run theplant, and the raw cotton from which the shirts are made

• The laborers who make the shirts

9 Study of how scarce resources

are used to produce

11 Resources consisting of land,

labor, capital (money,

buildings, equipment), and

entrepreneurial skills

combined to produce goods

and services.

• The factory and equipment used in the manufacturing process, as well

as the money needed to operate the factory

• The entrepreneurship skill used to coordinate the other resources toinitiate the production process and the distribution of the goods orservices to the marketplace

Input and Output Markets

Many of the factors of production (or resources) are provided to businesses byhouseholds For example, households provide businesses with labor (as workers),land and buildings (as landlords), and capital (as investors) In turn, businesses payhouseholds for these resources by providing them with income, such as wages, rent,and interest The resources obtained from households are then used by businesses

to produce goods and services, which are sold to the same households that providebusinesses with revenue The revenue obtained by businesses is then used to buyadditional resources, and the cycle continues This circular flow is described in

Figure 1.3 "The Circular Flow of Inputs and Outputs", which illustrates the dualroles of households and businesses:

• Households not only provide factors of production (or resources) butalso consume goods and services

• Businesses not only buy resources but also produce and sell both goodsand services

Figure 1.3 The Circular Flow of Inputs and Outputs

The Questions Economists Ask

Economists study the interactions between households and businesses and look atthe ways in which the factors of production are combined to produce the goods andservices that people need Basically, economists try to answer three sets of

questions:

1 What goods and services should be produced to meet consumers’ needs? In

what quantity? When should they be produced?

2 How should goods and services be produced? Who should produce them,

and what resources, including technology, should be combined toproduce them?

3 Who should receive the goods and services produced? How should they be

allocated among consumers?

Economic Systems

The answers to these questions depend on a country’seconomic system12—themeans by which a society (households, businesses, and government) makesdecisions about allocating resources to produce products and about distributingthose products The degree to which individuals and business owners, as opposed tothe government, enjoy freedom in making these decisions varies according to thetype of economic system Generally speaking, economic systems can be divided into

two systems: planned systems and free market systems.

Planned Systems

In a planned system, the government exerts control over the allocation anddistribution of all or some goods and services The system with the highest level ofgovernment control iscommunism13 In theory, a communist economy is one inwhich the government owns all or most enterprises Central planning by thegovernment dictates which goods or services are produced, how they are produced,and who will receive them In practice, pure communism is practically nonexistenttoday, and only a few countries (notably North Korea and Cuba) operate underrigid, centrally planned economic systems

Undersocialism14, industries that provide essential services, such as utilities,banking, and health care, may be government owned Other businesses are ownedprivately Central planning allocates the goods and services produced by

government-run industries and tries to ensure that the resulting wealth isdistributed equally In contrast, privately owned companies are operated for thepurpose of making a profit for their owners In general, workers in socialisteconomies work fewer hours, have longer vacations, and receive more health care,education, and child-care benefits than do workers in capitalist economies Tooffset the high cost of public services, taxes are generally steep Examples ofsocialist countries include Sweden and France

Free Market System

The economic system in which most businesses are owned and operated byindividuals is thefree market system15, also known ascapitalism16 As we will see

next, in a free market, competition dictates how goods and services will be allocated.

Business is conducted with only limited government involvement The economies ofthe United States and other countries, such as Japan, are based on capitalism

12 Means by which a society

makes decisions about

allocating resources to produce

and distribute products.

13 Economic system featuring the

highest level of government

control over allocation and

distribution.

14 Economic system falling

between communism and

capitalism in terms of

government control over

allocation and distribution.

15 Economic system in which

most businesses are owned and

operated by individuals.

16 Economic system featuring the

lowest level of government

control over allocation and

distribution.

How Economic Systems Compare

In comparing economic systems, it’s helpful to think of a continuum withcommunism at one end and pure capitalism at the other, as inFigure 1.4 "TheSpectrum of Economic Systems" As you move from left to right, the amount ofgovernment control over business diminishes So, too, does the level of socialservices, such as health care, child-care services, social security, and unemploymentbenefits

Figure 1.4 The Spectrum of Economic Systems

Mixed Market Economy

Though it’s possible to have a pure communist system, or a pure capitalist (freemarket) system, in reality many economic systems are mixed Amixed market economy17relies on both markets and the government to allocate resources We’vealready seen that this is what happens in socialist economies in which the

government controls selected major industries, such as transportation and healthcare, while allowing individual ownership of other industries Even previouslycommunist economies, such as those of Eastern Europe and China, are becomingmore mixed as they adopt capitalistic characteristics and convert businessespreviously owned by the government to private ownership through a process called

privatization18

The U.S Economic System

Like most countries, the United States features a mixed market system: though theU.S economic system is primarily a free market system, the federal governmentcontrols some basic services, such as the postal service and air traffic control TheU.S economy also has some characteristics of a socialist system, such as providingsocial security retirement benefits to retired workers

The free market system was espoused by Adam Smith in his book The Wealth of Nations, published in 1776.According to many scholars, The Wealth of Nations not only

17 Economic system that relies on

both markets and government

to allocate resources.

18 Process of converting

government-owned businesses

to private ownership.

is the most influential book on free-market capitalism but remains relevant today.According to Smith, competition alone would ensure that consumers received thebest products at the best prices In the kind of competition he assumed, a seller whotries to charge more for his product than other sellers won’t be able to find anybuyers A job-seeker who asks more than the going wage won’t be hired Becausethe “invisible hand” of competition will make the market work effectively, therewon’t be a need to regulate prices or wages.

Almost immediately, however, a tension developed among free market theorists

between the principle of laissez-faire—leaving things alone—and government

intervention Today, it’s common for the U.S government to intervene in theoperation of the economic system For example, government exerts influence onthe food and pharmaceutical industries through the Food and Drug Administration,which protects consumers by preventing unsafe or mislabeled products fromreaching the market

To appreciate how businesses operate, we must first get an idea of how prices areset in competitive markets Thus,Section 1.4 "Perfect Competition and Supply andDemand"begins by describing how markets establish prices in an environment of

perfect competition.

K E Y T A K E A W A Y S

• Economics is the study of the production, distribution, and

consumption of goods and services

• Economists address these three questions: (1) What goods and servicesshould be produced to meet consumer needs? (2) How should they beproduced, and who should produce them? (3) Who should receive goodsand services?

• The answers to these questions depend on a country’s economic

system The primary economic systems that exist today are planned and

free market systems

• In a planned system, such as communism and socialism, the

government exerts control over the production and distribution of all orsome goods and services

• In a free market system, also known as capitalism, business is

conducted with only limited government involvement Competitiondetermines what goods and services are produced, how they areproduced, and for whom

E X E R C I S E S

1 If you started a business that made surfboards, what factors ofproduction would you need to make your product? Where would you getthem? Where would you find the money you’d need to pay for additionalresources?

2 Which three key questions do economists try to answer? Will answers tothese questions differ, depending on whether they’re working in theUnited States or in Cuba? Explain your answer

Figure 1.5

Produce, like these apples, is a standardized product available from numerous businesses.

© 2010 Jupiterimages Corporation

1.4 Perfect Competition and Supply and Demand

four types of competition—perfect competition, monopolistic competition, oligopoly, and monopoly We’ll introduce the first of these—perfect competition—in this section

and cover the remaining three in the following section

Perfect Competition

Perfect competition19exists when there are manyconsumers buying a standardized product fromnumerous small businesses Because no seller is bigenough or influential enough to affect price, sellers andbuyers accept the going price For example, when acommercial fisher brings his fish to the local market, hehas little control over the price he gets and must acceptthe going market price

The Basics of Supply and Demand

To appreciate how perfect competition works, we need

to understand how buyers and sellers interact in amarket to set prices In a market characterized byperfect competition, price is determined through the

mechanisms of supply and demand Prices are influenced

both by the supply of products from sellers and by thedemand for products by buyers

To illustrate this concept, let’s create a supply and demand schedule for one particular good sold at one point in time Then we’ll define demand and create a demand curve

19 Market in which many

consumers buy standardized

products from numerous small

businesses.

27

and define supply and create a supply curve Finally, we’ll see how supply and demand interact to create an equilibrium price—the price at which buyers are willing

to purchase the amount that sellers are willing to sell

Demand and the Demand Curve

Demand20is the quantity of a product that buyers are willing to purchase at variousprices The quantity of a product that people are willing to buy depends on its price

You’re typically willing to buy less of a product when prices rise and more of a product when prices fall Generally speaking, we find products more attractive at

lower prices, and we buy more at lower prices because our income goes further

Figure 1.6 The Demand Curve

Using this logic, we can construct ademand curve21that shows the quantity of aproduct that will be demanded at different prices Let’s assume that the diagram in

Figure 1.6 "The Demand Curve"represents the daily price and quantity of applessold by farmers at a local market Note that as the price of apples goes down,buyers’ demand goes up Thus, if a pound of apples sells for $0.80, buyers will bewilling to purchase only fifteen hundred pounds per day But if apples cost only

20 Quantity of a product that

buyers are willing to purchase

at various prices.

21 Graph showing the quantity of

a product that will be bought at

certain prices.

$0.60 a pound, buyers will be willing to purchase two thousand pounds At $0.40 apound, buyers will be willing to purchase twenty-five hundred pounds.

Supply and the Supply Curve

Supply22is the quantity of a product that sellers are willing to sell at various prices.The quantity of a product that a business is willing to sell depends on its price

Businesses are more willing to sell a product when the price rises and less willing to sell it when prices fall Again, this fact makes sense: businesses are set up to make

profits, and there are larger profits to be made when prices are high

Figure 1.7 The Supply Curve

Now we can construct asupply curve23that shows the quantity of apples thatfarmers would be willing to sell at different prices, regardless of demand As youcan see inFigure 1.7 "The Supply Curve", the supply curve goes in the oppositedirection from the demand curve: as prices rise, the quantity of apples that farmersare willing to sell also goes up The supply curve shows that farmers are willing tosell only a thousand pounds of apples when the price is $0.40 a pound, two thousandpounds when the price is $0.60, and three thousand pounds when the price is $0.80

22 Quantity of a product that

sellers are willing to sell at

various prices.

23 Graph showing the quantity of

a product that will be offered

for sale at certain prices.

Equilibrium Price

We can now see how the market mechanism works under perfect competition We

do this by plotting both the supply curve and the demand curve on one graph, aswe’ve done inFigure 1.8 "The Equilibrium Price" The point at which the two curvesintersect is theequilibrium price24 At this point, buyers’ demand for apples andsellers’ supply of apples is in equilibrium

Figure 1.8 The Equilibrium Price

You can see inFigure 1.8 "The Equilibrium Price"that the supply and demandcurves intersect at the price of $0.60 and quantity of two thousand pounds Thus,

$0.60 is the equilibrium price: at this price, the quantity of apples demanded bybuyers equals the quantity of apples that farmers are willing to supply If a farmertries to charge more than $0.60 for a pound of apples, he won’t sell very many andhis profits will go down If, on the other hand, a farmer tries to charge less than theequilibrium price of $0.60 a pound, he will sell more apples but his profit per poundwill be less than at the equilibrium price

What have we learned in this discussion? We’ve learned that without outsideinfluences, markets in an environment of perfect competition will arrive at an

24 Price at which buyers are

willing to buy exactly the

amount that sellers are willing

to sell.

equilibrium point at which both buyers and sellers are satisfied But we must beaware that this is a very simplistic example Things are much more complex in thereal world For one thing, markets rarely operate without outside influences.

Sometimes, sellers supply more of a product than buyers are willing to purchase; in

that case, there’s a surplus Sometimes, they don’t produce enough of a product to satisfy demand; then we have a shortage.

Circumstances also have a habit of changing What would happen, for example, ifincome rose and buyers were willing to pay more for apples? The demand curvewould change, resulting in an increase in equilibrium price This outcome makesintuitive sense: as demand increases, prices will go up What would happen if applecrops were larger than expected because of favorable weather conditions? Farmersmight be willing to sell apples at lower prices If so, the supply curve would shift,resulting in another change in equilibrium price: the increase in supply would bringdown prices

K E Y T A K E A W A Y S

• In a free market system, buyers and sellers interact in a market to setprices

• When the market is characterized by perfect competition, many small

companies sell identical products Because no company is large enough

to control price, each simply accepts the market price The price isdetermined by supply and demand

• Supply is the quantity of a product that sellers are willing to sell at

various prices

• Demand is the quantity of a product that buyers are willing to purchase

at various prices

• The quantity of a product that people will buy depends on its price:

they’ll buy more when the price is low and less when it’s high

• Price also influences the quantity of a product that producers are willing

to supply: they’ll sell more of a product when prices are high and lesswhen they’re low

• In a competitive market, the decisions of buyers and sellers interact

until the market reaches an equilibrium price—the price at which

buyers are willing to buy the same amount that sellers are willing to sell

E X E R C I S E

(AACSB) Analysis

You just ran across three interesting statistics: (1) the world’s current supply

of oil is estimated to be 1.3 trillion barrels; (2) the worldwide use of oil isthirty billion barrels a year; and (3) at this rate of consumption, we’ll run out

of oil in forty-three years Overcoming an initial sense of impendingcatastrophe, you remember the discussion of supply and demand in thischapter and realize that things aren’t as simple as they seem After all, manyfactors affect both the supply of oil and the demand for products made from

it, such as gasoline These factors will influence when (and if) the world runsout of oil Answer the following questions, and provide explanations for youranswers:

a What’s the major factor that affects the supply of oil? (Hint: It’s the same major factor affecting the demand for oil.)

b If producers find additional oil reserves, what will happen to the price ofoil?

c If producers must extract oil from more-costly wells, what will happen

to the price that you pay to fill up your gas tank?

d If China’s economy continues to expand rapidly, what will happen to theprice of oil?

e If drivers in the United States start favoring fuel-efficient cars overSUVs, will gas be cheaper or more expensive?

f In your opinion, will oil producers be able to supply enough oil to meetthe increasing demand for oil-related products, such as gasoline?

1.5 Monopolistic Competition, Oligopoly, and Monopoly

L E A R N I N G O B J E C T I V E

1 Describe monopolistic competition, oligopoly, and monopoly

Economists have identified four types of competition—perfect competition, monopolistic competition, oligopoly, and monopoly Perfect competition was discussed

in the last section; we’ll cover the remaining three types of competition here

Monopolistic Competition

Inmonopolistic competition25, we still have many sellers (as we had under perfectcompetition) Now, however, they don’t sell identical products Instead, they sell

differentiated products—products that differ somewhat, or are perceived to differ,

even though they serve a similar purpose Products can be differentiated in anumber of ways, including quality, style, convenience, location, and brand name.Some people prefer Coke over Pepsi, even though the two products are quitesimilar But what if there was a substantial price difference between the two? Inthat case, buyers could be persuaded to switch from one to the other Thus, if Cokehas a big promotional sale at a supermarket chain, some Pepsi drinkers mightswitch (at least temporarily)

How is product differentiation accomplished? Sometimes, it’s simply geographical;you probably buy gasoline at the station closest to your home regardless of thebrand At other times, perceived differences between products are promoted byadvertising designed to convince consumers that one product is different fromanother—and better than it Regardless of customer loyalty to a product, however,

if its price goes too high, the seller will lose business to a competitor Undermonopolistic competition, therefore, companies have only limited control overprice

Oligopoly

Oligopoly26means few sellers In an oligopolistic market, each seller supplies alarge portion of all the products sold in the marketplace In addition, because thecost of starting a business in an oligopolistic industry is usually high, the number offirms entering it is low

25 Market in which many sellers

supply differentiated products.

26 Market in which a few sellers

supply a large portion of all the

products sold in the

marketplace.

33

Companies in oligopolistic industries include such large-scale enterprises asautomobile companies and airlines As large firms supplying a sizable portion of amarket, these companies have some control over the prices they charge But there’s

a catch: because products are fairly similar, when one company lowers prices,others are often forced to follow suit to remain competitive You see this practiceall the time in the airline industry: When American Airlines announces a faredecrease, Continental, United Airlines, and others do likewise When one automakeroffers a special deal, its competitors usually come up with similar promotions

Monopoly

In terms of the number of sellers and degree of competition, monopolies lie at theopposite end of the spectrum from perfect competition In perfect competition,there are many small companies, none of which can control prices; they simplyaccept the market price determined by supply and demand In amonopoly27,however, there’s only one seller in the market The market could be a geographicalarea, such as a city or a regional area, and doesn’t necessarily have to be an entirecountry

There are few monopolies in the United States because the government limits them

Most fall into one of two categories: natural and legal.Natural monopolies28includepublic utilities, such as electricity and gas suppliers Such enterprises require hugeinvestments, and it would be inefficient to duplicate the products that they provide.They inhibit competition, but they’re legal because they’re important to society Inexchange for the right to conduct business without competition, they’re regulated.For instance, they can’t charge whatever prices they want, but they must adhere togovernment-controlled prices As a rule, they’re required to serve all customers,even if doing so isn’t cost efficient

Alegal monopoly29arises when a company receives a patent giving it exclusive use

of an invented product or process Patents are issued for a limited time, generally

twenty years.United States Patent and Trademark Office, General Information Concerning Patents, April 15, 2006,http://www.uspto.gov/web/offices/pac/doc/general/index.html#laws(accessed January 21, 2012) During this period, othercompanies can’t use the invented product or process without permission from thepatent holder Patents allow companies a certain period to recover the heavy costs

of researching and developing products and technologies A classic example of acompany that enjoyed a patent-based legal monopoly is Polaroid, which for yearsheld exclusive ownership of instant-film technology.Mary Bellis, “Inventors-EdwinLand-Polaroid Photography-Instant Photography/Patents,” April 15, 2006,

http://inventors.about.com/library/inventors/blpolaroid.htm(accessed January

21, 2012) Polaroid priced the product high enough to recoup, over time, the high

27 Market in which there is only

one seller supplying products

at regulated prices.

28 Monopoly in which, because of

the industry’s importance to

society, one seller is permitted

to supply products without