Chapter 3 textbook (4th edition)

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University of Toronto Scarborough
Economics for Management Studies
Jack Parkinson

ECMC40 Chapter 3 - Vertical chain: the process that begins with the acquisition of raw materials and ends with the distribution and sale of finished G & S - Vertical boundaries: of a firm define the activities that the firm itself performs as opposed to purchases from independent firms in the market. ( ie vs outsourcing) - Make or buy decision: a firms decision to perform an activity itself or to purchase it from an independent firm. Make means that the firm performs the activity itself; buy means it relies on an independent firm to perform the activity perhaps under a contract - Goods in an economy flow: along a vertical chain from raw materials and component parts to manufacturing through distribution & retailing. Early steps in the vertical chain are upstream in the production process Later steps are downstream - Large hierarchial enterprises in the 1900s performed these support services (figure 3.2) themselves to coordinate the flow of production through the vertical chain. Sometimes, these support activities became principal sources of value creation in integrated firms. - Market firms: specialists in the market. They include many recognized leaders in their fields. By using these firms, a manufacturer can obtain a superior marketing program, low cost distribution, and accurate reports about payroll, sales & inventories without having to perform any of the tasks itself. However, its not always desirable to use the market, a critical task for any firm is to define its boundaries by determining what tasks to make and what other to buy. - Defining boundaries: regardless of a firms position along a vertical chain it needs to define its boundaries. To resolve the make or buy decision the firm must compare the benefits and costs of using the market as opposed to performing the activity in house. Benefits & costs of using the market Benefits Costs 1) Market firms (MF) can achieve EOS 1) Coordination of production flows that in-house departments producing through the VC may be compromised only for their own needs cannot. when an activity is purchased from an independent market firm rather than performed in house. 2) MFs are subject to the discipline of 2) Private information may be leaked the market and must be efficient & when an activity is performed by an innovative to survive. independent market firm. Overall corporate success may hide
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