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Unlock This CourseFirms often grow by making more and selling more. But there is a faster way: join with another firm. A merger is when two firms agree to join together to become one firm. A merger can also happen when one firm buys another.
The type of merger depends on where the two firms sit in the business world. There are three types to know.
Key terms:
A horizontal merger joins two firms that do the same job. Think of two competitors becoming one.
Two bakery chains in the made-up country of Ostavia, Golden Crust and Daily Loaf, join together. Both bake and sell bread. They are at the same stage of production in the same industry, so this is a horizontal merger.
Firms: one fewer competitor, a bigger share of the market, and lower average costs from being bigger (more on this in the lesson Economies and Diseconomies of Scale).
Consumers: possibly lower prices if costs fall.
Workers: a bigger firm may offer more chances of promotion.
Firms: the two firms may be hard to join together, with clashing ways of working.
Consumers: less competition and less choice, so prices may rise.
Workers: duplicate jobs, such as two head offices, may be cut, so some workers lose their jobs.
Most products pass through stages: raw materials, then making, then selling. A vertical merger joins firms at different stages of this chain, so the firm controls more of the journey from start to finish. There are two directions.
The firm joins with a supplier. A made-up chocolate maker, Selvano Chocolate, merges with a cocoa farm that supplies it. It now controls its own supply of cocoa.
The firm joins with a firm closer to the customer. Selvano Chocolate merges with a chain of sweet shops that sells chocolate to the public. It now controls how its chocolate is sold.
Firms: a secure supply of materials or a secure place to sell, less chance of supply problems, and no need to pay another firm's profit.
Consumers: a more reliable supply of the product and perhaps lower prices.
Workers: a more secure firm may mean more secure jobs.
Firms: the firm must learn a new kind of business, and may lose the benefit of buying from the cheapest supplier.
Consumers: rival firms may be shut out, for example if the sweet shops stop selling other brands, so there is less choice.
Workers: jobs may be lost where the two firms had similar roles.
A conglomerate merger joins firms in completely different industries. There is no link between what they make or sell.
A made-up firm, Harbourline Shipping, merges with Brightleaf Software. Shipping and software have nothing in common, so this is a conglomerate merger.
Firms: spreading risk. If shipping has a bad year, software sales may still be strong. The firm can also enter a new market quickly.
Consumers: may gain new products from the larger firm's money and ideas.
Workers: a firm with several different businesses may be less likely to close completely.
Firms: managers may not understand the new industry, and the firm may become too big to manage well.
Consumers: little direct gain, because the firms did not compete before and prices are not likely to fall.
Workers: a weak part of the firm may be closed, and its workers lose their jobs.
| Type | Who joins | Main aim |
|---|---|---|
| Horizontal | Same industry, same stage | Bigger market share, fewer rivals |
| Vertical | Same industry, different stages | Control of supply or sales |
| Conglomerate | Different industries | Spread risk, enter new markets |
A merger that makes one firm very large in a market can create a monopoly. You will meet this in the lesson Monopoly Markets.
Velmora Dairy makes cheese. It plans to merge with Koral Farms, a firm that owns dairy cows and supplies it with milk.
(a) Identify the type of merger. [1 mark]
(b) Define a horizontal merger. [2 marks]
(c) Explain one advantage of this merger for Velmora Dairy. [2 marks]
(d) Discuss whether the merger would be good for workers at the two firms. [4 marks]
(a) A backward vertical merger (1), because Koral Farms supplies Velmora Dairy.
(b) A horizontal merger is a merger between two firms (1) at the same stage of production in the same industry (1).
(c) The firm has a secure supply of milk (1), so it is less likely to run short or face higher prices from other suppliers (1).
(d) It could be good for workers because a bigger, more secure firm may offer more job security and chances of promotion (1), and a firm with a secure supply or market may keep its jobs more secure (1). However, the two firms may both have office or management jobs that are no longer needed, so some workers could lose their jobs (1). Overall it depends on whether the merged firm grows or cuts costs by cutting jobs (1).
In a "discuss" question, write one point for each side and finish with a short judgement about what it depends on.