Question

A business owner said: “There is an inverse relationship between control and the size of an entity…why would I want my business to grow?”. Explain how the level of control held by a business owner(s) usually decreases as a business grows in size.

Answer 1

When a small business first starts out, it usually has one sole proprietor. One sole manager/owner who is responsible for taking all the required decisions for the business. This is the person who decides from where to procure the raw materials, what is the best possible method for production, what are the best product delivery/sale processes. This person is responsible for every single aspect of the business and the success of the business is completely dependent on this person's ability to take informed rational decisions.

 

However, as a business increases in size, i.e. the scale of operations increases, it becomes difficult for just one person to manage everything as he previously used to do so. Scale of operations may increase in the form of an additional factory, or a new franchise location or maybe increase in demand in the market. When these added facilities are added, new personnel are required to keep running the business successfully.

When such new personnel are introduced, their new jobs come with increasing responsibilities since the owner now has to start depending on them for successful operations. In this way, the owner starts losing the day-to-day control of the business that he previously used to enjoy. Now the owner slowly starts to concentrate more on big-picture decisions like new products/services to introduce, what are some new markets the business can penetrate etc.

 

As the business grows, the owner loses the functional control he used to have over the daily running of the business because at this point his divisions have grown so much, that he requires managers to keep track of every department for example, there is a manager who is solely responsible for the Production Department, there is a separate Accounting Manager, there is a Manager who's only responsibility is procurement of Inventory and timely payment to Suppliers.

 

This was the functional control. Now we move to the financial control of the business.

 

 

As the business grows, the owner may need additional funds to fund the expansions processes. This is where he decides which source of funds to use. If he proceeds to issue equity, then essentially he is onboarding new partial owners of the business who become entitled to a portion of the business' income. Thus, by issuing equity for funds, the owner's control over the ownership of the business gets diluted, thus resulting in losing some control.

The two ways control is lost is 

1. Day to Day functioning
2. Ownership, if funds are raised through Equity