3.1.1 Sizes and types of firms Quiz: Pearson Edexcel Economics A, Unit 3

The 20 questions

1. What is the principal-agent problem?

   • A dispute between two firms over a shared supplier of raw materials
   • The difficulty a firm faces in finding a principal shareholder to invest
   • A tax on agents who sell company shares on behalf of owners
   • A conflict where managers (agents) may pursue their own goals rather than the aims of owners (principals)

2. Which best distinguishes public sector from private sector organisations?

   • Private sector organisations are always larger than public ones
   • Public sector organisations always make profits, while private ones never do
   • Public sector organisations cannot employ workers on permanent contracts
   • Public sector bodies are state-owned and controlled; private sector firms are owned by individuals or shareholders

3. A not-for-profit organisation is best described as one that:

   • Makes no surplus at all in any year of its operation
   • Is always owned and run by the government of the country
   • Reinvests any surplus into its objectives rather than distributing it to owners
   • Sets a profit target that is set by shareholders each year

4. Which is a reason why some firms tend to remain small?

   • Small firms cannot borrow money from any lender at all
   • Large firms are illegal in most UK industries under current law
   • Owners may prefer control and a lifestyle business, and the market for the product may be niche
   • Small firms always earn supernormal profit, so there is no need to grow

5. Which factor is most likely to encourage a firm to grow?

   • A decline in demand for the firm's product over time
   • A fall in the overall size of the market it serves
   • Loss of brand recognition among its customers
   • Economies of scale and access to a larger market

6. A charity runs hospitals and reinvests any surpluses into patient care. How is it best classified?

   • A public corporation owned by the central government
   • A private sector profit-making firm owned by shareholders
   • A not-for-profit organisation
   • A sole trader who keeps all profits personally

7. A family owners' firm wants to keep control and so refuses outside investment. Which constraint on growth does this show?

   • Owner objectives
   • Regulation of the market by government
   • Size of the market in which the firm operates
   • Access to finance from banks

8. A manager of a large company favours sales growth over profit, against shareholder wishes. This illustrates:

   • The principal-agent problem
   • Perfect competition in the product market
   • Third-degree price discrimination by the firm
   • Allocative efficiency in the market

9. A public sector body is privatised. What is the most likely change in its objectives?

   • A move from price regulation to free pricing with no shareholders involved
   • A move from profit maximisation to a zero-profit policy in all cases
   • No change at all, since ownership does not affect objectives
   • A move from public service aims towards profit and shareholder value

10. Which is an advantage for a small firm operating in a niche market?

    • Flexibility and close relationships with customers
    • Automatic access to economies of scale in production
    • Guaranteed contracts from government without bidding
    • Complete absence of competition from any rival

11. Why might a growing firm face the principal-agent problem more acutely?

    • As it grows, ownership is more separated from control and managers make decisions on behalf of distant shareholders
    • Growth makes shareholders unnecessary, so managers act with no oversight
    • Growth always reduces costs for owners so there is no conflict of interest
    • Growth removes all information gaps between managers and owners

12. Which organisation's main aim is typically to provide a service rather than make a profit?

    • A limited company listed on a stock exchange for investors
    • A not-for-profit housing association
    • A sole proprietor selling goods to customers in a town
    • A partnership of accountants sharing profits between partners

13. A state-owned railway runs mainly to provide affordable services. Which best describes its objective?

    • Social welfare and public service, rather than maximising profit
    • Profit maximisation through price discrimination between passengers
    • Avoiding all government supervision of its fares and services
    • Maximising dividends paid to its shareholders each year

14. A small firm refuses to grow because growth would mean giving up control to outside investors. What does this show?

    • Market failure caused by a monopoly acting in the market
    • That the firm faces perfect competition in its market
    • That economies of scale have been fully exhausted by the firm
    • Owner objectives can constrain the growth of a firm

15. Evaluate: are large firms always more efficient than small firms?

    • Yes, large firms are always more efficient than small ones in every market
    • Efficiency depends only on the number of shareholders a firm has
    • Not necessarily, since large firms gain scale economies but may suffer diseconomies and agency costs, so efficiency depends on context
    • No, small firms always have lower costs than large firms do

16. Which best evaluates the significance of the principal-agent problem for a public limited company?

    • It can lead managers to pursue growth or perks over profit, so firms use monitoring and incentives such as share options to align interests
    • It disappears completely once a firm becomes a public limited company
    • It only affects not-for-profit organisations and never affects private firms
    • It means shareholders always receive the profit the firm makes each year

17. A not-for-profit and a profit-making firm both sell the same service. Which difference in behaviour is likely?

    • There is no difference in behaviour because both maximise profit in the same way
    • The not-for-profit always charges higher prices than the profit-making firm
    • The profit-making firm never reinvests any of its earnings in the business
    • The not-for-profit may set lower prices or reinvest surpluses, while the profit-making firm aims to return profit to owners

18. Managers prefer rapid growth through acquisitions, while shareholders want higher dividends. Which mechanism best reduces this conflict?

    • Allowing managers to set their own dividend payments freely
    • Removing all shareholder voting rights in the company
    • Banning all acquisitions by law in every industry
    • Linking manager pay to profit or share price and using independent board oversight

19. Is it true that public sector firms are always inefficient?

    • False, because public firms always make larger profits than private firms
    • True, because public firms are never subject to any form of monitoring
    • True in every case, because public firms cannot have objectives
    • Overstated: public firms can be efficient and pursue social aims, but weak competition can reduce efficiency

20. Why might a family-owned business prefer to stay small even when a market opportunity exists?

    • Because the government forbids all forms of business growth
    • To keep control and avoid debt and outside shareholders, despite forgoing some economies of scale
    • Because there is no demand for the firm's product in the market
    • Because economies of scale are impossible to achieve in any firm

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