HAWASSA UNIVERSITY

INSTITUTE OF TECHNOLOGY(IOT)

Electromechanical engineering Program

Entrepreneurship for Engineers

LECTURE NOTE

November 2020
 Chapter One

Entrepreneurship
Contents
• Meaning of the terms entrepreneur, entrepreneurship and owner
manager;
• The entrepreneurship process
• Characteristics of Entrepreneurs
• Motivation for starting a business
• Success factors for entrepreneurs
• Kinds of Entrepreneurship
 …cont.
What is Entrepreneur?
The word entrepreneur derives from the French words
• entre, meaning between, and
• prendre, meaning to take. The word was originally used to describe people who take
on the risk between buyers and sellers or who undertake a task such as starting
a new venture.
Different conceptual definitions are also given for the term Entrepreneur:
Entrepreneurs are action-oriented, highly motivated individuals who take risks to
achieve goals.
An Entrepreneur is the one who incubates new ideas, starts a business based on these
ideas, and provide added value to the society on his/her independent initiative.(H. Holt)
Peter Drucker states, as “Entrepreneur is someone who always searches for change
responds to it, and exploits it as an opportunity.”
 …cont.

An entrepreneur is an “energetic, single minded” person having mission and

a clear vision he/she intends to create out this vision a product or service that
improves the lives of million. (David Silver)
Entrepreneurs are people who have the ability
To observe the environment and evaluate business opportunities,
To gather the necessary resources to take advantage of them; and
To initiate appropriate action to ensure success
 …cont.

What is Entrepreneurship?
Dr. C.B. Gupta defines entrepreneurship that it is the process of identifying
opportunities in the market place, marshalling the resources required to pursue
these opportunities and investing the resources to exploit the opportunities for long
term lap gains. It involves creating wealth by bringing together resources in new
ways to start and operate an enterprise.
“Entrepreneurship is the process of creating something different with value by
devoting the necessary time and effort assuming the accompanying financial,
psychic, and social risks, and receiving the resulting rewards of monetary and
personal satisfaction.” (Hisrich)
Entrepreneurship is the pursuit of opportunity through innovation, creativity and
hard work without regard for the resources currently controlled.
 The Entrepreneurship Process
Self discovery :
 Learning what they enjoy doing, examining their strengths and weakness, examining
work experience and relating to potential opportunities.
Identifying opportunities:
Looking for needs, wants, problems and challenges that are not yet being met, or detail
effectively.
Generating and evaluating ideas:
Using creativity and past experience devise new and innovative ways to solve a problem,
or meet a need, and then narrowing the field to one best idea.
Planning:
Business plan, forecasting, feasibility reports.
Raising up capital :
Start up (launching venture, marketing plan, customer handling plan)
 …cont.

Growth : (growing the business, following strategic plan)

Harvest : (selling business products and harvesting rewards, new venture and challenges)
The Entrepreneurship Process
 The entrepreneur versus the owner manager

Entrepreneur
a. Entrepreneurial function is the organization of production:
Entrepreneurship is an economic concept. Economics describes four factors of production,
namely, land, labor, capital and entrepreneurial ability (organizational skill).
b. Decision-making and calculated risk bearing:
c. An entrepreneur has an all-round personality:
d. High levels of achievement motivation
e. Innovative, creative, imaginative soul
f. The entrepreneur is the owner of the business who enjoys the position of an employer
 …cont.
Owner Manager
They may or may not be entrepreneurs.
They own and manage a small enterprise, in a way, which fits with their personal
motivations.
They are more intent on survival than seeking innovative change and growth.
1. Limited scope for innovativeness, creativity and imagination
2. Managerial jobs are transferable
As a manager in the business organization, his job is transferable from office to
office, from one unit and location to another location
3. Managers do not bear-risk
Risk bearing capacity is an entrepreneurial quality
 Entrepreneur as Individuals

Personal Efforts To Be An Entrepreneur

Working long hours
High Energy
Sacrificing other important aspects of life
Limited social life
Less time with family and friends
Large financial investment
 Characteristics of Entrepreneurs /personal competencies

A. Need for Achievement:- vision

B. Willingness to take risks:-financial, careers, family ,
C. Self-Confidence:- internal and external locus of control
D. Innovation:-. The entrepreneurial manger is constantly looking for innovations, not by
waiting for a flash of inspirations, but through an organized and continuous search for new
ideas
E. Total Commitment
F. All-rounders
G. Analysis minded and information seeker.
 Success factors for entrepreneurs

Most new ventures succeed because their founders are capable individuals.
1.The entrepreneurial team
2.Incremental growth of product or services
3.Marketing and timing: Market potential is critically influenced by
timing of new products or services.
Outcomes of Entrepreneurship
Economic growth
New industry formation
Job creation
Decentralization and diversification of business
 Kinds of Entrepreneurship

Founding Entrepreneurs /Founders/ : Generally considered to be the “Pure”

entrepreneurs, funders may be inventors who initials business as on the basis of new
or improved products or services. Founders refer to entrepreneurs who bring new
firms into existence.
General managers : As new firms become well established, founders become less
innovators and more administrators. Thus, we recognize another class of
entrepreneurs called general managers. General Managers preside over the operation
of successful ongoing business firms. They manage the week to week and month – to
month production, marketing and financial functions of small firms .
Franchisees :A system in which semi-independent business owners (franchisees) pay
fees and royalties to a parent company (franchiser) in return for the right to become
identified with its trademark, to sell its products or services, and often to use its
business format and system.
 Creativity and Innovation

Creativity is related to ‘imagination’, but innovation is related to

‘implementation’

Comparison Creativity Innovation

Meaning Creativity is an act of creating new ideas, Innovation is the introduction of
imaginations and possibilities. something new and effective
into the market.
Process Imaginative Productive
Related to Thinking something new Introducing something new

Money Not required Required

Risk No risk There will risk
 …cont.
Innovation is closely tied to creativity i.e. putting creative ideas into action is an
innovation, whose consequences should be positive

Assignment One:
1.What is franchise & franchisee in business? (3%) [max 1page]
2.Discuss the role of entrepreneurship in the economy of certain
country.(3%) [max 2 pages]
3. Discuss the concept of goal setting and SWOT analysis
separately.(4%) [ max 2 pages]
 Elements Involved in Entrepreneurship
1.RISK:-
Simply stated risk is “a condition in which there is a possibility of an adverse deviation
from a desired outcome that is expected or hoped from applied to a business risk
translates into the possibility of losses associated with the assets and the earning
potential of the firm. ”
Entrepreneurs face a number of different types of risk. These can be grouped in to basic
areas.
a. Political risk
b. Business risk
c. Economic risk
d. property risk
e. Personal risk
 …cont.

2.Information
Information gives the following importance to the businessmen’s
To know the position of their competitors that is their strength and
weaknesses, business strategy they use and their long term plan.
To know threats and opportunity in doing business.
Helps to design long term objectives and goals indicate capital
requirement (labor, capital and machinery).
Helps to know market position locally and internationally.
Sources of information
Information are obtained from two main methods of data collection. That is
primary data collection and secondary data collection
 …cont.
A. Collection of primary data:
Observation method
Interview method
Through questioner
Other methods which includes warranty cards, consumer panels, etc.
B. Collection of secondary data:-Secondary data are available in
Various publication of the central state and local government
Various publications of foreign government or international bodies and their
subsidiary organization.
Technical and trade journals
Books, magazines and newspapers
Reports
Public records and statistics, historical documents.
 …cont.

By way of caution, the entrepreneur before using secondary data must see that the
process following characteristics
1.Reliability of data
a. Who collected the data?
b. What were the sources of data?
c. Were they collected by using proper methods?
d. At what time they collected. Etc.
2.Suitability of data:- the data that are suitable for one enquiry may not be suitable for
another enquiry, then the researcher has to check the suitability of the data properly.
3.Adequacy of data:- is the information is enough ?
 Part Two : Creation of New Venture
Contents:
• Developing the Entrepreneurial Plan
• Ideas versus Opportunities
• Commercialization of technology-based innovation
• Formation, development, and growth of technology-based new enterprises
 Developing the Entrepreneurial Plan

Entrepreneurs discover an entrepreneurial opportunity when they find a compelling

solution to an unsolved problem or unsatisfied need. In order to solve these
problems and satisfy those needs the entrepreneur should prepare his/ her plan
systematically. This systematic and logical plan is called business plan.
Business planning is the process of setting goals, explaining the objectives and then
mapping out a document to achieve these goals and objectives.
Business idea: It is logical to think of a goal for the unit in long run rather than to
look for the immediate tomorrow. This long-term thinking is called basic business
idea
 …cont.

To select the best business idea, the following general steps needs to be pursued.
a. Identify your problem
b. Define your objectives
c. Identify, develop and analyze the possible alternative
d. Select the best alternative in light of the specific criteria set to the better
fulfillment of the objective.
Steps in business setting:
1. The first key to success in any manufacturing activity is to select the right
product. These must be examined with a view to assess:
The marketing aspects
Technical aspects
 Financial aspects
 …cont.

2. Having selected a product, a detailed project report to be prepared. This will cover the
following aspects.
A detailed estimate of demand is to be made.
Technical specifications of the process should be carefully studied.
The equipment required and their sources are to be specified
Requirement of space
The total cost of the project to be worked out, the means for financing it identified
The economics of the entire scheme at projected operating level is to be assessed.
3. Implementation of the detailed project report. Includes:
Deciding on form of ownership and registration
Obtaining finance ,Obtaining license
Establishing necessary infrastructures
 …cont.

4. Once all the required authorizations and sanctions have been obtained, simultaneous
action is to be taken for the following. Pre-commissioning requirement
Ordering machinery from suppliers
Obtaining utilities like power and water connections after constructions of shed,
if necessary.
 Recruitment of staff,
Arranging supplies of materials
Arranging for distribution of the products
 …cont.

5. Once these are complete, the plant is ready for commissioning trial run
may be made. Commissioning of plant, Includes:
Trial run of machineries
Promotional activity for the product
Introduce the product to the market and obtain feedback
6. The unit is then ready for commercial production.
All the above discussed aspects should compiled logically in the business plan prepared
by the entrepreneur. So a business plan is a document, generally prepared by the
entrepreneur himself/ herself.
A well-written Business Plan lays out the best growth path & strategy, as well as the
rationale for the selection of the strategy over other alternatives.
 …cont.

Components of business plan are:

Executive summary
Product/service plan
Management team plan
Marketing plan
Financial plan
Market analysis
Operational plan
Organizational plan
Growth plan
 Idea Vs Opportunities

WHAT IS A BUSINESS IDEA?

A business idea is a concept that can be used to make money. Usually it centers on a
product or service that can be offered for money. An idea is the first milestone in the
process of founding a business. Every successful business started as someone’s idea.
A promising business idea must have the following characteristics:
 Relevant (must fulfill customers’ needs or solve their problems)
 Innovative
 Unique
 Clear focus
 Profitable in the long run
 …cont.
Source of business ideas
Hobbies/Personal Interests
Personal Skills and Experience
Franchises
Mass Media (newspapers, magazines, TV, Internet)
Business Exhibitions
Surveys
Customer Complaints
Changes in Society
Brainstorming
Being Creative
 …cont.

A successful business idea must meet the following three conditions:

1. It must offer benefit to the customer by solving a problem or fulfilling a need.
Customers buy products and services for just one reason; to satisfy a need. So, if your
business idea cannot satisfy customers, it won’t be successful. Every successful business
idea must have a unique selling proposition.
2. It must have a market that is willing to accept it. A promising business idea must offer
a product or service that would be accepted by a large market. It must also have feasible
arrangements for catering to that large market as well as unique values that differentiates
it from the competition.
3. It must have a mechanism for making revenue. A successful business idea must show
how much money can be earned from it and how the money will be earned.
 …cont.
WHAT IS A BUSINESS OPPORTUNITY?
A business opportunity on the other hand is a proven concept that generates on-going
income. In other words, a business opportunity is a business idea that has been researched
upon, refined and packaged into a promising venture that is ready to launch.
A business opportunity may be defined simply as an attractive investment idea or
proposition that provides the possibility of a monetary return for the person taking the risk.
Such opportunities are determined by customer requirements and lead to the provision of a
product or service which creates or adds value for its buyers or end-users.
A good idea is not necessarily a good business opportunity. For example, you may have
invented a brilliant product from a technical point of view and yet the market may not be
ready for it.
 Commercialization of technology-based innovation
The process of taking an invention from idea to business concept and then submitting to
market is called technology commercialization.
Commercialization is one effective method of transferring technologies.
Establishing a technology's prospects for commercial success depends largely on five
factors:
1. Technical Development: The time, materials, and personnel needed to reduce the
technology to practice and protect rights to the resulting product.
2. Regulatory Clearance: The testing needed to demonstrate the product’s utility and
safety, and to meet federal regulatory requirements and to minimize or manage
associated risks.
3. Manufacturing Requirements: The facilities, people, and equipment needed to
make the product.
 …cont.

4. Market Development: The plan for successful marketing of the product, created by
assessing perceived need for the product, size of potential market, expected sales,
advantages over competing products, and the cost of promoting the product.
5. Financial Feasibility: The development costs, costs to produce, operating
expenses in relation to sales potential, net profits, potential liabilities, and
return on investment.
 Formation, Development, and Growth of Technology-based New
Enterprises

Introduction
The innovative capacity of an entrepreneur a is a key determinant of its capability to
enhance the economic development and to upgrade the standard of living of a country.
It is widely accepted that one of the indicators of this innovative capacity is the rate of
creation of New Technology-Based firms (NTBF).
• Strengthening and promoting technology based ventures through incubation
programs for new technology based enterprises is necessary for them to survive in a
competitive society.
 …cont.

How to form and develop Technology based ventures?

Entrepreneurship studies have identified three critical factors linked to successful
creation of technology ventures:
Technology,
 Talent and
Capital.
The strategic focus of new ventures is to facilitate the effective fusion of
innovative technology, strong, scientific, entrepreneurial and management
talent, and investment capital to create a successful venture.
However, these by themselves will not be sufficient for the successful
development of technology based ventures; sound national policies and
strategies are always at the heart of such development programs.
 …cont.

Government policies:
 Credit programs with State-subsidized rates
 Share programs by Government venture-capital companies
 Grants by the Government, especially for creating jobs and for research
 Security programs by the Government for taking over part of the risk of the credit
institutions for enterprises
Other support activities for enterprises with both public and private sector involvement,
include:
Business consulting services: Assistance with business development, developing
business plans, tax advice,
Technical consulting services: More specialized services are provided such as networking
assistance between enterprises and science and technology organizations, technology
transfer, the exchange of similar experiences and the identification of potential for
cooperation
 …cont.

Intellectual property assistance: Assistance with developing and patenting new and
improved technology, including bringing it to the market for profit.
Although there are different ways to develop the formation and development
process of a NTBF, there are four fundamental growth stages that most
entrepreneurs should focus on
These are :
Stage 1: Conception and development
Stage 2: Commercialization
Stage 3: Growth
Stage 4: Stability
 Stage 1: Conception and development

The primary focus of the entrepreneur is on the product development, the securing
of adequate financial backing and the identification of market opportunities.
In this stage, there are many problems or barriers related to conception that reduce
the chance for new ventures. Barriers related to:
 Lack of opportunities ,
Lack of well qualified entrepreneurs and
Lack of entrepreneurial culture
Stage 2: Commercialization
In this stage, the major focus of new ventures is on commercializing the product
itself. The dominant problems at this point include:
 Stage 2: Commercialization

 Acquiring adequate facilities

Establishing a vendor network
Developing product support capability
Some of the programs carried out by the different administrations are oriented to:
o Simplify proceedings for the creation of a new company
o Accessibility to different resources (financial and facilities) and services in
advantageous conditions.
o Training entrepreneurs to enable them its new challenges
o Creating incubators which are organized in order to support and facilitate processes of
enterprise creation.
 Stage 3: Growth

This stage is characterized by high growth in both sales and employees. The major
problems of the firm at this stage are to produce, sell, and distribute the product in
volume while attaining profitability.
Programs to overcome above-mentioned problems have to do with:
o Training entrepreneurs in new managing techniques; special attention to
internationalization.
o Processes of clustering companies of the same industry in order to facilitate the
interchange of experiences and best practices.
o Access to financial resources
 Stage 4: Stability

The growth rate of the firm slows to a level consistent with market growth. The
major problems of the firm at this point are to maintain growth momentum and
market position. Therefore, the entrepreneur should focus on the introduction of
second-generation product for acquiring new opportunities and the expansion of the
business into new geographic territories and markets. Therefore the programs that
can be carried out have to do with:
• Enhancing the innovative capacity of firms.
• Facilitating their internationalization.
 Part Three: International Technology Transfer and Multinational Enterprises innovation

Contents :
• Technology usage and adoption
• Public regulation of technology transfers
• Diffusion and Mechanisms of Technology Transfer
• Intellectual Property Right
• Appropriateness of technology
 …cont.
What is technology?
Technology is science or knowledge put into practical use to solve problems or invent useful
tools.

Technology is not simply hardware or physical objects; rather, it is knowledge about the

physical world and how to manipulate it for human purposes.

The term transfer is also problematical. Since technology is essentially information, "transfer" is
essentially communication of information both within individuals and groups and between them
and the use of that information in the recipient system.

Technology transfer is the process by which existing knowledge, facilities or capabilities are
utilized and marketed to fulfill public and private needs.
 …cont.
It is the process by which basic science research and fundamental discoveries
are developed into practical and commercially relevant applications and
products.

Technology transfer is the movement of new technology from its creator or

researcher to a user, especially as products or publications; also, the
movement of new technology from developed areas to less-developed areas.

Technology transfer is in large measure an exercise in the use of language to

communicate, and an appreciation of the role that language plays in leading to
individual, organizational, and social action is essential.
 …cont.

Technology transfer involves more than hardware supply; it can involve the complex
processes of sharing knowledge and adapting technology to meeting local conditions.
Further, technology transfer is
1) assignment of technological intellectual property, developed and generated in one
place, to another through legal means such as technology licensing or franchising.
2) Process of converting scientific and technological advances into marketable goods
or service.
Domestic technical and managerial capacities, institutions and investments in
technological learning all influence the effectiveness with which technology can be
absorbed and adapted.
 …cont.

Human resource and institutional development are crucial to facilitating technology utilization.
Institutional development includes;
Capacities for technology and business assessment,
Incubation, and
Technology testing and
Demonstration
Technology transfer processes constitutes
Technology transfer, Technology promotion,
Technology deployment, Technology innovation,
technology development, Technology research,
technology assessment, Technology information and communication,
Technology investment, Technology collaboration
Technology commercialization
 …cont.

Major TT Mechanisms
Collegial interchange, conference, publication
It is informal and free exchange of information among colleagues, which includes
presentation at professional and technical conferences and publication in professional
magazines. It is widely used and the first step of linkage between academic institutes, their
research centers and industry.
Joint venture of R&D and joint research projects
A contract or agreement is drawn between university/publically funded research institute and
a contractor in which costs associated with the work are shared according to conditions as
specified in the contract.
Cooperative R&D agreement
This is an agreement between one or more university research laboratories and one or more
firms under which the university side provides personnel, facilities, or other resources with
or without reimbursement.
 …cont.

Licensing
Licensing is the transfer of less-than-ownership rights in intellectual
property to a third party, to permit the third party to use intellectual property.
Training
Technology transfer through training could be in the form of practical
training wherein students are exposed to the working methods and
requirements of jobs at industry or at the institutions.
Technology donations
It is the process of offering technology as a charity or gift and providing grant
or giving for a cause to any organization, farmers or group of farmers,
industry, institute and country.
 Technology Adoption

Adoption in an organization is the decision to make full use of an

innovation or that employees will routinely use Skill as another means for
obtaining training or education.
The technology adoption lifecycle is a sociological model that describes
the adoption or acceptance of a new product or innovation, according to
the demographic and psychological characteristics of defined adopter
groups.
 …cont.

Consider the next figure

 …cont.
The process of adoption over time is typically illustrated as a classical normal
distribution or "bell curve". The model indicates that the first group of people to use a
new product is called "innovators", followed by "early adopters". Next come the early
majority and late majority, and the last group to eventually adopt a product are called
"Laggards" or "phobic."
Innovators – had larger farms, were more educated, more prosperous/rich and more risk-
oriented
Early adopters – younger, more educated, tended to be community leaders, less
prosperous
Early majority – more conservative but open to new ideas, active in community and
influence to neighbors.
Late majority – older, less educated, fairly conservative and less socially active
Laggards – very conservative, had small farms and capital, oldest and least educated
 Introduction to Intellectual Property Rights
The concept of intellectual property (IP) will be understood better if we
understand what is meant by the term property.
To a lay mind, property means some material object belonging to a particular person.
Ownership means the right to possess, use and dispose of the property and at the desire
of the owner, to exclude the others.
In the legal sense, property refers to the bundle of rights that the law confers on
a person by virtue of the ownership and possession of an object.
Intellectual property is simply the property created by the application of human mind. It
is non-physical (incorporeal) and it derives its value from idea(s).
Different types of IP rights like patent, copyright, trade mark, design etc. can protect
these ideas and products.
 …cont.
Types of Intellectual Properties
Intellectual property rights include patents, copyright, industrial design rights,
trademarks, plant variety rights, trade dress, geographical indications, and in some
jurisdictions trade secrets
IP has been generally divided into two main categories
(a) Industrial Property,
(b) Copyright.
Industrial property consists of rights relating to inventions, trademarks, patent,
geographical indications, industrial designs and appellation of origin.
Whereas copyright protects
rights related to creation of human mind in the fields of literature, music, art and audio-
visual works.
 …cont.

A patent: is a statutory right granted for a limited period to an inventor in

respect of an invention to exclude any other person from manufacturing, using or selling
the patented product or from using the patented process, without due permission.
A patent provides patent owners with protection for their inventions. protection is
granted for a limited period, generally 20 years.
Why are patents necessary?

Patents provide incentives to individuals by recognizing their creativity and offering the
possibility of material reward for their marketable inventions. These incentives
encourage innovation, which in turn enhances the quality of human life.
 …cont.
What kinds of inventions can be protected?
An invention must, in general, fulfill the following conditions to be protected by a
patent.
It must be of practical use

It must show an element of “novelty”, meaning some new characteristic that is not part
of the body of existing knowledge in its particular technical field. That body of existing
knowledge is called “prior art”.

The invention must show an “inventive step” that could not be deduced by a person with
average knowledge of the technical field. Its subject matter must be accepted as
“patentable” under law.
 …cont.
Who grants patents?
Patents are granted by national patent offices or by regional offices that carry out
examination work for a group of countries – for example, the European Patent
Office (EPO) and the African Intellectual Property Organization (OAPI).

Under such regional systems, an applicant requests protection for an invention in one or
more countries, and each country decides whether to offer patent protection within its
borders. The World Intellectual Property Organization (WIPO)-administered Patent
Cooperation Treaty (PCT) provides for the filing of a single international patent
application that has the same effect as national applications filed in the designated
countries. An applicant seeking protection may file one application and request protection
in as many signatory states as needed.
 Appropriation of Technology

The appropriation of technology refers to the acquisition of technology in both of the

following two ways: in-house research and development and from external sources by
acquisition or strategic alliances.

Firms have gradually migrated toward the third generation principles of technology
appropriation, which emphasize the connection between appropriation and business
strategy formulation. These principles further view appropriation projects as portfolios
with their own business objectives.
 Appropriation of Technology

Choosing to adopt a portfolio of technology appropriation projects involves some basic

principles. First, technological opportunity and appropriability of the project are
determined by the competitive impact of technology. Second, firms should undertake
projects only in areas where they are competitively strong. Third, risks and rewards need
to be considered in terms of the portfolio. Finally, external sourcing needs to be
considered as an alternative implementation mode. However, external sourcing should
only be used when it is a speedier or a less-costly alternative for the appropriation of a
specific technological capability relative to internal R&D, without compromising the
competitive advantage of the firm.
 Part Four: Assessing the Feasibility of a New Venture

Contents :
• Assessment and evaluation of entrepreneurial opportunities
• Legal structures and issues
• Sources and types of capital
• Buying versus starting a business
• Marketing in business enterprises
 Introduction

A feasibility study is an analysis of the viability of an idea. It focuses on helping

answer the essential question of “can we proceed with the proposed project idea?” All
activities of the study are directed toward helping answer this question.
It aims to objectively and rationally uncover the strength and weakness of an existing
business or proposed venture.

A well- designed feasibility study should provide a historical background of the

business or project, clear description of product/service, accounting statements, details
of operations and management, marketing research and policies, financial data, legal
requirements.
 …cont.
A feasible business venture is one where the business will
Generate adequate cash-inflow and profits,
Withstand the risks it will encounter,
Remain viable in the long-term and meet the goals of the founders.
 Guidelines of business feasibility study

1. Description of the Business; involves description of the product/ service i.e. its
name, shape, size, color, functions, advantages, specification, target area of the
business, safety related issues and other description related to the business should
explained carefully.
2. Study Market Feasibility: Enterprise description, Enterprise competitiveness,
Market potential, sales projection, Access to market outlets …
What is a market?
The market for a business is all the people within a specific geographical area who
need a specific product or service and are willing and able to buy it. Potential
customers can be described as:
1. People who need or want the product or service.
2. People who are able to buy the product or service.
3. People who are willing to buy the product or service.
 …cont.

What should entrepreneurs know about potential customers?

a. Know the customers: The market can be segmented either by dividing it into
meaningful buyer groups or dividing it according to characteristics such as age, sex,
marital and family status, employment, income and trends regarding any of these
characteristics.
b. Know what different customer groups wants: By segmenting the marketing into
groups, it is easier for entrepreneurs to determine what products or services each group
wants or needs.

c. Know where the customer buys: Entrepreneurs need to find out where the customers
in their market are presently buying, and determine what factors will cause them to
switch and buy from their new businesses.
 …cont.
d. Know how the customer buys: Knowing how the customer pays for products and
services can help the entrepreneur to determine a credit policy as well as a pricing policy
for the business.

e. Know when the customer buys: By knowing when customers buy (daily, weekly,
monthly, yearly, seasonally), entrepreneurs will be able to determine such things as
possible hours of operation, when to advertise and quantity of merchandise to have on
hand at specific times of the year.
Where can customer information be located?
Customer information can be obtained from trade associations (publications), chambers
of commerce, government agencies (including local government), newspapers and
magazines, and individual research by conducting a market survey in the community.
 …cont.

When applying the marketing concept, a business should:

a. Determine the needs of their customers (market research);
b. Analyze their competitive advantages (marketing strategy);
c. Select specific markets to serve (target marketing); and
d. Determine how to best satisfy those needs (marketing mix).

Further read about details of the above marketing concepts and five Ws of
marketing.
 …cont.

3. Technical Feasibility: Determine facility needs, Suitability of production

technology, Availability and suitability of site, Raw materials …etc.
4. Financial Feasibility: Estimate the total capital requirements, Estimate equity and
credit needs and determine sources, Budget expected costs and returns of various
alternatives…
5. Organizational/Managerial Feasibility: legal structure of the business, Business
founders
6. Study Conclusions: it contain the information you will use for deciding whether to
proceed or not with creating the business
 Assessing Business Opportunities

Ideas and opportunities need to be screened and assessed for viability once they have
been identified. This is not an easy task, and yet at the same time, the assessment of
business opportunities is extremely important. This assessment can make the difference
between success and failure, between making a fortune and losing everything. While
the assessment exercise does not guarantee success, it certainly helps in minimizing the
risks and reduces the odds for failure.
Identifying and assessing business opportunities involves, determining risks and
rewards/returns reflecting the following factors will be discussed.
Industry and market
The key question to be answered is whether there is a market for the idea. A market in
this context consists of customers – potential or actual – who have needs and wants,
and who have the ability to purchase your intended product or service. There is also a
need to consider whether what the customer wants can be provided at the right price, in
the right place, and in a timely manner.
 …cont.

Another important consideration is the size of the market and the growth rate of the
market.
Length of the ‘window of opportunity'
Opportunities are said to have a ‘window of opportunity.’ That is, they do exist, but
they do not remain open forever. Markets grow at different rates over time, and as a
market gets bigger and more well-established, conditions for success are not as
favorable. Timing is therefore important.
Personal goals and competencies of the entrepreneur
An important question for anyone venturing into business is whether they want to
undertake that particular venture. Personal motivation is an essential attribute of a
successful entrepreneur. Unless a person really wants to do that kind of business, he or
she should not venture into it.
 …cont.

A related question is whether the potential entrepreneur has the necessary competencies
(including the knowledge, skills and abilities) for the requirements of the business and, if
not, whether other people could be brought in.
Business environment
The environment within which the business will operate has a great influence on the
attractiveness of any opportunity. By business environment, we are referring not only to
the physical environment, which is important and increasingly so, but also the political,
economic, geographical, legal and regulatory contexts.
 Forms of ownership and legal requirements

Ownership of business is represented by the right of individual or a group of individuals to

acquire legal title to property (assets) for the purpose of controlling them and to enjoy the
gains of profits from such possession and use.
The most common forms and currently in wide used by small business are:
 Sole proprietorship
 Partnership
 Corporations and
 Cooperatives
1) Sole proprietorship
It involves an individual or single person owns an enterprise. The sole proprietorship is a
form of business organization in which
• An individual introduces his capital,
• Use of his own skill and intelligence in the management of its affairs and
• It is solely responsible for the results of its operation
 …cont.

Example: Photo studio, bookshop, bakeries, small town restaurants, retail stores, radio
and watch repair shops, and other elementary forms of business where personal service
is important.
Advantages of Sole proprietorships
a. Ease and low cost of formation and dissolution:-there are no restrictions on
either starting or terminating small business operations.
b. Direct motivation and personal care
c. Freedom and promptness of action
d. Business confidentiality
 …cont.

Disadvantages of sole proprietorship

a. Limited resources and size:-the capacity and skill are very limited.
b. Limited Managerial Skill:- in complex and difficult condition which requires
different expertise knowledge
c. Unlimited liability/ more burden
d. Uncertain future/Death of the owner terminates the business/
2. Partnership
• The association of two or more persons to carry as co-owners of a business where the
relationship is based on agreement is called partnership. These persons entering into
a contractual relationship.
This contract, which is an agreement between the parties, is known as a memorandum
of association or article of partners’ deed.
 …cont.

Advantages of partnership
a. Ease of starting
b. Increased source of capital:-Partnership can offer creditors less risk than a sole
proprietorship; it is often an attractive investment.
c. Combined managerial skill
d. Definite legal status
• Today’s partner can be assured that a competent lawyer can answer virtually any
questions he/she might have about this form of ownership. i.e lawyers can provide
a sound legal advice about partnership issues.
e. Motivation of important employees
f. Reduced risk
 …cont.
Disadvantages of partnership
a. Lack of harmony
b. Lack of continuity/instability/
If any one of the general partners dies, withdraws because of mentally or physically
incapable (injured), the partnership ends.
c. Investment withdrawals difficulty /frozen-investment/
3. Corporation
A corporation is an artificial person authorized and recognized by law, with distinctive
name, common seal comprising of transferable shares of fixed values, carrying limited
liability and having continued or uninterrupted succession life.
 …cont.
Advantages of a corporation
a. Financial strength
b. Limited liability
c. Scope of expansion : Corporations have greater potential than sole proprietorship or
partnerships
d. Managerial efficiency
e. Legal entity status: A corporation can purchase property, make contracts, sue and be
sued in the corporate name.
Disadvantages of a corporation
a. Difficulty of formation: It is time consuming and cumbersome/not manageable to
establish corporations unlike the other forms of businesses.
 …cont.
b. Lack of owner’s/manager’s personal interest
These forms of organizations are managed by directors, hired officials, and employees
who may not be expected to have such an interest in the success of the business as the
individual owner or partner would have in his own business.
c. Delay in decision-making…it needs official meeting of managers or board
d. Lack of secrecy….openness…lack of privacy
e. Double taxation
 …cont.

4. Cooperative
It is an organization owned by members/customers who pay an annual membership fee
and share in any profits (if it is profit making organization). It is owned and controlled
by those who use its service/product.
Individuals and firms who belong to the cooperative join together to market products,
purchase supplies, and provide services for its members.
Cooperatives are fairly common in the agricultural community.
 Sources of Capital

Finance sources are broadly classified into two main parts

 …cont.

A. Internal sources (Equity capital)

Owners capital or owners equity represent the personal investment of the owner or owners in
a business, and it is sometimes called risk capital because these investors assume the primary
risk of losing their funds if the business fails.
It requires no repayment in the form of debt and much safer for new ventures than debt
financing.
It also requires sharing the ownership and profits with the funding sources.
Personal savings,
Friends and relatives,
Angels (private investors ) i.e. wealthy individuals
Partners,
Venture capital companies,
Public stock sale (going public)
 …cont.

B. External source (Debt capital)

Borrowed capital or debt capital is the external financing that a small business owner
has borrowed and must repay with interest.
Although borrowed capital allows entrepreneurs to maintain complete ownership of
their business, it must be carried as a liability on the balance sheet as well as be repaid
with interest at some point in the future or with in the time stipulated in the contract.
Commercial banks (borrows in short term, medium term, long term loan)
Trade credit (It is credit given by suppliers who sell goods on account)
Equipment suppliers (Addis capital equipment)
Credit Unions: non profit organizations but borrow for members
Insurances
 Buying versus starting a business

Buying an existing business

Advantages
• Existing businesses already have customers, suppliers, and procedures.
• Seller of the business may be willing to train the new owner.
• There are existing financial records.
• Financial arrangements may be easier.
Disadvantages
• Business may be for sale because it is not making a profit.
• Problems may be inherited with the purchase of an existing business.
• Many entrepreneurs may not have the capital needed to purchase an existing
business.
 …cont.

Starting Your Own Business

For whatever reason, running an existing business or operating a franchise may not be
right for you. This means to be an entrepreneur you will have to establish a business of
your own.
Advantages of Starting Your Own Business
• Independence
• Satisfaction
• Challenge of creating something new
• Triumph when business is profitable
Disadvantages of Starting Your Own Business
• Risks
• Uncertainty of demand for the product/service
• Need to make decisions daily
 DEVELOPING A BUSINESS PLAN

WHAT IS A BUSINESS PLAN?

A business plan is a comprehensive set of guidelines for a new venture.

A business plan is also called a feasibility plan that encompasses the full range of
business planning activities, but it seldom requires the depth of research or detail
expected for an establishment enterprise.

A business plan would present your basic business idea and all related operating,
marketing, financial and managerial considerations.
 …cont.

The Purpose of Business Plan

1. It can help the owner/manager crystallize and focus his/her idea.
2. Although planning is a mental process, it must go beyond the realm of thought.
3. It can help the owner/manager set objectives and give him a measurement against
which to monitor performance.
4. It can also use as a vehicle to attract any external finance needed by the business.
E.g. To get fund…
5. It emphasizes the strengths and recognizes the weaknesses of the proposed venture.
6. It entails taking a long-term view of the business and its environment.
 Why The Business Plans Are Produced?

Assessing the feasibility and viability of the business/project: it is in every ones

interests to make mistakes on paper, hypothetically testing for feasibility, before
trying the real thing.
Setting objectives and budgets: having a clear financial vision with believable
budgets is a basic requirement of everyone involved in a plan.
Calculating how much money is needed: a detailed cash flow with assumptions is
vital ingredient to precisely quantify earlier the likely funds required.
 Components of Business Plan (Out Line of A Business Plan)

I. Analysis of the current situation (where are we now?)

1. Identification of the business
a. Introduction
 Relevant history and background
 proposed date for commencement of trading /beginning of a plan
b. Names
 Name of the business and trading name
Name of the manager or the owner
c. Legal identity
Details of share or capital structure
Company/sole trade/partnership/cooperative
 …cont.

d. Location
Address registered and operational
Brief details of land and building type
2. The key people
a. Existing management- Outline of background experience
- skills and knowledge.
- Names of the management team
b. Future requirement -gaps in skills and experience and how they will be filled
,future recruitment intentions
3.The nature of the business
a. Product(s)or service(s)-Description and applications
-Key suppliers
-Planned developments of product or service
 …cont.
b. Market and customers
–Definition of target market, classification of customers
- Trend in market place
c. Competition- description of competitors; strength and weakness of the major
competitors.
II. Future Direction (where do we intend going?)
1. Strategic Influence -SWOT Analysis
a. Opportunities and threats in the business environment
• Socio-economic trends, Technological trends
• Legislation and politics, Competition
b. Strengths and weaknesses
In its industry, In the general environment:
 …cont.

2. Strategic direction:
 Objectives- general and specific
 Policies, guidelines and rules
 Activities, action plans and timetable of key activities
III. Implementation of Aim (How Do We Get There?)
1.Management of resources
a. Operation: premises, equipment, materials, insurance, management information
system
b. Peoples/Human resource/- employment practices, team management, training
etc.
2. Marketing plan
a. Competitive edge- unique selling point of business (Critical products or service
characteristics or uniqueness in relation to competitors)
 …cont.

b. Marketing objectives - specific aims for product or service in the market place
c. Marketing methods- product, pricing, promotion, distributions=4ps
3. Money: financial analysis
a. Funding requirement- start up capital, working capital, asset capital, timing of
funds required, security offered.
b. Profit and loss:- 3 years forecast, sales variable costs, profit, overheads, net profit
c. Cash flow:- 3 years forecast, receipts, payments, monthly and cumulative cash flow
d. Balance sheet; use of funds, source funds
 Marketing in Business Enterprises

Definition of Market:
Market is a group of potential customers having needs to satisfy, ability to buy &
willingness to pay in order to satisfy these needs.
OR
A social & managerial process by which individuals & groups obtain what they
need & want through creating & exchanging products & value with others.
The Marketing Mix
A marketing organization has to concentrate on four important aspects known as the
4P’s of marketing. (their combination is marketing mix)
The marketing manager has to combine these 4P’s (PRODUCT, PRICE,
PROMOTION and PLACE.) in such a way that the combination provides
satisfaction to the customer and profit to the manufacturer.
 …cont.

1.The product mix: Includes:

• Product planning and development 3. Place mix (Physical
• Branding Packaging Labeling distribution mix):
• Channels of distribution
• Transportation
2.The price mix: Includes
• Warehousing
• Price polices
• Skimming pricing (Pricing above the market) 4. Promotion mix: Includes
• Penetration pricing (Pricing below the market)• Advertising
• Premium pricing (Pricing with the market) • Personal selling
• Discounts • Sales promotion
• Quantity discount Seasonal discount • Publicity
• Trade discount Cash discount
• Credits
 I. THE PRODUCT MIX
Product: is a commodity or a bundle of tangible & intangible attributes, which satisfy
the needs, & wants of customers.
 A person (soccer players), Organization (privatized firms),
 Places (leased land), Objects (items),
 Idea (business plans or project proposal),
 Services (medication or barber), or mixes of these elements.
1.Product planning and development
Product planning includes three major types of decisions:
a. Development and introduction of new products
b. Modifications of existing products in keeping with the changing tastes and
preferences of the target customers and
c. Elimination of unprofitable or obsolete products
 …cont.

2. Branding 1. Brand Name:

• Brand: the part of a brand, which consists of word,
A name, term, sign, symbol, letters and/or numbers, which can be
design, or combination that vocalized. … identification to the product e.g.
a uses to identify its products sprite
and differentiate them from 2. Brand Mark:
those of competitors. e.g. The element of a brand that cannot be vocalized.
coke, NIKE, Apple etc. 3.Trademark:
A brand or part of a brand that is registered with
the U.S. Patent and Trademark Office.
Trade Name: Trade name is the name of the business organization. A trade name may also be
used as a brand name. In such a case it performs a dual function. It gives identification to the
product as well as the manufacturer
 …cont.
Importance of a brand
The brand makes it easier for the seller to process orders and track down problems.
The seller’s brand name and trademark provide legal protection of unique product
features.
Branding gives the seller the opportunity to attract a loyal profitable set of customers
and helps to increase the control and share of the market.
Branding helps the seller to segment markets and expand the product mix.
Good brand help to build the corporate image because it advertises the quality and
size of the company.
Brands make it easy for customers to identify products or services.
 …cont.
3.Packaging
Packaging is a marketing process concerned with the design and production of the
container or wrapper for a product and the material is package.
The container or wrapper or covering is called the package.
Importance of packaging
Packaging serves several safety and utilitarian purposes
Packaging may implement a company’s marketing program.
Well-packaged products may increase profit possibilities in that it stimulates
customers to pay more just to get the special package.
It gives information for the user.
 …cont.

4.Labeling
1. Brand label: simply the brand alone applied to the product or to the package.
2. Grade label: a label, which identifies the quality with, a letter, number or word.
3. Descriptive label: it gives objective information about the use, construction, care,
performance or other features of the product. Sometimes it is called informative label.
E.g. medicines
 II. THE PRICE MIX

Price is the amount of money consumers have to pay to obtain the product.
Methods of Pricing
a. Cost plus pricing/ Mark Up pricing/ i.e. cost+profit=price
b. Skimming pricing: it involves set the product price above the market price.
But the following conditions should be satisfied
 A sufficient number of buyers have a high current demand.
 The high initial prices do not attract more competition to the market.
 The high price communicates the image of a superior product.
c. Penetration pricing: pricing below market price
d. Premium pricing: pricing with market
 III. THE PLACE MIX

Place: Includes company activities that make the product available to target consumers
Physical distribution includes:
Channels of distribution
Transportation
Warehousing/ storing goods/
The marketing (or distribution) channels refer to the activities, parties and channel
structure required to transfer a product from its point of production to its point of
consumption by the end customer
Direct channel
1.Door-to-door selling  
2.Manufacturers’ sales branches
3.Direct mail
 …cont.
Indirect channel
Merchant Middlemen:-
• Whole seller:- E.g. Petram PLC and East Africa Trading are wholesalers of
consumer products.
• Retailer:- E.g. Hadiya supermarket, and several Kiosks are found closer to sell
the items to residential houses.
Agent Middlemen
Commission agent, Brokers, Selling agents,
E.g. -Sony Glorious, is an agent to SONY Electronics products,
-Equatorial business is agent to Samsung, Volvo etc.
 IV. PROMOTION MIX

Promotion sometimes known as marketing communication. That Means activities

that communicate the merits of the product & persuade target customers to buy it.
Promotional objectives:
o Informing the product, Increasing sales, Stabilizing sales / profit
The promotional mix consists of four major tools
Advertising: such as informative Ad, Persuasive Ad and Reminder Ad
Personal selling – Oral presentation in conversation with one / more consumers for
the purpose of making sale
Sales promotion – Includes: gifts, games, sampling, coupons, and window displays.
Publicity – Any information about the organization, its personnel or its products that
appears in any medium on a non - paid basis.
 Part Five : Growing the New Venture

Introduction
Growing a business means taking many decisions about the way you want to expand
your operations. Business growth can be achieved by boosting the top line or revenue
of the business with greater product sales or service income, or by increasing the
bottom line through enhancing profitability by minimizing costs.
In order to achieve these business objectives (growing the business) it is better to
Create good management team
Prepare strategic plan (plan strategically)
Develop team of advisors
Managing the financial growth.
 Strategic Planning

Planning is the process of setting objectives for the future and developing courses
of action to accomplish them.
Planning is deciding in advance
i. What to do it,
ii. How to do it,
iii. When to do it and
iv. Who is to do it
You can’t know what will happen, but you know what you want and where you want to be
when it happens. By planning strategically for the future, a business can anticipate
potential unknowns and embark on a journey where they are most likely to achieve their
goals.
 …cont.

Creating strategic plan is a key component of planning for growth. It helps you to
prepare a realistic vision for the future of your business and in doing so can maximize
your business potential for growth.

The purpose of strategic planning is to set your overall goals for your business and to
develop a plan to achieve them. It involves stepping back from your day-to-day
operations and asking where your business is headed and what priorities should be.

Key elements of strategic planning :

Where is your business now? : this involves understanding as much about your
business as possible, including how it operates internally, what drives its profitability,
and how it compares with competitors.
 …cont.

Where do you want to take it?

Here you need to set out your top level objectives. Set your vision, mission,
objectives, values, techniques and goals. Where do you see your business in five or
ten years?
What do you need to do to get there?
This involves what changes will you need to make in order to deliver on your
strategic objectives?
What is the best way of implementing those changes?
Managing the Growth of New Venture
 …cont.

The above figure shows you the growth stage of ‘strawberry’, this is the same as
true for business. i.e. any business has its growth stage, referred to as five growth
stages of business.
Stage I – Existence
Stage II – Survival
Stage III- Success
Stage IV – Take-off
Stage V – Resource maturity
To have successful and profitable business the entrepreneur have to manage each of
these stages scientifically. Different activities should be addressed in each growth
stage to manage the growth of the entire business.
 …cont.

Stage I - Existence
This stage involves launching of the venture to the society (customers) with new or
improved products and service. In this stage the main problems of the business are
obtaining customers and delivering the product or service. To overcome these
problems the entrepreneur should ask and analyze the following questions:
a. Can we get enough customers, deliver our products, and provide services well
enough to become viable business?
b. Can we expand from that key customer or pilot production process to a much
broader sales base?
c. Do we have enough money to cover the considerable cash demands of this start – up
phase?
 …cont.

Stage II- Survival stage

In reaching this stage, the business has demonstrated that it is a workable business
entity and the enterprise may grow in size and profitability. In this stage the
enterprise may have enough customers and satisfies them sufficiently with its
products and services to keep them. The key problem is thus shifts from mere
existence to the relationship between revenue and expenses. The main issues are
listed as follows:
a. In the short run, can we generate enough cash to break- even and to cover the
repair or replacement of our capital asset?
b. Can we at a minimum generate enough cash flow to stay in a business and finance
the growth?
 …cont.

Stage III- Success

The decision facing owners at this stage is whether to exploit the company’s
accomplishments and expand or keep the company stable and profitable, providing a
base for alternative owner activities. Thus a key issue is:
Whether to use the company as a platform for growth or partially disengage from the
company.

Stage IV- Take -off

In this stage the key problems are how to grow rapidly and how to finance that growth.
The most important questions are in the following areas:
Delegation: can the owner delegate responsibility to others to improve the managerial
effectiveness of a fast growing and increasingly complex business?
 …cont.

Cash: will there be enough to satisfy the great demand growth brings (often
requiring a willingness on the owner’s part to tolerate a high debit- equity ratio) and
a cash flow that is not eroded by inadequate expense controls?
Stage V- Resource Maturity
A company in this stage has the staff and financial resources to engage in detailed
operational and strategic planning. The management is decentralized, adequately
staffed, and experienced. Here the owner and the business are quite separated.
 Developing the Management Team
All business need a range of skills to be able to survive and grow. If you want your
business to grow, it will reach a stage when these necessary skills need to be
improved and extended. This management team should have skills required to run a
business successfully which includes:
Sales and marketing
Production
Finance
Administration
Procurement
Human resource
Research and development
You might like to consider the following stages in developing your management
team.
 …cont.

1. Review your business progress to date and decide what direction you want it to go
in.
2. Measure your performance in the market against your competitors. Analyze any
strengths, weaknesses, opportunities or threats (SWOT) analysis to identify what
gaps there are between where the business and where you would like to go
3. Analyze what skills the business requires and consider what strengths weakness
you offer personally.
4. Learn the skills, potential and ambitions of your existing staff.
5. Establish where staff development could fill skills needs and consider reallocation
of responsibilities to create genuine team, rather than group of individual
managers and re-examine any skill gaps.
6. Look to permanent staff recruitment and give adequate training.
 Part Six : Risk and Insurance of Business Enterprises

Contents :

Definition of Risk
The process of Risk management
Classifying risks
Insurance of the Small Business
 Introduction

Definition of Risk
The term risk used in different ways. The following definitions given by different
scholars and practitioners in the field:
Risk is the channel of loss
Risk is the possibility of loss
Risk is uncertainty
Risk is the dispersion of actual from expected result
Risk is the probability of any outcome different from the one expected
Generally, risk is an uncertain event or condition that, if it occurs, has a positive or a
negative effect on a business objective. A risk has a cause and, if it occurs, a
consequence. But usually it has bad/negative connotation
Qn. In what condition do you think risk has positive effect?
 CLASSIFYING RISK BY TYPE OF ASSET

Risk may be grouped according to the type of asset-

• Physical or
• Human-needing protection
1.Property risks
Property-oriented risks involve tangible and highly visible assets. Many property-
oriented risks are insurable; they include:
Fire, Natural disasters, Burglary, Business swindles (or fraudulent transactions) and,
Shoplifting.
2.Personnel risks
Personnel-oriented losses occur through the actions of employees. The three primary
types of Personnel-oriented risks are:
 …cont.
i. Employee dishonesty,
ii. Competition from former employees,
iii. Loss of key executives
3.Customer risks
Customers are the source of profit for small business, but they are also the source of
an ever-increasing amount of business risk. Much of these risks are: On-premises
injuries and Product liability.
• On-premises injuries:
Inadequate security, which may result in robbery, assault, or other violent crimes;
Customers who are victims often look to the business to recover their losses.
• Product liability:
A product liability suit may be filed when a customer becomes ill or sustains physical
or property damage from using a product made or sold by a firm.
 RISK MANAGEMENT

What is risk management?

Risk management is a systematic way of protecting business resources and income
against losses so that the organization’s aims are reached without interruption, creating
stability and contributing to profit.
OR
Risk management is the identification, measurement and treatment of liability,
property and personal pure risks that the business organization is facing in order to
reduce and prevent the unfavorable effects of risk at minimum cost.
OR
It is the science that deals with the techniques of forecasting future losses so as to
plan, organize, direct and control the adverse effect of risk. i.e., Risk management is
defined on the base of managerial functions.
 Risk management and Insurance management

What is the difference in b/n?

Risk management is broader than insurance management in that it deals with both
insurable and uninsurable risks. Insurance management for most part it is restricted
to the area of those risks that are considered to be insurable.
• Naturally only pure risks are insurable . Speculative or market risks are not. Even
all pure risks are not insurable
Pure risk is used to describe a situation where only loss or no loss can occur-there
is no potential gain.
A pure risk exists when there is a chance of loss but no chance of gain/profit.
Example: Owner of an automobile faces the risk of a collusion loss. If collusion
occurs, he will suffer a financial loss. If there is no collusion, the owner will not
gain
 …cont.

The emphasis in the risk management concept is on reducing the cost of safeguarding
against risk by whatever means.
The process of Business risk management
In general, the basic functions of the risk management in carrying out of the
responsibilities assigned are:
1. Recognize exposure to loss
Is also called as risk identification
Is the first step of risk managers’ function.
Is the most vital task
• What types of possible losses are there?
• Failure to identify exposure to loss ==> the risk manager will not have any
chance of handling the loss that identify the risk.
 …cont.

2.To estimate the frequency and size of loss

i.e., to estimate the probability of loss from various sources. It is also called as risk
measurement.
Risk measurement means
a) Determination of the chance of an occurrence or relative frequency.
b) Determination of the impact of losses upon financial affairs.
c) The ability to predict the losses that will actually occur during the budget year.
3.To decide the best and most economical method of handling the risk if loss. (risk
response development)
i.e. Selection of the proper tool for handling risk
 …cont.

4. Implementing the decision (risk response control)

5.Revaluating the decision
Once the risk manager has identified and measured the risks facing the firm, the next
task is to seek for appropriate tools and decide how best to handle them. Risk can be
handled through the following tools:
 Tools of Risk Management

1. Avoidance
One way to handle a particular pure risk is to avoid the property, person or activity
with which the risk is associated.
Basically we follow two approaches of risk avoidance
i. Refusing to assume an activity
e.g. For instance, a firm can avoid a flood loss by not building a plant in a place
where flood is frequently affecting. In case of refusing, we are discontinuing the
activity.
ii. Abandonment of previously assumed activities:
e.g. A firm that produces a highly toxic product may stop manufacturing that
product.
 …cont.

2. Retention/Acceptance
Planned acceptance of losses by deductibles, deliberate noninsurance, and loss-sensitive
plans where some, but not all.
Types of retention
i. Planned/conscious/ active risk retention
• It is characterized by the recognition that the risk exists, and tacit agreement to assume
the losses involved.
• The decision to retain a risk actively is made because there are no alternatives more
attractive.
• Self-insurance is a special case of active retention. Self-insurance is not insurance,
because there is no transfer of the risk to an outsider.
E.g. A firm may keep some money to retain the risk.
A billionaire may not have to worry about insuring his car.
 …cont.

ii. Unplanned/Unconscious/ Passive Retention

Passive risk retention takes place when the individual exposed to the risk & does not
recognize its existence.
In this case, the person so exposed retains the financial consequence of the possible loss
without realizing that he does.
3. Loss Prevention and Reduction Measures
• Prevention is defined as a measure taken before the misfortune occurs.
• Generally speaking, loss prevention programs intend to reduce the chance of
occurrence.
Example:
 Constructing a building with a fire resistance material / fireproofing.
 Constructing a building in a place where there is little danger.
 …cont.
 Regularly inspecting the machine / area
 The existence of automatic loss detection programs.
 Fire alarms
 Warning posters /NO SMOKING!! , DANGER ZONE!!/
Loss reduction measures try to minimize the severity of the loss once the peril
happened/ after the event occurs.
For Example:
• An immediate first aid
• Medical care and rehabilitation service
• Guards
• Cover
• Fire extinguisher
 …cont.
4. Separation /Diversification
• Separation of the firm’s exposures to loss instead of concentrating them at one
location where they might all be involved in the same loss.
• Separation==>Dispersion/Scattering the exposure in different places.
“Don’t put all your eggs in one basket”
Example: Instead of placing its entire inventory in one warehouse, the firm may elect
to separate this exposure by placing equal parts of the inventory in ten widely
separated warehouses.
5. Transfer
o It is also called as shifting method.
o When a business organization cannot afford to cover the loss by itself, it may look
for/transfer institutions.
o Insurance is a means of shifting or transferring risk.
 …cont.

The following matrix can determine which risk management be used.

 Insurance for the Small Business

• Insurance is defined as protection against risks. And there are many risks associated
with starting a business. To protect your business and yourself, consider the
following insurance options.
• Insurers are professional risk takers. They know the probability of different types of
risk happening.
1. Basic principles for a sound insurance program
Basic principles in evaluating an insurance program include:
Identifying insurable business risks
Limiting coverage to major potential losses and
Relating premium costs to probability of loss
 …cont.

2.Requierments for obtaining insurance

a. There must be a sufficiently large number of homogenous exposure units to make the
losses reasonably predictable.
 Insurance is based on the operation of the law of large numbers.
 There must be a large number of exposures and those exposures must be
homogenous.
 Unless we are able to calculate the probability of loss, we cannot have a
financially sound program
b. The loss produced by the risk must be definite and measurable.
 The loss must have financial measurement or financial implication.
 The risk must be calculated
Example: For instance a person may purchase disability insurance. How do we know
that the person is unable to do? Thus, the risk must be definite and measurable.
 …cont.

c. The loss must be fortuitous or accidental.

i.e. the loss must be the result of a contingency, i.e., it must be something that may or
may not happen. It must not be something that is certain to happen. 
Wear and tear or depreciation, which is a certainty, should not be insured. No
protection is given by insurance.
d. The loss must not be catastrophic
All or most of the objects in the group should not suffer loss at the same time because
the insurance principle is based on a notion of sharing losses.
Example: Damage which results from war, flood, windstorm and so on would be
catastrophic in nature and hence do not have insurance.
 …cont.
e. The loss must be large loss.
The risk to be insured against must be capable of producing a large loss.
Incase the loss occurs, it must be severe that must be transferred to the insurer. Those
recurring and minor types of losses are not transferred to the insurance company.
f. Reasonable cost of transfer
i.e. the probability of loss must not be too high because the cost of transfer tends to
be excessive.
To be insurable, the chance of loss must be small. The more probable the loss, the
more certain it is to occur.
The more certain it is, the greater the premium will be. But to make insurance
attractive, the premium has to be for less than the face of the policy. For instance, a
life insurance company to issue a birr 1000 policy on a man aged 99. The net
premium would be about birr 980.
The end!!!!