Reading Passage Question

In a large number of cases the incentive for the acquisition or merger of competitive enterprises producing similar products was to gain more effective control of output, price, and markets. Such horizontal combination increased organisational capabilities only if a single, centralised administrative control was quickly established over the acquired companies and then the facilities and personnel were rationalised to exploit more fully the economies of scale and scope. But if the companies acquired or those coming into the merger were not administratively centralised but instead operated autonomously as they had before the change, the enlarged enterprise remained little more than a federation of firms. The resulting cost advantages were minimal.

The reasons for vertical integration — growth through obtaining facilities along the chain of production — were more complex. Faster ‘through-put’, and with it significant cost reductions and increased productivity in terms of worker output or unit of equipment, rarely resulted from vertical integration unless the additional processes were directed to the firm's existing ones by its own rails, conveyors, or pipes. Such integration was particularly successful in the production of chemicals, metals, and machinery. Where the facilities to make related processes were located at a distance, increased ‘through-put’ was less feasible.

The motive for such investments in growth by vertical integration was primarily defensive, but not in the same way as through horizontal combination. Sometimes the aim was to withhold supplies from competitors and so create barriers to entry. Far more often, however, the motive for such vertical integration was to assure a steady supply of materials into the enterprise's production, which was essential if the cost advantages of scale and scope were to be maintained. It provided insurance against cost increases from fluctuating production. It reduced the cost of inventory storage and other carrying costs. It lowered the risk that suppliers would fail to carry out contractual agreements — risks economists have termed 'bounded rationality' (human fallibility) and 'opportunism' (self interest with guile). The greater the investment in capital-intensive facilities and the greater the optimal size of these facilities, the greater the incentive for insurance against such transaction costs. Thus, the more concentrated the facilities of production and supply, the more likely the integration of the two within a single enterprise.

Solutions and Explanation

1. Vertical integration is associated with control of the chain of production; horizontal combination is associated with control of:

1. investment
2. cost advantage
3. administration
4. increased output
5. insurance against great cost increases

2. What is the more frequent motive for vertical integration?

1. to expand market presence across many industries
2. to establish administrative control over acquired companies
3. to assure a steady supply of materials into production processes
4. to federate acquired firms
5. to increase organizational capabilities

3. Which of the following is the primary purpose of the passage?

1. To analyze reasons for and effects of vertical integration and horizontal combination.
2. To analyze cost reductions and increased productivity as incentives in mergers.
3. To analyze feasibility of increased output
4. To analyze defensive motive for investment in growth
5. To analyze bounded fallibility and opportunism.

4. According to the passage, economists and organizational theorists identify which of the following risky behaviors?

1. vertical integration and horizontal combination
2. administrative centralization and rationalization
3. fluctuating production and shutdown
4. bounded rationality and opportunism
5. withholding supplies from competitors and creating barriers to entry in the industry

“In a large number of cases the incentive for the acquisition or merger”- asks the candidate to select the correct answer by analyzing the passage properly. It is a GMAT reading comprehension passage. The candidates must have a solid knowledge of the English language to solve English GMAT reading comprehension. The GMAT Reading Comprehension Practice Questions allow students to practice more in order to improve their reading skills.

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