unit 1: business environment lo3:understand the behavior of organizations in their market...
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UNIT 1: BUSINESS
ENVIRONMENT
LO3:UNDERSTAND THE
BEHAVIOR OF ORGANIZATIONS
IN THEIR MARKET
ENVIRONMENT
MARKET FORCES AND
ORGANISATIONAL RESPONSES
Business cannot sell anything unless there’s a
demand for it
How much people will buy depends on several
things, not just price
DEMAND
Demand is the quantity of products that the
consumers are willing to purchase at a given price
over a given period of time.
DETERMINANTS OF DEMAND
The price of the product
Price Demand
DETERMINANTS OF DEMAND
The price of substitutes
Price of
substitute
product
Demand of
the product
DETERMINANTS OF DEMAND
The price of complementary goods
Price of
Complementary
product
Demand of
the product
DETERMINANTS OF DEMAND
The price of complementary goods
Price of
Complementary
product
Demand of
the product
DETERMINANTS OF DEMAND
Advertising
Social factors (e.g.: income)
Demography
External factors (weather conditions)
DEMAND SCHEDULE
DEMAND CURVE
CHANGES IN DEMAND
Changes in price
No shift in demand curve
Movement along the demand curve
Contraction and expansion
Changes in non-price factors
Shift to right or left (increase in demand or fall in demand)
CHANGE IN DEMAND
PRICE ELASTICITY OF DEMAND
The price elasticity of demand measures how far
the quantity demanded changes as the price
changes
(a) Price rises from £10 to £11, a 10% rise, and demand
falls from 4,000 units to 3,200 units, a 20% fall: the
elasticity is 20/10 = 2.
(b) Price rises from £15 to £18, a 20% rise, and demand
falls from 1,000 units to 800 units, a 20% fall: the
elasticity is 20/20 = 1.
PRICE ELASTICITY OF DEMAND
Price rises from £5 to £6.25, a 25% rise, and
demand falls from 8,000 units to 7,000 units, a
12.5% fall. What is the price elasticity of
demand?
Give interpretation of your result in relation to
total revenue and marketing decisions
INELASTIC DEMAND (PED < 1)
ELASTIC DEMAND (PED > 1)
FACTORS INFLUENCING THE ELASTICITY
OF DEMAND
Availability of substitutes
Whether the product is subject to habitual
consumption
Proportion of the income spend on the good
RELEVANCE OF PRICE ELASTICITY TO
BUSINESS DECISIONS
Businesses are profit oriented.
More revenue would mean more profit for a
business.
A business can increase its revenue by:
- increasing prices of goods that have inelastic
demand
- Decreasing prices of goods that have elastic
demand.
INCOME ELASTICITY OF DEMAND
The responsiveness of demand to changes in
household incomes is known as the income elasticity
of demand
May be positive, negative or zero
If YED > 1, elastic, YED < 1, inelastic
If YED is positive, the good is normal good
If YED is negative, the good is inferior good
INCOME ELASTICITY OF DEMAND
CROSS ELASTICITY OF DEMAND
The way in which the price of one product affects
demand for another is measured by the cross price
elasticity of demand.
If XED is positive, X and Y are substitute products
If XED is negative, X and Y are complementary
products
If XED is zero, the products are unrelated (change in
price of newspaper is unlikely to affect demand for
holidays)
SUPPLY
Supply is the quantity of products that would be
offered for sale at a given price over a given period of
time.
SUPPLY SCHEDULE
SUPPLY CURVE
FACTORS AFFECTING SUPPLY
The price
Price of other products (switching to other products)
Costs of making the product
Changes in technology
Other factors (weather, natural disasters, strikes)
Productivity
Measure of the efficiency with which output has been
produced
CHANGES IN SUPPLY – CHANGES IN
MARKET CONDITIONS
FACTORS THAT AFFECT PRICE ELASTICITY
OF SUPPLY
Time
Availability of resources
Available stock
Improvement in technology
Product is manufactured or agricultural
EQUILIBRIUM PRICE
PRICE REGULATION
(a) The government may want to control inflation. It
may do this by setting maximum prices for certain
goods, or by ruling that prices may only rise by (for
example) 4% a year.
(b) The government may want to help suppliers. It
may do this by setting minimum prices.
MAXIMUM PRICE
MINIMUM PRICE
SHORT RUN AND LONG RUN COSTS
Production is carried out by the firms using
factors of production which must be paid or
rewarded for their use.
The cost of production is the cost of factors used.
Factors of Production Its cost
Land Rent
Labor Wages
Capital Interest
Short run is a time period in which the amount of
at least one input is fixed. Certain costs are fixed
because availability of resources are fixed.
The long run is the period of sufficiently long to
follow full flexibility in the input used. In long
run mosts costs are variable.
Short Run: Labour is usually considered to
variable in the short run. Inputs that are fixed in
short run will include capital items.
Long run: change is the scale of production.
SHORT RUN COSTS
Total cost: Fixed cost plus variable cost
Average cost: Total cost divided by the total
quantity produced
Marginal cost: This is the addition to total cost of
producing one more unit of output.
RELATIONSHIP BETWEEN THE
DIFFERENT DEFINITIONS OF THE FIRMS
COSTS
Unit of
output
Total cost Average cost Marginal cost
1 1.10
2 1.60
3 1.75
4 2.00
5 2.50
6 3.12
7 3.99
THE FIRMS OUTPUT DECISION
Profit maximization
Profit=Total revenue – Total cost
Total Revenue=Quantity x Price per unit
Average Revenue= Total revenue divided by
number of units
Marginal Revenue=addition to total revenue
earned from the scale of extra unit of output.
Profit Maximization: MC=MR
PROFIT MAXIMIZATION (FIXED PRICE AND
VARIABLE PRICE)
PROFIT MAXIMIZATION
FIND MR AND MC
Output Total
Revenue
Total Cost MR MC
0 - 110
1 50 140
2 100 162
3 150 175
4 200 180
5 250 185
6 300 194
7 350 229
8 400 269
9 450 325
10 500 425
THE LAW OF DIMINISHING RETURNS
Eventually, as output increases, average costs will
tend to rise. The law of diminishing returns says
that if one or more factors of production are fixed, but
the input of another is increased, the extra output
generated by each extra unit of input will
eventually begin to fall.
THE LAW OF DIMINISHING RETURNS
Z = Minimum Efficient Scale of Production
REASONS FOR ECONOMIES OF SCALE
Internal economies of scale
Technical economies
Commercial and marketing economies of scale
Financial economies
Organizational economies
External economies of scale
Large skilled labour force is created
Specialized ancillary industries will develop to provide
components, transport, finished goods, trade in by-products,
provide specialized services and so on
DISECONOMIES OF SCALE
Internal economies of scale
(a) Communicating information and instructions may become
difficult.
(b) Chains of command may become excessively long.
(c) Morale and motivation amongst staff may deteriorate.
(d) Senior management may have difficulty in assimilating all
the information they need in sufficient detail to make good
quality decisions.
Internal economies of scale
(a) Increase in competition for labour
(b) Increase in competition for supplies
PERFECT COMPETITION
Many people in the market and no-one can influence
the price
Lots of buyers and sellers
Market price is fixed by the total quantity supplied
and total quantity demanded
No barriers to entry and exit
Standardized products
Good exchange of information
MONOPOLY
One supplier of a product or service
Eg: British Rail
Makes sales without marketing efforts
Charges high prices
A company controlling 25% of the UK market is
considered to be a monopoly
If monopoly abuses its power and makes big profits,
other busiensses will want to move into the market
and make big profits themselves
MONOPOLY
Barriers to entry are high
Key resources owned by the business
Government restrictions
Patents can give exclusive rights for 20 years
Large amount of capital required
MONOPSONY
When there is only one buyer for a product
Sometimes government might be the only buyer of a
product in a market
Eg: British Coal as the only buyer for manufacturer of
hydraulic mining equipment
OLIGOPOLY
Few large suppliers whose business decisions affect
each other
Distinguishing between oligopoly and monopoly,
whether the businesses in the market can set their own
prices (monopoly) or must take into account of the
prices set by the others
Eg: Airline industry, Entertainment Industry
Barriers to entry exit
Price fixing and game theory applies
DUOPOLY
Two firms in the industry
Each firm has influence on price and considers the
other firm
Profit of each firm depends on the decisions of both
firms
Strategic interaction between two firms
How rival react to environment
Eg: Maldives telecommunication industry
MONOPOLISTIC COMPETITION
Large number of firms sell closely related but not
homogeneous products
Differentiated through advertising, branding and so on
Some features of competition and monopoly
Many buyers and sellers
Barriers to entry and exit
Take other firm’s prices as given
COMPETITIVE ADVANTAGE
THE WIDER ENVIRONMENT
• Competitive Forces
– Threats of new entry
– Power of buyers
– Power of suppliers
– Competitive rivalry
– Threat of substitutes
THE WIDER ENVIRONMENT
PESTEL Factors
Political
Economic
Socio-cultural
Technological
Environmental protection
Legal
• Competitive Forces
– Threats of new entry
– Power of buyers
– Power of suppliers
– Competitive rivalry
– Threat of substitutes
BARRIERS TO ENTRY
WAYS OF COMPETING
WAYS OF COMPETING 'Marketing is the management process responsible
for identifying, anticipating and satisfying customer
requirements profitably.’
Market Segmentation – group of consumers with
certain common things whose needs can be met with
distinct marketing mix Geographical area
End use – mens shirt
Age
Sex
Income
Occupation
Education
– Religion
– Ethnic background
– Nationality – market for food
– Social class
– Lifestyle
– Buyer behaviour – usage rate,
loyalty, sensitivity in marketing
mix factors
WAYS OF COMPETING (a) Marketing research: the objective gathering,
recording and analysing of all facts about problems
relating to the transfer and sales of goods and services
from producer to consumer or user.
(b) Market research: finding out information about a
particular product or service.
COMPETITIVE STRATEGIESCost leadership
Differentiation (i) Colour differences
(ii) Size differences
(iii) Different wrappings or containers
(iv) Variants of the product for different market segments (v) Small changes
in the products' formulations to maintain their novelty value
(vi) Different technical specifications
Focus
Leadership focus
Differentiated focus
RESOURCE BASED STRATEGIES Innovative and competitive advantage
New product development
Research and development
FORMS OF ANTI-COMPETITIVE
BEHAVIOUR (a) Collusion
Oligopolistic markets
Tacit collusion – mutually satisfying prices
(b) Cartels
Formal agreement in oligopolistic
Prices, total industry and output
Market shares, allocation of customers,
Common sales and agencies
(c) Price fixing
Price fixing cartel
The market sharing cartel
FORMS OF ANTI-COMPETITIVE
BEHAVIOUR (d) Predatory or destroyer pricing
Lowering prices until the below the average costs of its
competitors
Competitor must then lower their prices below average cost,
losing money
Large businesses give massive discounts
(e) Vertical restraints
Limitations placed on retailer activities by manufacturer or
distributor
(f) Insider dealing/trading
Criminal offense
Individuals using or encourage others to use, information
about a company which is generally not available
COMPETITION AND COLLABORATIONCollaborations of buyers
Collaborations of suppliers
Collaborations to reduce competitive pressure
Collaborations to enter new markets
BUSINESS BEHAVIOURManagers have no personal interest at stake in the size
of profits earned except in so far as they are
accountable to shareholders
Lack competitive pressure to be efficient, minimize
costs and maximise profits
Baumol’s sales maximisation model – assumes that
the firm acts to maximise sales revenue than profits
Investment
Prefers satisfactory return
Cannot finance all investments
Do not gather all information needed for the best investment
LEGISLATIONSThe Fair Trading Act (1973): dealing with
monopolies and mergers
Restrictive Practices Act (1976): dealing with
agreements between individuals that limit freedom to
trade
The Competition Act (1998): dealing with anti
competitive practices
The Resale Price Act (1976): dealing with attempts to
impose minimum prices
Articles 85 and 86 of the Treaty of Rome, where
restrictive practices and mergers have an effect on
interstate trade
COMPETITION POLICY (a) Resale price maintenance permitting retail price or
a maximum or minimum price to be fixed by the
producer.
(b) Exclusive distribution agreements demarcating for
particular distributors exclusive geographic areas
(c) Exclusive dealing arrangements prohibiting
dealing with competing producers or distributors.
(d) Tie-in sale agreements which require purchase of a
certain range of products before the purchase of a
particular product.
(e) Quantity forcing downstream firms to purchase a
minimum quantity of the product.
COMPETITION COMMISSIONThe Competition Commission is an independent
public body established by the Competition Act 1998.
It replaced the Monopolies and Mergers Commission
on 1 April 1999
OFFICE OF FAIR TRADING (OFT)The Enterprise Act 2002 established the Office of Fair
Trading (OFT) as an independent statutory body with
a Board, giving them a greater role in ensuring that
markets work well to the benefit of all.
Self-regulation: where business /industry monitors its
own behaviour – often through an agreed code of
practice.
ANY QUESTIONS?
GROUP TASKChoose a local business of your interest and
explain how different market structures determine the
pricing and output decision of businesses!
Judge how the external environment shapes the behaviour of
the organization
THANK YOU
Source: Business Essentials,BPP learning media
Tutor2u.com
Investopedia.com
thbusinesscasestudies.co.uk