Operational Decisions, Structure Change Caused by Entry Barriers - Essay Example

Assignment 2 – Operational Decisions Introduction Admittedly, globalization cause significant impacts on commercial environments. The liberalized flow of finances, labor and other factors of production across national and regional borders have the potential to substantially changes an industry’s structure, particularly an industry’s market structure. In marketing environments experiencing the effects of globalization, companies struggle with increasing rivalry from competitors. Usually, the degree and effects of rivalry necessitates changes in a firm’s operational strategies. In globalized business environments, the trends of demand and supply functions applied by any firm are invariably dictated by prevailing market economies (Lindsey & Edger, 2014). In an effort to balance demand and supply of products and services, companies often revise and restructure their production functions and profit-making strategies. There changes are meant to enhance transitional adaptation of an organization from one market structure to another, for example from a perfectly competitive market to a monopolistic or oligopolistic market structure. In subsequent sections of this paper, a detailed analysis of two major factors causing changes in market structures will be analyzed. First, it is contextually appropriate to acknowledge the nature of profit maximization strategies within different market structures. Whatever the market structure, companies in any business environment innately strive to maximize their profits. Profit maximization strategies vary from one market structure to another. In monopolistic markets, profit maximization is achieved through equation of a firm’s marginal cost with its marginal revenue. By synchronizing marginal cost with marginal revenue, a firm in a monopoly market structure can objectively deduce its optimal level of output; hence adjusting product and service prices accordingly (Mark, 2008). Contrarily, companies in perfectly competitive environment employ different profit maximization techniques. Instead of equating marginal cost and revenue, perfectly competitive environments requires the use of demand and supply functions. The intersection between demand and supply curves marks the point of optimal prices and output quantities. Consequently, prices of products and services can be derived from the market’s equilibrium parameters (Carney, 2004). In assignment 1, the low-calorie, microwaveable food company was operating in a perfectly competitive market. However, the effects of globalization seemed to have pushed the company into an imperfectly competitive market, thus necessitating changes in operational decisions and strategies. Structure Change Caused by Entry Barriers As aforementioned, certain factors inevitably cause changes in market structures. For example, the low-calorie, microwaveable food industry enjoyed a perfectly competitive market structure. However, a close analysis on current market economics revealed that the industry’s market structure had shifted from perfect to imperfect competition. Probably, one of the factors that caused the change in market structure is entry barriers. Theoretically, entry barriers can either be artificial or natural in nature. Perfectly competitive markets have low entry barriers while imperfectly competitive markers like monopolies and oligopolies have high entry barriers (Lindsey & Edger, 2014). With respect to the low-calorie, microwaveable food industry, artificial entry barriers are erected by dominant firms in order to discourage new entrants. Among the techniques used to erect artificial barriers include limiting pricing policies; the setting of extremely low prices on goods and services by a dominant firm so that new entrants cannot make any profit at such low price levels. On the other hand, natural entry barriers include high set-up costs which deter entrants with limited start-up capital (Lindsey & Edger, 2014). Undeniably, either of these types of entry barriers may have caused a change in the food industry’s market structure. Structure Change Caused by Factors of Production Besides entry barriers, changes in market structures are also caused by market economics, specifically fluctuation in factors of production. In any market structure, companies strive to secure access to sizable factors of production that enables them to accomplish profit-making objectives. Technically, these factors of production include capital, labor, and entrepreneurship skills among others. In perfect competition, rivalry between different firms is fairly balanced because all competitors operating within the same market structure have equitable access to factors of production (Mark, 2008). However, globalization may cause significant changes in access to factors of production. For example, a wealthy multinational firm may purchase all major oil fields; hence controlling the exploitation and distribution of oil products to other firms. In this context, the access, allocation and distribution of raw materials becomes scarce at different competing ends. Consequently, firms experiencing scarcity in access to factors of production stop operating on a given market structure, thus leaving the dominant organization to monopolize (Lindsey & Edger, 2014). In this regard, there is a remote yet distinct possibility that most firms in the low-calorie food industry suffered from scarcity of production factors, thus their exit from the business environment caused a change in market structure. Having acknowledged the nature and causes of dynamics in marketing environments, it is now time to develop a plan meant to evaluate the effectiveness of the low-calorie food company operations within an imperfectly competitive market structure. At first, it emerged that the company derived its pricing policies from the dictates of quantity supplied and quantity demanded. Based on the company’s previous supply and demand curves, it emerges that prices were perfectly elastic. For example, the unit price of low-calorie, microwaveable food was $100 when demand was at 0 units and supply was at 34450 units. Expectedly, the unit price of the same products was at the highest; $600, when demand was 39549.45 units while supply was at 13450 units. In this regard, the demand-supply relationship for the company merged that of a perfectly competitive market structure (Mark, 2008). However, recent changes in the industry’s market structure caused an imperfect relationship between the economic parameters of demand and supply. Currently, the unit price of low-calorie food products is $100 when demand is at 23650 units while supply is at 0 units. In addition, the products’ unit price is highest; $600, when demand is at 2650 units while supply is at 39549.45 units. Observably, the company is currently operating within an imperfectly competitive market structure. Conventionally, prices of products and services would be highest whenever the quantity of units demanded is high compared to the units supplied, and vice versa. However, the company’s current environment does not experience the economic effects of a perfectly competitive market structure. Actually, the conventional demand-supply relationship is inverted. In perfectly competitive markets, demand curves usually have a positive gradient while supply curves have a negative gradient. However, demand curves have a negative gradient whereas the supply curves have a positive gradient in imperfectly competitive markets. Since the market structure is imperfect, it means that the company should employ different operational approaches in order to effectively operate and maximize profits. In this context, operational decisions will be developed by evaluating the company’s production and cost functions. Subsequently, effectiveness of the company’s business operations will be determined by predicting the effects of both short-run and long-run production and cost policies. In addition, appropriate recommendations will be developed, especially on circumstances where discontinuation of business operations will be economically necessary for the low-calorie, microwavable food company. Short-Run Cost Functions In imperfectly competitive marketing environments, both short-run and long-run functions are instrumental in evaluating a company’s profitability index. In addition, these functions are helpful in the derivation of product prices, especially because companies in imperfectly competitive markets have the power to adjust prices favorably (Mark, 2008). Based on short-run cost theory, the food company can adjust its output level by correspondingly adjusting its variable costs of production. Based on the company’s current demand-supply curve, it emerges that the unit price of low-calorie foods is highest when supply is highest. Therefore, profit maximization can be achieved through increased production. In the short-run, only the production variable costs will be increased. The total cost function for the food company is; TC = 160,000,000 + 100Q + 0.0063212 Q2. In this case, output in the short-run will be increased by maintaining the fixed cost at 160,000,000 and increasing the variable cost, which is given by VC = 100Q + 0.0063212 Q2. Therefore, the short-run cost of production will be determined by increasing the quantity of output as dictated by the variable cost of production. With respect to product prices and profitability, the company will cave in to the demands of marginal cost function. The marginal cost function for the food company is given by MC = 100 + 0.0126424 Q. Theoretically, optimal profits will be attained whenever the marginal cost of production is equal to the marginal revenue. Based on the equation, an increase in output quantity triggers a corresponding increase in marginal cost of production (Hall & Smith, 2009). On the other hand, marginal revenue is optimal when supply is at its highest. From the equation, it emerges that the influence of output quantity of marginal cost is infinitesimal; a factor of 0.0126424Q causes a relatively small increase of marginal cost for any increase in output quantity. However, price of goods is highest; $600, when supply is highest. Fortunately, profits can be maximized by simply increasing output. Since the demand-supply curves are inverted, the low-calorie, microwavable food company will not need to worry about the negative price effects of increased supply in the market. In this regard, the short-run cost functions indicate that the company will only need to increase the variable costs, a parameter that is influenced by the output quantity, in order to maximize revenue. Long-Run Cost Functions In short-run cost theory, some of the company’s factors of production are fixed. However, long-run cost functions entail varying all factors of production. In this case, not only will variable cost be increased, but also the fixed cost. For the low-calorie food company in subject, the long-run total cost of production will not be determined by the output quantity anymore. Rather, total cost of production will be influenced by all factors of production which include, but not limited to; quantity of raw materials, company’s production capacity, and effectiveness of research and development facilities among others. Observably, the total cost function of the company is given by TC = 160,000,000 + 100Q + 0.0063212 Q2. Based on the equation, the fixed production cost for the food company is $160,000,000. In the long-run, this fixed production cost must be increased. Simultaneously, the variable cost of production must also be increased. Practically, long-run commitments for the food company may include opening additional outlet chains, increasing its labor force, and increasing the quantity of raw materials for production (Kate, 2014). This means that the fixed cost of 160,000,000 could be doubled or even tripled. All these long-run cost strategies are meant to increase the company’s production capacity. In perfectly competitive environments, long-run cost functions must be harmonized not only with the demand-supply curves, but also with the marginal cost-marginal revenue curves. In such cases, total cost of production will be dictated by the quantity of demand. However, the low-calorie, microwavable food company is operating within an imperfectly competitive market structure. This means the long-run cost functions is not necessarily influenced by the market’s equilibrium demand quantity (Carney, 2004). Based on the equation MC = 100 + 0.0126424 Q, it emerges that the marginal cost of production in the long-run will be infinitesimally influenced by the quantity of output. However, the value of fixed cost in TC = 160,000,000 + 100Q + 0.0063212 Q2 will be increased substantially. This means the company should increase the total cost of production. Despite increasing the total cost of production, revenue and profit maximization objectives of the company can still be accomplished. In fact, long-run cost functions suggest that increasing production capacity boosts the revenue prospects of the food company. Since the unit price of low-calorie, microwavable food products are directly proportional to quantity supplied; it means that high output quantities translates to high revenue. This long-run premise is favorably complemented with the interesting relationship between marginal cost and output quantity (Carney, 2004). Currently, the low-calorie, microwavable food company is generating profits, thus it is economically efficient for the company to continue operation. One indicator of economic efficiency is the relationship between prices and marginal cost (Hall & Smith, 2009). Whenever the unit price of any good or service is equal to the unit marginal cost, then economic efficiency holds. However, prices lower than marginal cost of production represents economic inefficiency in form of financial loss. From the equation, MC = 100 + 0.0126424Q, it emerges that increase in quantity produced cannot substantially influence the marginal cost of production. This means that pricing policies cannot be derived from the demand-supply curve because output level cause insignificant changes in marginal cost. In this case, short-run prices are determined by the average variable cost of production, while long-run prices are determined by the total cost of production. In the short-run, the company should discontinue operation only when the average variable cost exceeds the marginal cost of production. Contrarily, long-run operation should be discontinued whenever average total cost exceeds marginal cost of production (Hall & Smith, 2009). Therefore, a production output level that raises either the variable cost or total cost past the marginal cost should act as a red-light for the company to quit operation within the market structure. One remedy for such circumstances is to minimize variable costs of production. In perfectly competitive markets, cost-pricing strategy feature as one technique used in setting the optimal price of goods and services. This strategy can also be employed in imperfectly competitive markets (Carney, 2004). Currently, the demand equation for the company is given by Qd = 50 – 5P. When demand is at 2650units, price is $600 per unit. Therefore, the total revenue, TR is 2650 × 600 = $1.59 million. By using total revenue to calculate marginal revenue, it emerges that MR = $201. For profits to be realized, the marginal revenue, MR must be equal to marginal cost, MC. Based on the equation MR = MC, the economically efficient price for one unit of the low-calorie food products should be $201. With regard to the equilibrium price calculated in assignment 1, it emerges that this new price is low. Nonetheless, the pricing strategy prevents the company from incurring production losses because prices are derived directly from marginal costs. Currently, the low-calorie, microwavable food company has substantial power to adjust product prices. The company operates within an imperfectly competitive market structure. This market has characteristics that are inverse compared to characteristics possessed by a perfectly competitive market structure. Technically, profits are realized whenever unit prices are higher than unit marginal costs (Kate, 2014). In imperfectly competitive structures, consumers are unresponsive to changes in product prices. This means that deliberate increase in unit prices will not necessarily scare away consumers. In this case, profits per unit can be increased by positively boosting the difference between price and marginal cost of low-calorie food products. Another way to increase the company’s profitability is to minimize the production’s variable costs in both the short-run and long-run strategies. Variable costs increase with increased production output. Components of this type of cost include direct labor costs, raw material costs and overhead costs (Hall & Smith, 2009). Cost of raw materials can be minimized by purchasing food ingredients in bulk quantities. In addition, direct labor costs can be reduced through mechanization of production procedures. Lastly, high overhead costs can be mitigated through the use of cheap administrative technologies that replace manpower expenses. In this regard, minimizing variable costs will leave a high profit margin for the company, thus improving its profitability. Conclusion In conclusion, it is acknowledgeable that changes in marketing structures invariable necessities corresponding changes in operational strategies. Failure to synchronize operational strategies with economic characteristics of new markets may severely compromise on a company’s financial efficiency. Occasionally, companies like the low-calorie, microwavable food firm in subject are lucky enough to gain the power to operate within imperfectly competitive environments. In such cases, relevant economic principles, especially cost functions must be used in formulating decisions and developing suitable policies for operation. In addition, these cost functions serve as indictors of a company’s economic effectiveness. Reference List Carney, P. (2004) Dynamics of Financial Globalization: Technology, Market Structure, and Policy Response. Journal of Policy Sciences 27: 319-341. Hall, R. & Smith, L. (2009) Micro and Macro-economics: Principles and Applications. New York, NY: Cengage Learning. Kate, S. (2014) Free Market Economics: An Introduction for the General Reader. Pittsburg: Edward Elgar Publishing. Lindsey, H. & Edger, Y. (2014) Globalization of Consumer Markets: Structures and Strategies. London: Routledge. Mark, H. (2008) Fundamentals of Managerial Economics: An Integrative Approach. New York, NY: Cengage Learning. Read More