Managerial economics: principles and applications

Managerial Economics

Get the financial data for a company or organization for five years. From the balance sheet and the income statement for the company or organization develop regression line formulae for each line item and predict those line item revenues and costs over the next five years. Don't do prediction for any item in the statement less than 10% of the total sales on the incomes statement or 10% of the total Assets. Lump all those values into one account.

Financial Data for Starbuck's Cafe

Projections for the Next Five Years

Line Item

Net Revenues From Retail Sales

Net Revenues From Specialty Sales

Total Net Revenues

Working Capital

Longterm Debt

Total Assets

200500

230000

250000

270000

300000

Shareholder's Equity

150750

180000

200000

220000

240000

Operating Income

320000

360000

410000

485000

520000

Internet Related Investment Losses

Net Earnings

180000

210000

260000

285000

300000

Net Earning Per Common Share

Too small to tell from graph

Long-Term Debt cannot be reduced to below zero as the linear regression suggests.

Internet Related Losses is also not a good fit. The regression line tells us that the loss will continue upward. However common sense tells us that they have fixed the problem and do not expect any further inter-net losses, especially since they were large last year and almost non-existent this year.

The Net Earnings per common share are too small to see on this graph. The raw data suggests that it is on the decline.

3. Discuss how elasticity of demand is affected by each of the four types of theoretical market models. (Monopoly, Perfect Completion, Oligopoly, and Monopolistic Competition) Explain how you would compete in each of the four market models if you were to export a product to a country that had an economy with each economic model.

Elasticity of demand is a measure of how one thing is effected when you change another. For example if you change the price of a product, it will directly effect the demand for the product. In most situations when you raise the price, the demand drops. Likewise, if you lower the price the demand for an item should increase. This assumes a direct relationship and does not consider, other factors, which may effect this situation. Elasticity of demand could be used to compare many other things as well, such as the relationship between supply and income. In order for one factor to be affected by the other the change of one item must be large enough to cause a change. If the change is too small the other factor will not be affected. In this case the factor is said to be inelastic.

The elasticity of demand will behave differently in different market settings. If we were to export our product into another country who had an economy based on a particular model, our strategy for competing would be different in each case.

A perfect competition exists where many firms sell a standardized product. Buyers are fully informed about the prices of the standardized product offered by these competitive companies. Each firm has only a small market share of total demand and the price of the product is beyond its control. In this case market price is regulated by competition.

In a perfect competition the only ways to increase demand for the product is to increase its value to the customer by means other than price. Often these things are intangible items such convenience, speed of delivery, or friendly service. Greater product awareness would be another way to accomplish this goal.

In this case the amount of widgets firm can sell is only affected by the number, which it can produce. In this type of market there are two strategies to attract more customers and sell more widgets. The first strategy involves reducing your production costs and therefore maximizing profits. In this case you do not necessarily sell more widgets, but you make more money for the widgets that you do sell.

In this case price is a fixed variable and therefore cannot be manipulated to effect demand. Another way to compete in this market would be to produce and offer more widgets. This works, of course, provided that the market is not already saturated.

The best way to compete in a perfect competition is through advertising. This can be tricky, however, because many advertising concepts do not work in this situation. First of all of your widgets are just like your competitors widgets. They are the same price, therefore, you cannot say they are better or cheaper. Other advertising tactics would have to be used such as convenience, location, easier ordering, or payment options. Other tactics might be used such as special offers, for example, "get your free calculator when you buy a new car."

A monopoly exists when a product has only one producer or seller for which there is no close substitute. In a monopoly the seller has complete control of his price. Usually this situation exists where there is some limiting factor, which prevents others from entering the market. This may be a high cost to enter the market, or a social, political, or economic situation which prevents competition from entering the market. A business may have exclusive control of a natural resource. Other producers cannot compete, because they don't have that resource at their disposal. A business may have copyright or patent right on it's product, thus making it illegal for other producer to duplicate the product. A monopoly may be created by a state making it legal. A well-known trademark could ensure customer loyalty, such as with Pepsi.

The United States feels that competition is healthy, and therefore has laws, which make it difficult to obtain and keep a monopoly. That is not to say that in some cases it does not happen in some cases. A local business may have a monopoly in a certain location of a country because they are the only ones offering their product or service locally, even though there may be thousands offering the same product or service in other parts of the country.

In other parts of the world, monopolies are allowed and do control certain markets. Entering into a market in a foreign country where a monopoly exists for the particular widget that you intend to offer would be difficult, if not impossible. If the monopoly exists because of a law, which supports it, entry would be impossible, as it would be illegal. If the monopoly exists because someone has control over a natural resource, it would also be difficult and expensive. The natural resource would have to be obtained from another source and transported to the location. This could prove to be quite expensive. Under these two circumstances it would be impossible to enter a foreign market with these types of monopolies.

If, however, the monopoly exists because it has controlling market shares or because of brand recognition, then it would be feasible to enter the market. This is where elasticity of demand comes into play in a monopoly. In this monopoly model, your actions could directly effect demand both for you and your competition. You could enter the market with a superior product, lower prices, and a heavy advertising campaign. Keep in mind, however, that once you enter the market, it is no longer a pure monopoly by definition. Many partial monopolies exist in which one company has a major portion, but not complete control of a market.

In an oligopoly products may be homogeneous or differentiated. Firms are mutually interdependent. Each must consider possible reactions of its rivals to price, advertising, and development. Concentration ratios are used to measure the structure of an industry. They are a percentage of the total industry sales accounted for by the four largest firms. When the largest four firms control 40% or more of the total market, that industry is considered oligopolistic. The barriers to entry are similar to those in pure monopoly. Oligopoly exists when the number of firms in an industry is so small that each must consider the reactions of rivals in formulating its price policy.

In this situation formal or informal arrangements are made to coordinate pricing strategies. This is called collusion. There is much incentive to cheat in an oligopoly. Let us use the example of an oligopoly consisting of three companies offering the same product. They will be called A, B, and C. Two things may happen. When A drops his price, B and C. may follow and the market remains equal. All stay in business and everyone is happy. Due to elasticity of demand, demand would increase for all.

In another scenario, A increases his price and B. And C. ignore this and keep their price the same. A is not happy, because this directly effects his personal elasticity of demand causing the demand for his product to decrease, while causing the demand for his competitors' to increase. This is one way that B. And C. could use collusion to force A out of business and ultimately increase their market share.

Entering into business in an oligopoly is much like playing a strategy board game. When considering entering into an oligopolistic market in a foreign country, the culture of that particular country plays a large part. In some countries, time honored family bonds play a part, and when a new player comes into the field, the others will band together and force him out. This is the case in China, Japan, and many other Asian countries. Blood is thicker than water and time-honored bonds do not welcome the ideas of Western capitalism. In this type of situation it would be difficult to break into a market.

In other countries such as the European Alliance, new comers are welcome and there is a high degree of cooperation among competitors. To enter into this type of market, it would be unwise to make enemies of your competition by underpricing them. Rather, a better way to enter would be to offer services, or another angle to their product, which would enhance their sales and foster a feeling of cooperation. Sharing Resources might be another way to enter. Entering an oligopolistic market with a cut-throat attitude will only cause others to cut your throat in the end. Diplomacy among your competitors is the key to success here.

The last type of market to be examined is the monopolistic competition. In this type of market products and businesses are numerous. Each business has a relatively small market share. There is no collusion and firms act independently to influence price. There is product differentiation. The elasticity of demand is often effected by non-price competition. In this type of market, a lower price may not increase demand for a product, as lower price may be perceived as lower quality by consumers. Just as in the perfect competition, non-tangible items may be used to increase demand for your product such as services surrounding the sale, location, advertising and packaging. It differs from the perfect competition you can differentiate yourself from your competition by offering a better quality product, as all products are not the same. Entry and exit into this market is easier than in a perfect competition.

In this type of market as more firms enter the market the demand will fall because each firm has a smaller share of the market. The demand curve will become more elastic because there are more substitutes. Changing the price becomes a greater tool for increasing demand as the market becomes more saturated.

4 During the class we discussed several quantitative tools (Excel, graphs, charts, linear program, percent analysis, forecast, regression line) that a business manager could use to make better decisions. Identify, define and discuss two tools that you learned about that will help you in your decision making.

Excel is the most commonly used spreadsheet program in use today. It enables you to enter and manipulate a wide variety of data, creating complex tables and graphs. A spreadsheet is simply a large electronic table, arranged into columns and rows. It is used mainly for storing data, as in a database, the main difference between the two is that spreadsheets are more commonly used for mathematical and scientific analysis. For example, a database will only store data, and yet a spreadsheet will enable you to draw graphs and charts, enter formula to analyze data, or perform various types of statistical analysis.

Often, a spreadsheet will be used alongside other applications such as a word-processor, or a database, for the purposes of writing reports, and storing data respectively. However, it can just as easily be used as a standalone application

A spreadsheet makes it easy to calculate and manipulate large amounts of data quickly. Excel was used in problem number one of this report to create the graphs. Excel is a great time saving device for managers, as it can now do in seconds, what used to take hours.

Graphs are an effective decision making tool. They allow us to quickly compare two things. They make trends easy to see. It is a quick way for the audience to visualize what you are saying, numbers, trends, up or down They are an effective way to emphasize a main point.

In analyzing statistical arguments, often times the data is represented visually for increased impact. People are often able to understand or grasp more quickly the "meaning" behind data when it is presented visually. This has spawned all sorts of graphing programs or functions within programs with simplify this task. Unfortunately, it has also made it much easier to mis-represent the data so that conclusions can be drawn from the date which otherwise might not be warranted.

There are different types of graphs used to represent material in a way that is meaningful to the task. Line graphs are good for showing trends in data. Bar graphs and pie charts are good for showing proportion. A bar graph is a tool that is useful when you want to show how data changes proportionally over time. A wide variety of data can be shown on a graph in very little space. Graphs are used to make comparisons between two pieces of data.

5. You are interested in exploiting the global market and exporting products to several foreign countries. List in terms of your personal preferences five macro and five micro economic conditions that need to be present in the foreign country economy in order for you to do business there.

The idea in selling your product abroad is to make money. It is important to know the economic conditions that exist in a country before you go there. It is also important to know what the long-term trends in the indicators have been. After all, it is difficult to sell your product if no one has the money to buy it. Before starting an over seas venture it is wise to study the economic indicators for that country. I would no move into a country where the economic indicators were poor or declining.

In addition, there is no one indicator, which is the ultimate authority of the economic health of a county. Everyone has his or her favorites for different reasons. In order to use indicators effectively one must compare them to other countries of the same class, for example, industrialized countries with industrialized countries or a comparison between two developing countries.

My favorite five macro economic indicators for choosing a country in which to expand my products would be consumer spending, employment, inflation, gross national product and manufacturing strength.

Consumer spending drives the economy. Analysts measure this by paying special attention to reports on retail sales, auto sales, and sales of new and existing homes. Spending by businesses is another big piece of economic activity, tracked by reports on business inventories, investment in new factories and equipment, new orders to businesses, and so on. When the growth rate of spending is high, it may be a sign that the economy is overheating and that interest rates and inflation will be heading higher. If spending declines or grows slowly, it can be a sign of impending economic slowdown or even recession, and interest rates may decline.

The people cannot buy your product if they do not have the money to do so. Consumer spending usually lags behind employment trends. Employment and income trends can be helpful in predicting future spending habits. Obviously, a person is likely to spend more freely if he or she has a job than if he or she is unemployed, so monthly reports on total employment and unemployment are highly anticipated. Another key indicator is the Commerce Department's report on personal income, since rising incomes are needed to allow for increased spending.

Since rising prices for goods and services ultimately translate into reduced purchasing power for the interest and dividend income that investors will receive in the future. Markets pay attention to the monthly Consumer Price Index, which measures changes in the prices consumers pay for goods and services, and the Producer Price Index, which tracks prices charged by wholesalers.

Gross Domestic Product is the barometer of the nation's total output of goods and services, GDP is the broadest of the nation's economic measures.

Manufacturing strength must also be healthy. This indicator ties the entire picture together. Statistics showing how much is being produced by factories, homebuilders, farms, mines, and oil fields are indicators of the outlook among manufacturers, the demand for products, and the likelihood of increased employment in the future. Statistics on exports and imports show how much American producers are shipping abroad and how much of the domestic demand for products is being met by foreign producers. Reports on production also are watched for signs of overheating in the economy, since price increases are more likely to occur when factories are operating at full capacity than when they are running at three-quarters' speed.

In addition to the above macro economic indicators, there are several micro economic indicators which can be helpful in predicting if consumers will spend. These indicators should be used in combination with the macro economic indicators when evaluating whether to move into another country. These indicators help to measure the quality of life in a country. Someone with a better quality of life is more likely to have a job, and therefore money to spend. Higher levels of education indicate higher salaries, and therefore more money to spend. For measuring quality of life, I would look at, in order, adjusted per capita economic production, adult literacy rate, infant mortality rate, average life expectancy, and the average highest year completed in school.

The adjusted per capita economic production answers the question of if they have extra money every month, or do they spend it all currently on basic needs with nothing to spare. If nothing is left over after basic needs are met, it is more difficult to introduce a new product. The only reason to introduce a new product would be if helped to reduce their other expenditures so that more money would be available. If the product is a basic necessity and is cost effective enough to introduce, it may work, but the next problem is how do you market it? In this situation, the population may not be literate, so print advertising does not work. They may not have access to mass media, so that would not be effective either. I chose this as my most important indicator, because a low per capita production points to other underlying problems.

The next indicator I would look at is adult literacy rate. People who read have higher paying jobs than those who do not and therefore more money to spend. They also will be able to read print advertising.