Chapter 1:

The business organization, its stakeholders and the external

environment

Mahfuzah Binti Ahmad

Chapter 1: The business organization, its stakeholders and the external environment 1. The purpose and types of business organisation2. Stakeholders in business organizations3. Political and legal factors affecting business4. Macro economic factors5. Micro economic factors6. Social and demographic factors7. Technological factors8. Environmental factors9. Competitive factors

1.1 The purpose and types of business organisation: Definition & Reason formation

A. Definition of organisation – social arrangement for the controlled performance of collective goals (Buchanan and Huczynski).

B. Reason of formation:– Overcome people individual limitation whether physical and

intellectual

– Enable people to specialize– Save time – combine work (multi tasking work by different

people at the same time, effective and efficient application of resources).

– Accumulate and sharing knowledge – quality, speed

– To create synergy advantages

1.1: C. Features: Common, distinguished characteristics and basic component

Common features:• Formal, documented systems and procedures • Different people do different things or specialize in one activity.• Variety of objectives and goals.• Obtain inputs, process and convert to outputs.

Distinguished characteristics:• Ownership and control• Activity• Profit or non-profit orientation • Size – small, medium, family & multinational• Source of finance – bank, government funding

Basic component part – resource inputs (e.g. labour, raw materials), organizational activities (e.g. purchasing, manufacturing, accounting) and outputs (e.g. products/services, taxes, waste, employment)

1.1:

D. Types of business

Commercial / profit seeking org.

Not-for-profit (NFPs or NPO)

Public SectorNon-governmental org

Cooperatives

1.1: D. Types of business organisationi. Commercial / profit seeking organisationa) General and applies to any group(s) with "specific aim" of making a

profit. b) Make a profit for the owner, shareholders, or both, by providing

products and services. Followed by continue in existence, maintained growth, etc.

c) E.g. commercial organizations specialize in entertainment, commercial broadcasting, banking, agriculture and organized crime, etc.

ii. Not-for-profit (NFPs or NPOs)d) Do not consider profit but to satisfy particular needs of their members

or the sectors of society that they have been set up to benefit.e) E.g. clubs, associations, charitable organizations, government

department.

1.1: D. Types of business organisationiii. Public sectora) Owned and run by the government and local government (part of economy

and services).b) Referred - the state sector or the government sector.c) Composition varies by country, but in most countries includes services such as

the police, military, public roads, public transit, primary education and healthcare for the poor.

d) Services that cannot be excluded from (such as street lighting), services which benefit all of society rather than just the individual who uses the service (such as public education), and services that encourage equal opportunity.

iv. Non-governmental organizations (NGOs)e) (NGOs) is an independent voluntary association of people acting together for

some common purpose (other than achieving government office or making profit).

f) General characteristics - independence from the direct control from government, not constituted as a political party and non-profit making.

g) E.g. Amnesty International, WWF, etc.

1.1: D. Types of business organisation

v. Cooperativesa) An autonomous association of persons who voluntarily cooperate for

their mutual social, economic, and cultural benefits. For example housing, retail, workers, agricultural, consumer, insurance, banking, etc.

b) There may be for-profit or not-for-profit organizations.c) Legal entity owned and controlled by its members. Members often have

a close association with the enterprise as producers or consumers of its products or services, or as its employees

d) Features: Voluntary and open membership Democratic member control Economic participation by members Autonomy and independence, education, training and information, Concern for community.

1.2 Stakeholders in business organizations: Definition

Stakeholder

•Those persons, groups or organisations that have an interest in the strategy of and organisation. (legitimate interest)

Agenc

y theory

• Consider only the relationship between the principal (shareholders) and agents (e.g. top management team, CEO) to maximize the shareholders’ wealth.

Stakeholder

theory

•Every corporation or organization was created to serve more than just its shareholders, but instead to serve a diverse range of people who have a legitimate stake in the organization’s outcome and performance and indeed to serve a broad societal purpose.

1.2: B. Types of stakeholders1. Internal stakeholder – those are intimately connected to the organization and their objectives are likely to have strong influence on how it is run. For example, directors, sub-board management, company secretary, managers, employees, etc.

2. Connected stakeholder – can be viewed as having contractual relationship with organization. For example, shareholders, suppliers, finance creditors, trade unions.

3. External stakeholders – those are individuals and groups that do not have core contractual connections with the organization but impacted by the corporate and social actions of the organization. These groups will have diverse objectives and have varying ability to ensure that the organization meets their objectives. For example government (national and local), lobbying groups (environmentalists), local communities, regulators, external auditors, professional bodies, competitors, etc.

Different objectives of stakeholders lead to:

CONFLICT?Solve

1.2: C. Mendelow’s Stakeholder Mapping Matrix

1.2: C. Mendelow’s stakeholder mapping matrixCategory of matrix Explanation

Low power and low interest (A) – minimal effort/direction

• Can be largely ignored when considering strategic objectives.

• They are more likely to accept what they are told and follow instruction.

• Ethical view, they should still be considered as ignoring them may awaken their interest.

Low power and high interest (B) – keep informed/education and communication

• Kept informed and not underestimated. • Lobby others to support their strategy or

alternatively join forces to pressure the organisation.

• The company’s strategy must be presented in a logical way and shown to be rational; this may stop them joining forces with more powerful dissenters.

1.2: C. Mendelow’s stakeholder mapping matrixCategory of matrix Explanation

High power and low interest (C) – keep satisfied/intervention

• Kept satisfied and stay dormant to avoid them gaining interest.

• If they become more interested, they can easily become key players (might frustrate the adoption of a new strategy).

• Therefore, the organisation must reassurance them of the likely outcomes of the strategy well in advance.

High power and high interest (D) – key players/participation

• The organization must put extra priorities on the key players.

• The stakeholder has the ability to prevent the company achieving its strategy (e.g. upsetting customers will drive them to competitors).

• The organization should communicate to assure them that the change is necessary, followed by discussions on the implementation of the strategy and how it affects them.

1.3 Political and legal factors affecting business

A. Political systems and government policy affect the

organization

1. Definition of political system -

set of formal legal institutions that

constitute a "government" or a

"state." 2. Three levels of political system to analyze and apply:

a) Global - WTOb) National –

National government

policy.c) Local – local

government policy

3. Government policy affect the

organisation a. Law and

regulations – criminal law,

company law, employment law, health and safety,

data protectionb. Taxation – based

on profits, capital gains, VAT, etc.

c. Economic policies – e.g. low inflation, low interest rates,

appropriate exchange rate.d. Government

policies/incentives (include trade

policy).Government also can imposed policy on industry entry barriers such as tariff to protect

local car. Government

incentives in the forms of subsidies and tax relief will

influence the organization’s

strategy.

1.3: B. Sources of legal authority• Include statute law, case law• Stature law – acts created by national

parliaments or equivalents bodies. • Case law – judge-made law based on available

precedent and in the absence of prior decisions. The decisions become binding on future courts and important as statute law

1. National

• Regional/state governments pass resolutions and may have the authority to levy taxes. E.g. the State and Federal system within the USA.

2. Regional

• Forms of law come from bodies outside of the national jurisdiction. For example, The European Union, The World Trade Organisation (WTO), etc.

• The World Trade Organisation (WTO) – set up to promote free trade and resolve disputes between trading partners with the objectives to help producers of goods, services, exporters and importers in their business.

3. Supra-national bodies

1.3: C. Employment lawa. The body of law that governs the employer-employee relationship,

including: Individual employment contracts, the application of TORT and contract doctrines,

and large group of statutory regulation on issues such as the right to organize and

negotiate collective bargaining agreements, protection from discrimination, wages and hours, and health and safety.

b. The organization must be aware on the employment laws which protect the employee’s interest to prevent legal action taken on them that could result in bad publicity.

c. Employment law covers: Employment contract - basic principles, procedures and responsibilities between employer

and employees. Basic remuneration (minimum level) and working hours (e.g. Malaysia employment act does

not allowed the employees to work more than 48 hours or exceeding 8 hours a day excluding a period of rest, 5 consecutive hours of work without a period of rest of not less than 30 minute).

Working environment and conditions - safe and healthy working environment against dangerous machinery, hazardous materials, and noise, etc.

Termination of employment - unfair dismissal, proper compensation, etc. Discrimination at workplace on the basis - race, colour, religion, national origin, or sex, etc.

1.3: C. Employer’s and employee’s responsibilities – health and safety

Employers

1. Plant and machinery is safe to use, and that safe working practices are set up and followed.

2. All materials are handled, stored and used safely and provide adequate first aid facilities

3. Ventilation, temperature, lighting, and toilet, washing and rest facilities all meet health, safety

and welfare requirements.

1.3: D. Data protection and security

a. Data protection

• Protecting individuals personal data against the misuse of information held by organizations (protection from misuse of personal information stored on electronic systems and manual).

b. Data security

• Keeping data safe from various hazards that could destroy or compromise it.

• Data corruption (due to viruses, hacker), the organization must install anti-virus and firewall software, passwords and user number limits and off-site back-up copies of data files.

1.3: D. Data protection and security cont’d…

• The UK Data Protection Act includes eights Data Protection Principles which data users must comply. The principles as follow:

1) Personal data shall be processed fairly and lawfully and, in particular, shall not be processed unless fulfil certain condition.

2) Personal data shall be obtained only for one or more specified and lawful purposes, and shall not be further processed in any manner incompatible with that purpose or those purposes.

3) Personal data shall be adequate, relevant and not excessive in relation to the purpose or purposes for which they are processed.

4) Personal data shall be accurate and, where necessary, kept up to date.5) Personal data processed for any purpose or purposes shall not be kept for longer than is

necessary for that purpose or those purposes.6) Personal data shall be processed in accordance with the rights of data subjects under this

Act.7) Appropriate technical and organisational measures shall be taken against unauthorised or

unlawful processing of personal data and against accidental loss or destruction of, or damage to, personal data.

8) Personal data shall not be transferred to a country or territory outside the European Economic Area unless that country or territory ensures an adequate level of protection for the rights and freedoms of data subjects in relation to the processing of personal data.

1.3: E. Consumer protection – general principle, simple contract and sale of goods

b. Legally enforceable contract - an offer, acceptance and consideration (in exchange for goods).c. A consumer user of goods and services. Any person paying for goods and services , expect that the goods and services are of a nature and quality promised to him by the seller.d. Any business buying and selling goods is considered making and discharging contract either written or unwritten or implied by behavior (e.g. purchase groceries at supermarket). e. If one party of the contract fails the agreement, the other party can take legal action for breach contract or contract void (e.g. either party disappears without trace).f. Sale of good and supply of services:

1. This transferred legal responsibility to the retailer ("caveat vendor" - let the seller beware).

2. Seller to ensure that goods are of merchantable quality, as described, fit for their purpose, and conforms to sample. Services must be provided by persons with due skill, the materials used must be of merchantable quality and any goods supplied as part of the service must be of merchantable quality.

3. Signs limiting the liability of retailers were now to be illegal.4. Guarantees could not affect statutory rights and the time period must be clearly stated.5. Hire purchase goods are protected by the act but the consumer may complain to either

the retailer or HP Company.6. Unsolicited goods (unordered goods sent to your home) may be kept within thirty days of

telling the seller to collect them or within six months if no notice is given.7. Motor vehicles sold privately have an implied condition that the car must be free from

any defect, which renders it dangerous to the public.

1.4 - Macro-economic factors

1. Definition2. Determination of business activity

a. GDP: principle & component (private consumption, investment, government, balance of payments).

b. other factors: recession, confidence, capital and exchange rate.

c. business cycles: recession, depression, recovery and boom.

3. Impact of economic issues: inflation, unemployment, stagnation, international payments disequilibrium

4. Types of economic policies: a. monetary policy; and b. fiscal policy

1.4 - Macro-economic factors

A. Definition of macroeconomic:

• Studies the behaviour of the aggregate economy. • Macroeconomics examines economy-wide phenomena such as changes in:

• Unemployment, national income, rate of growth, gross domestic product, inflation and price levels.

• The objectives of macro economics:• To achieve full employment, growth national income, real economic growth, price

stability, balance of export and import, etc.

1.4: B. Determinant of business activity - GDPGross Domestic Product (GDP) – The total market

value of all final goods and services produced within the country in a given period of time (calculated on annual basis).

The components of GDP consist the following: GDP = private consumption + gross investment + government spending + balance of payments (exports − imports), or

Principle: High GDP, lead to better business activity.

1.4: B. GDP - Components

Components Explanation1. Consumption Based on private consumption (except for purchase of new house) and

determined by the level of household incomes, the rate of tax and portion of a household’s income saved. a) Higher the overall taxation, the lower will be the amount of net

income for spending on consumption (includes both direct and indirect taxes).

b) High tax rate imposed on goods and services - reduce private consumption. The same apply for portion of income that is saved where Depend on fluctuation of saving interest rate (high interest rate,

consumer will save more).

2. Investment Investment made on capital items. a) Business investment in equipment, but does not include exchanges

of existing assets. b) E.g. construction of a new mine, purchase of software, or purchase

of machinery and equipment for a factory. Spending by households (not government) on new houses is also included in Investment.

c) 'Investment' in GDP does not mean purchases of financial products. Buying financial products (e.g. stock and bond) is classed as

'saving', as opposed to investment.

1.4: B. GDP - Components Components Explanation

3. Government spending

a) Government spending of final goods and services and investment (e.g. infrastructure).

b) Includes salaries of public servants, purchase of weapons for the military, and any investment expenditure by a government.

c) It does not include any transfer payments, such as social security or unemployment benefits.

4. Balance of payments

Represents the net of import and export value. If export is more than import, the balance will be positive (favourable) and vice versa.

1.4: B. Determinant business activity – Others factors

• Defined as decline in a country’s GDP (features by job losses, plant closures).Recession

• Increase level of customer confidence will result to higher demand for product and services and thus greater business activity within the economy.

• Low, interest rate, R&D, product innovation will attract customer spending.

Confidence

• Availability of capital resources (share capital or loan) will increase or reduce the business activity within the economy.Capital

• Strengthening currency will make export more expensive and reduce demand for exports.

• Imports on the other hand more cheaper (encourage business activities for organization that rely on imported resources).

Exchange rate

1.4: B. Determinant business activity – Business cycles

1.4: B. Determinant business activity – Business cycles

Components Explanation1. Recession a. General definition of recession is declining in GDP rate for two

or more consecutive quarters.b. In the recession phase, the country will suffer the decline in

consumer demand, low return on investment, closure business operation, reduce inventory level, etc.

c. Government will usually adopt a budget deficit and reduce the tax rates in order to boost aggregate demand.

2. Depression a. Severe economic downturn that will usually last several years (long-term economic downturn).

b. Government policy (e.g. low interest rate) to reduce the impact of recession was failed to achieve the objectives.

c. Depression are characterized by:a. "unusual" increases in unemployment, b. restriction of credit,c. shrinking output and investment, d. price deflation or hyperinflation, numerous bankruptcies, e. reduced amounts of trade and commerce, f. highly volatile/erratic relative currency value fluctuations,

mostly devaluations.

1.4: B. Determinant business activity – Business cycles

Components Explanation

3. Recovery a. A period of growth after the economics recession and depression.

b. The consumer confidence has returned to business which leads increasing in production (demand increase), sale, profit levels, employment, high investment in new capital equipment and hence increase of GDP.

c. Usually followed by a series of good news.

4. Boom a. When the recovery continues, the output level will rise above the general trend line, entering into the boom phase.

b. Capacity and labour become fully utilized leading to increasing costs as competition for limited resources intensifies or the demand is met through importing.

c. Increasing the sale prices may also be a result of trying to control demand.

d. Households will have higher incomes due to higher salaries, higher share of profits and higher dividends.

e. Demand level peaks, the expansion reaches and unsustainable level and correction occurs within the economy - trigger to short term of recession.

1.4: C. Impact of economises

1. Inflation2. Unemployment3. Stagnation4. International payments disequilibrium

1.4: C. Impact of economises - Inflation

Definition: increase in aggregate and general price level in an economy over a period of time (decline in the purchasing power and

real value of money)

The Consumer Prices Index (CPI) is a common method of

measuring inflation.

Consequences of inflation:- High inflation will follow by high interest rate as lenders know that

inflation will erode the value of their money, so they increase the interest rate

to compensate for the loss.- Impact on standard of living and health

(e.g. unable to purchase healthy food, obtain medical treatment) especially for

those on low income.- Discourage saving as the purchasing power of investment may be reduced

with interest rate unable to compensate for inflation. E.g. the value of today will

cost more for tomorrow.- Economy's exports become more

expensive and importer cheaper that affect the balance of trade.

- Social unrest and revolts - inflation can lead to massive demonstrations and

revolutions.

1.4: C. Impact of economises - Unemployment

Real wage unemploymen

t –Trade unions and

labor organization bargain for

higher wages, which leads to

strikes and lockouts and result in the

fall in the demand for

labor.

Fictional unemployment

– Temporary unemployment. An individual is

out of his current job and

looking for another job.

The time period of shifting

between two jobs is known as frictional

unemployment.

Seasonal – Due to the

seasonal nature of the job itself.

Certain industries will have different

demand for labour within the

seasons (e.g. spring, summer,

autumn and winter). The

affected industries would

be farming, tourism, winter

sports, etc.

Structural –No demand

available workers with particular

skill due to structural

changes within an industry. For

example the closure of coal

steel, technology replacing manual procedures, etc.

Cyclical - economy is in recession and depression. When the

employment rate moves in the

opposite direction to the GDP rate where GDP would be

declining during recession and

depression but unemployment

increasing.

1.4: C. Impact of economises - Stagnation

Stagnation – relatively long period of very low or no economic growth, usually accompanied by high unemployment. – Under other definitions, growth less than 2-3% per year is a sign of stagnation.

Stagnation should be differentiated with stagflation. stagflation is an economic situation where there is a coupling of sluggish economic

growth, high inflation rate and often unemployment (Stagflation occurs when the economy isn't growing but prices are).

Consequences of stagnation:– The economy is unable to reduce existing unemployment levels.– Lead to slow demand for goods and services, which adversely affect the

company’s profit and lead to recession

1.4: C. Impact of economises – International payment disequilibrium

The current account:Mark the inflow and outflow of goods and

services into a country. Earnings on investments, both public and private,

are also put into the current account

Financial account :International monetary

flows related to investment in business, real estate,

bonds and stocks are documented.

Capital account: All international capital

transfers are recorded. This refers to the acquisition or disposal of non-financial

assets (for example, a physical asset such as land) and non-produced assets,

which are needed for production but have not

been produced, like a mine used for the extraction of

diamonds. Long term trade deficits has to be financed. Long term trade surplus can store up significant problem - inflation

1.4: D. Economic policy implemented by government

1) Monetary policy: Government policy on money supply, the monetary system, interest rates,

exchange rates and the availability of credit for the purpose of promoting economic growth and stability.

2) Fiscal policy: Government policy on expenditure and revenue collection (taxation) to

influence the economy (e.g. taxation, public spending and budget deficit or surplus).

3) Supply side approach – kindly refer Note 2(1)

4) Taxation – kindly refer Note 2(1)

5) Privatisation – kindly refer Note 2(1)

1.5 - Micro-economic factors1. Definition:

a. Supply & demand b. Demand – demand curve, factors & substitute, complements goodsc. Supply – Supply curve, factors, short run supplyd. Equilibrium curvee. Price regulation

2. Elasticity:a) Elasticity of demand, b) Arc elasticity, c) Elastic & inelastic of demand, d) Cross elasticity of demand & e) Price elasticity of supply.

3. Market competition: a) Perfect competition, b) Imperfect competition c) Pure oligopoly.

1.5: A. Micro-economic factors - Definition1) Microeconomics :

Branch of economics that studies the behaviour of individual households and firms in making decisions on the allocation of limited resources.

2) The price mechanism: Term used to describe the means by which the many millions of decisions taken each day

by consumers and businesses interact to determine the allocation of scarce resources between competing uses.

3) A market: Defined as a situation in which potential buyers and potential sellers (suppliers) of a good

or service come together for the purpose of exchange. Utility is the word used to describe the pleasure or satisfaction or benefit derived by a person from the consumption of goods.

4) Total utility: The total satisfaction that people derive from spending their income and consuming

goods.

5) Marginal utility: The satisfaction gained from consuming one additional unit of a good or the satisfaction

forgone by consuming one unit less

1.5: A. Micro-economic factors – Demand Curve The demand curve of a single consumer or household is derived by estimating

how much of the good the consumer or household would demand at various hypothetical market prices.

1.5: A. Micro-economic factors – Demand CurveLaw of demand:

Q demanded increases when price fall, and Q demanded decreases when price rises, other things held constants (ceteris paribus).

1.5: A. Micro-economic factors – Demand Curve Factors determining demand for a good.

• The price of the good• The size of households' income (income effect)• The price of other substitute goods (substitution effect)• Tastes and fashion• Expectations of future price changes• The distribution of income among households – Normal goods & inferior

goods

Substitute goods: Alternatives to each other, so that an increase in the demand for one is likely

to cause a decrease in the demand for another. E.g. Tea and coffee

Complement goods: Tend to be bought and used together, so that an increase in the demand for

one is likely to cause an increase in the demand for the other. For example bread and butter

1.5: A. Micro-economic factors – Demand Curve

Factors determining demand for a good continues:• The distribution of income among households – Normal

goods & inferior goods. For example fresh vegetables (normal goods) and frozen vegetables (inferior goods).

Normal goods: Demand rises as household income increases.

Q , Income

Inferior goods: Demand eventually falls as income rises. (Customers can

afford to switch demand to superior products).Q , Income

1.5: A. Micro-economic factors – Demand Curve

Normal goods & Inferior goods

1.5: A. Micro-economic factors – Supply curve Supply refers to the quantity of a good that existing suppliers or

would-be suppliers would want to produce for the market at a given price.

1.5: A. Micro-economic factors – Supply curve

Law of Supply:Q supplied increases when price increases, and Q supplied

decreases when price decreases, other things held constants (ceteris paribus).

1.5: A. Micro-economic factors – Supply curveFactors influencing the supply quantity.

The costs of making the goodsThe prices of other goods.

• Substitutes in supply: An increase in the price would make the supply of another good whose price does not rise (less attractive to suppliers).

• Joint supply or complements in production: When a production process has two or more distinct and separate outputs. E.g. Meat and hides. If the price of beef rises, more will be supplied and there will be an accompanying increase in the supply of cow hide.

Expectations of price changesChanges in technologyOther factors - changes in the weather (for example, in the case

of agricultural goods), natural disasters or industrial disruption

1.5: A. Micro-economic factors – Short run supply curve• Firm needs only to cover its variable costs, at Q1 below because:

– covering variable cost ensures than an output can be produced in the future. If variable costs cannot be covered then no further output can be made.

• In the short run, the firm's supply curve is its MC curve above AVC (at B). Below this point it will shut down. Hence the firm would be willing to supply at P, but not at P1. At point B marginal revenue (P) is equal to marginal cost.

• Graph of short run curve:

• Dgjdgjjfdgjdgj

1.5: A. Micro-economic factors – Long run supply curve

• The supply curve was upward sloping in the short run because of diminishing returns on the marginal cost. It will be downward sloping because of benefits of economies of scale.

• Graph of short run curve:

• Dgjdgjjfdgjdgj

1.5: A. Micro-economic factors – Equilibrium price

• The equilibrium price for a good is the price at which the volume demanded by consumers and the volume that firms would be willing to supply is the same.

1.5: A. Micro-economic factors – Equilibrium price• The equilibrium price for a good is the price at which the volume demanded

by consumers and the volume that firms would be willing to supply is the same.

• Maximum price (or price ceiling) the maximum price a seller is allowed to charge for a product or service.

• Minimum price (or price floor) lowest price that a government allows a good to be sold for a good.

1.5: B. Micro-economic factors – Elasticity

1. Price elasticity of demand – elastic and inelastic demand

2. Arc elasticity and point elasticity of demand

3. Income elasticity of demand4. Cross elasticity of demand5. Price elasticity of supply.

1.5: B. Micro-economic factors – Elasticity of demand

1. Elasticity: Elasticity measures the responsiveness of one variable following a change in another variable.

2. Price elasticity of demand (PED): Measure of the extent of change in the market

demand for a good in response to a change in its price.

1.5: B. Micro-economic factors – Elasticity of demand

• Elastic – luxury goods• Inelastic – necessity goods

1. The coefficient of price elasticity of demand (PED):

1.5: B. Micro-economic factors – Elasticity of demand

1. The coefficient of price elasticity of demand (PED):

1.5: B. Micro-economic factors – Elasticity of demand

• If demand is elastic and the price goes up from $1 to $2, what happens to TR? • P=$1: TR = P x Q = $1 x 40 = $40• P=$2: TR = P x Q = $2 x 10 = $20

It will decrease

1. Elasticity of demand: Greater than 1 @ (>1)

1.5: B. Micro-economic factors – Elasticity of demand

• If demand is inelastic and the price goes up from $1 to $4, what happens to TR?• P=$1: TR = P x Q = $1 x 20 = $20• P=$4: TR = P x Q = $4 x 10 = $40

It will increase

1. Inelasticity of demand: Less than 1 @ (>1)

1.5: B. Micro-economic factors – Elasticity of demand

• If demand is unit elastic and the price goes up from $1 to $3, what happens to TR?

• P=$1: TR = P x Q = $1 x 30 = $30• P=$3: TR = P x Q = $3 x 10 = $30

It will not change

1. Inelasticity of demand: Less than 1 @ (>1)

1.5: B. Micro-economic factors – Elasticity of demand

Factors influencing price elasticity of demand for a good:

Percentage of income spent on the goodAvailability of substitutes NecessityThe time horizon Competitor pricing Habit

1.5: B. Micro-economic factors – Arc elasticity

Arc elasticity: Measures elasticity between two

points on the demand curve (responsiveness of demand to a large change in price).

1.5: B. Micro-economic factors – Elasticity of demand & Arc elasticity

Question:• Price increases from 10p to 12p.• Quantity falls from 40 to 20.

Solutions:• Arc elasticity of demand assumes that we should calculate using

the midpoint between 40 and 20 which equals 30 • The % change in quantity is 20/ 30 = - 0.667• The % change in price is 2p / 11 = 0.18• Therefore PED = -0.667 / 0.18 = -3.7 elastic since greater than 1(Ignore the minus sign)

1.5: B. Micro-economic factors – Point elasticity of demand

Point elasticity of demand:

Measure the responsiveness of demand at one particular point in the demand curve (assumed the demand curve is straight).

1.5: B. Micro-economic factors – Point elasticity of demand Example: point elasticity of demandThe price of a good is $1.20 per unit and annual demand is 800,000. Market research indicates that an increase in price of 10 cents per unit will result in a fall in annual demand for the good of 70,000 units.

Required:Calculate the elasticity of demand at the current price of $1.20.

SolutionWe are asked to calculate the elasticity at a particular price. We assume that the demand curve is a straight line. At a price of $1.20, annual demand is 800,000 units.

% change in demand=70,000/800,000 × 100% = 8.75% (fall)

% change in price= 10c/120c × 100% = 8.33% (rise)

Price elasticity of demand at price $1.20=(-8.75)/8.33 × 100% = -1.05%

1.5: B. Micro-economic factors – Income elasticity of demand

Income elasticity: indicates the responsiveness of demand to changes in

household incomes.

1.5: B. Micro-economic factors – Cross elasticity of demand Cross elasticity of demand :

the responsiveness of quantity demanded for one good following a change in price of another good.

1.5: B. Micro-economic factors – Price elasticity of SUPPLY Price elasticity of supply:

Responsiveness of supply to a change in price.

1.5: B. Micro-economic factors – Price elasticity of SUPPLY Factors influence price elasticity of supply:

Existence of inventories of finished goodsAvailability of labourSpare capacityAvailability of raw materials and componentsBarriers to entry The time scale:• The short run• Long run• The secular period

1.5: C. Micro-economic factors – market competition

• Perfect competition • Imperfect competition and –Monopolistic competition;–Oligopoly; –Monopoly; –Monopsony; and –Oligopsony

• Pure monopoly

Perfect competitionDefinition: Markets such that no

participants are large enough to have the market power to set the price of a

homogeneous product. Characteristics: - Infinite buyers and sellers

- Zero entry and exit barriers

- Perfect factor mobility

- Perfect information

- Profit maximization

- Homogeneous products

- Zero transaction costs

Imperfect competition

Definition: market situation where individual firms have a measure of control

over the price of the commodity in an industry.

Arises when an industry's output is supplied only by one, or a relatively small number of

firms. Consists of: - Monopolistic competition

- Monopoly

- Monopsony

- Oligopsony

- Oligopoly

1.5: C. Micro-economic factors – market competition

• Monopoly: – which there is only one seller of a goods. Has complete control

over an industry, for example Meralco is sole distributor of electric power in Metro Manila.

• Characteristics:– Profit maximiser.– Price maker: Decides the price of the good or product to be sold.– High barriers to entry: Other sellers are unable to enter the market

of the monopoly.– Single seller: In a monopoly there is one seller of the good which

produces all the output. – Price discrimination:

• A monopolist can change the price and quality of the product. • He sells more quantities charging less price for the product in a very

elastic market and sells less quantities charging high price in a less elastic market.

1.5: C. Micro-economic factors – market competition• Oligopoly:

– Oligopoly, characterized by a small number of relatively large competitors (dominated by a small number of sellers), each with substantial market control.

– Exhibit interdependent decision making - lead to intense competition among the few and the motivation to cooperate through mergers and collusion.

• Characteristics:

– Profit maximisation conditions: An oligopoly maximises profits by producing where marginal revenue equals marginal costs.

– Ability to set price.– Entry and exit: Barriers to entry are high. – Number of firms: There are so few firms that the actions of one firm can influence

the actions of the other firms.– Long run profits: retain long run abnormal profits. – Product differentiation: Product may be homogeneous (steel) or differentiated

(automobiles).– Perfect knowledge: Assumptions about perfect knowledge vary but the knowledge

of various economic actors can be generally described as selective. – Interdependence. Each firm is so large that its actions affect market conditions.

1.5: C. Micro-economic factors – market competition

• Monopolistic competition: – Many sellers producing highly differentiated goods. – The output of each producer is a close but not identical substitute to

that of every other firm, which helps satisfy diverse consumer wants and needs.

• Characteristics:

– Product differentiation. The cross price elasticity of demand between goods in such a market is positive.

– Many firms.– Free entry and exit in the long run. This assumption implies that there

are low start up costs, no sunk costs and no exit costs. – Independent decision making.– Market Power - firms have some degree of market power (firm has

control over the terms and conditions of exchange).– Buyers and Sellers do not have perfect information (Imperfect

Information).

1.5: C. Micro-economic factors – market competition

• Monopsony: – There is only one buyer of a good.

• Oligopsony: – There are few buyers of a good.

1.5: C. Micro-economic factors – market competition

• Pure monopoly:– A market in which only one firm has total control

over the entire market for a product due to some sort of barrier to entry for other firms, often a patent held by the controlling firm.

1.6 Social and demographic factors Social structure Demography Impact on organisation Government measures

1.7 Technological factors Business strategy Competitive advantage Organisational structure

1.8 Environmental factors

1.9 Competitive factors Porter’s five forces modelGeneric strategiesPorter’s value chain