Plan for assessing the effectiveness of the market structure for the company’s operations
The SIC Code of the Frozen Food Production Industry is 31141. The competition in the market is intense as there are many customers and sellers of frozen food products. However, the market is led by major brands. It could be stated that the market structure is imperfectly competitive (oligopoly). The companies also face competition from non-frozen food companies. The major companies are Nestle SA (Nestle) and ConAgra Foods Inc. (ConAgra). The companies develop their strategies by focusing on the changing market trends and consumer preferences (Jeon, 2013).
The companies’ pricing strategy is based on commodity prices, and these companies pass on the increase in commodity prices to consumers and maintain their profit margin. The operating profit margin of Nestle was 15.1% in 2015 (Full-Year 2015: 4.2% organic growth, trading operating profit margin up 10 basis points in constant currencies, 2016) and that of ConAgra was 7.6% (ConAgra Foods Inc., 2016).
A report indicated a significant decline in the demand for microwavable food forcing companies to make price cuts and carry out aggressive marketing activities (Marshall, 2015). The report also suggests that companies do not have effective marketing strategies as they are not able to communicate the benefits of their products. It supports the findings of Assignment 1 as advertisement expenditure elasticity is positive.
Factors that might have caused the change of business operations
The change in the market structure from perfect competition to monopolistic competition in which the company can manage its price implies that the company has monopolistic control. The company can maximize its profit when the marginal revenue is equal to marginal cost. However, the demand is downward sloping that implies that P>MR and the company can make above normal profit (McGuigan, Moyer, & deB Harris, 2014).
The two factors that could have affected the market structure include the company’s ability to differentiate its products from competitors. It could also be due to other companies (competitors) exiting the market. It eliminates competition, and the company can control its price (McEachern, 2016).
Cost functions for the low-calorie, frozen microwaveable food company
The cost functions of low-calorie microwavable food are provided in the following.
TC = 160,000,000 + 100Q + 0.0063212Q2
Fixed Cost = 160,000,000 (Coefficient of Constant)
VC = 100Q + 0.0063212Q2
MC= 100 + 0.0126424Q
The average total cost (ATC), average variable cost (AVC), and average fixed cost (AFC) functions are provided in the following.
ATC = TC/Q
ATC = 160,000,000/Q + 100 + 0.0063212Q
AVC = VC/Q
AVC = 100 + 0.0063212 Q2
AFC = Fixed Cost/Q
AFC = 160,000,000/Q
The cost functions can help the firm in determining the price of the product. These include the cost of different inputs. The decision-makers can ascertain the impact of the change in the cost of inputs on the cost of production. The managers can allocate resources based on the cost data incorporated in the cost functions. The understanding of cost behavior is important as it helps the firm to decide whether it is profitable for the business to continue producing the product or discontinue it and avoid losses.
In the previous assignment, it was noted that the firm in perfect competition could maximize its profit when the margin revenue from the sale of one additional unit is equal to the marginal cost of producing one additional unit (Besanko & Braeutigam, 2010). It is also applicable to the current market structure that is imperfect competition. However, the firm can earn above-normal profit in such a market. In the case of low-calorie microwavable food, it could be noted that the cost of production includes fixed cost and variable costs.
The regression equation has two components representing these costs. The fixed cost is independent of the business activity, and it does not vary with the quantity produced by the firm. On the other hand, variable costs are dependent on business activity, and they vary with the quantity produced by the firm. The firm can manage its variable costs but does not have much control over the fixed cost.
Circumstances for continuation decision
The business continuation rule implies that the firm should continue its business if the price is greater than the average variable cost in the short run or the price is greater than the average total cost in the long run. Since P>AVC, therefore the company must continue its business in the short run. However, the cost analysis indicates that P
Pricing policy for profits maximization
The demand function for low-calorie microwavable food is taken from Assignment 1, and it is provided in the following.
QD = 38650 – 42P
Solving for P
42P = 38650 – Q
P = 38650/42 – Q/42
P = 920.24 – 0.0238Q
The total revenue of the firm can be determined as follows.
TR = P x Q
TR = (920.24 – 0.0238Q) x Q
TR = 920.24Q – 0.0238Q2
Marginal Revenue is the additional revenue generated from the sales of one additional unit. It is given as follows.
MR = ΔTR / ΔQ
MR = 920.24Q/Q – (0.0238×2)Q
MR = 920.24 – 0.0476Q
The next step is to solve MR and MC simultaneously.
MR = MC
920.24 – 0.0476Q = 100 + 0.0126424Q
0.0126424Q + 0.0476Q = 920.24 – 100
0.06 Q = 820.24
Q = 13,670
Solving for Price
P = 920.24 – 0.0238 x 13,760
P = 920.24 – 325.36
P = 592.62
TR = 592.62 x 13,670
TR = $8,185,411
TVC = (100×13,760) + (0.0063212 x (13,760)2)
TVC = $2,572,840
Total Cost = TC = $160,000,000 + $2,572,840
TC = $162,572,840
ATC = (160,000,000/13,760) + 100 + (0.0063212 x 13,760)
ATC = $11,814
AVC = ((100×13760) + (0.0063212 x 13,7602))/13,760
AVC = $186.97
AFC = (160,000,000/13,760)
AFC = $11,628
MC =100 + 0.0126424 x 13,760
MC = $273.38
As compared to the equilibrium price of $384.47 in a perfect competition, the new price is $592.62. It implies that the company can control its price and charge a higher price to its customers for its product. However, the quantity was 22,502 in a perfect competition that is reduced to 13,760 in the new market structure. The reason for this change is that the demand curve of low-calorie microwavable food is downward sloping. The increase in price eventually causes the demand for the product to reduce (Dwivedi, 2009).
It is clear that the profit-maximization level of output is obtained when the marginal revenue equals the marginal cost. The rule applies regardless of the type of market structure. The perfect competition allows firms to enter the market without barriers. The market has many suppliers and customers, and no single firm can control or change the market price.
Therefore, in this type of market firms are price takers (Ashwin, Taylor, & Mankiw, 2016). On the other hand, the firm operating in the monopolistic market can control its price. The firm has a differentiated product that makes it unique and the competition erodes. In such market, the firm can set price to maximize profit. Different pricing strategies include cost/plus pricing, penetration pricing, etc. It is suggested that the firm should use cost/plus pricing strategy that will ensure that the company can cover its total cost and earn a profit.
Financial Performance Plan
The output determined in the previous part is 13,760 units. At this level, the marginal revenue is equal to the marginal cost. Based on the information provided above, it could be noted that the company should cover its variable costs to generate profit in the short run. It is calculated as follows.
Profit = Total Revenues – Total Variable Cost
Profit = $8,185,411 – $2,572,840
Profit = $5,612,571
Under perfect competition, the profit in the short run can be determined as follows.
Profit = (384.47 x 22,502) – (186.97 x 22,502)
Profit = $4,444,145
The firm makes a higher profit in imperfect competition as compared to the perfect competition. The reason is that the company’s price is greater than the marginal revenue, and the company can make above normal profit in the imperfect competition (Arnold, 2008). The firm has the advantage of differentiated products and less or no competition. These allow the firm to set a higher price for its product and achieve a higher profit margin in the imperfect market than perfect competition structure.
The long-term profit of the firm in the imperfect market can be calculated as follows.
Profit/(Loss) = $8,185,411 – $162,572,840
Loss = $(154,387,429)
The long-term profit of the firm in the perfect competition can be calculated as follows.
Profit/(Loss) = $8,651,344 – $160,000,000 – 4,207,199
Profit/(Loss) = $8,651,344-164,207,199
Loss = $(155,555,855)
The calculation indicates that the firm has a greater loss in perfect competition as compared to imperfect competition. The firm is unlikely to generate profit in the long run in both market structures.
It could be stated that the company makes a profit in the short run. However, it would make a loss in the long run as its sales are not sufficient to cover the total costs of production. Based on the criteria provided, it is clear that it is not feasible for the firm to continue in the long run unless it takes certain measures to improve its profitability.
Based on the assessment of the current market conditions, it could be stated that the demand for low-calorie microwavable food is growing. However, the trend is slowing down because of the weaknesses in the market strategies of companies. The companies are not able to inform customers regarding the benefits of frozen food, and there is much skepticism in the market related to the quality of prepared food and ingredients used by companies for preparing this type of meal. Keeping this in view, the first recommendation that the firm should consider is the increase in its marketing and promotional activities.
The firm needs to focus on improving its customer relationships. The firm should also enhance its communication with customers and address their concerns clearly and effectively. Another recommendation could be related to the product value. The firm can improve its product value by offering differentiated products to its customers. The firm can make it difficult for other companies to enter this market by creating a strong brand name and achieving economies of scale by increasing its output.
Arnold, R. A. (2008). Microeconomics. Mason, OH: Cengage Learning.
Ashwin, A., Taylor, M., & Mankiw, N. G. (2016). Business economics. Andover, Hampshire: Cengage Learning.
Besanko, D., & Braeutigam, R. (2010). Microeconomics. Hokoen, NJ: John Wiley & Sons.
ConAgra Foods Inc. (2016). Web.
Dwivedi, D. (2009). Essentials of business economics. Noida, UP: Vikas Publishing House.
Jeon, H. (2013). IBISWorld Industry Report 31141 Frozen Food Production in the US. New York: IBIS World.
Marshall, G. W. Declining Sales in the Frozen Food Aisle. Web.
McEachern, W. A. (2016). Economics: A contemporary introduction. Mason, OH: Cengage Learning.
McGuigan, J. R., Moyer, R. C., & deB Harris, F. H. (2014). Managerial economics: applications, strategies and tactics. Stamford, CT: Cengage Learning.