Strategic Business Program
Business, Government,
Society: Insights from
Experiments
Day 2
1
Four Market Types
Characteristic
Pure
Competition
Monopolistic
Competition
Oligopoly
Monopoly
Number of firms
A very large
number
Many
Few
One
Type of product
Standardized
Differentiated
Standardized or
differentiated
Unique; no
close subs.
Control over
price
None
Some, but within rather
narrow limits
Limited by mutual Considerable
inter-dependence
Conditions of
entry
Very easy, no
obstacles
Relatively easy
Significant
obstacles
Blocked
Nonprice
competition
None
Considerable emphasis
on advertising, brand
names, trademarks
Typically a great
deal, particularly
with product
differentiation
Mostly
public
relation
advertising
2
Monopoly
Barrier to entry: a factor that keeps
firms from entering an industry
• Economies of scale
• Legal barriers: patents and licenses
• Ownership of essential resources
LO1
3
10-3
Cost Curves
4
Economic Effects of Monopoly
S=MC
MC
P=MC=
Minimum
ATC
Pc
Pm
Pc
b
d
c
a
D
D
MR
Qc
Purely Competitive Market
LO3
Qm Qc
Monopoly
5
10-5
Cartels and Government

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
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Monopoly power is often granted by
government via regulation. Example Pacific
gas and electric.
Other examples are shipping and the airline
industry (pre-deregulation).
Justifications for government regulation
include infant industry and natural monopoly.
Criticisms include decreased competition,
increased costs due to inefficiency and
lobbying, and regulation outlives its
usefulness.
6
The Japanese Brewing Industry


After a reduction in the minimum to 60,000
litres/year in 1994, many microbreweries opened.
Will cut the big four’s shares and profits, as will
changes in retailing practices:
• half of the beer is sold in bars and restaurants, with
loyalty
• most remaining sales in corner bottle shops
• recently, discount liquor shops have cut prices by
25% below corner shops, and have also stocked
imported beers, at 2/3 the cost of domestics
7
Coca-Cola and India
Coca-Cola left Indian market for 17 years.
Coca-cola left in 1977, when a newly elected
government demanded that The Coca-Cola Company
partner with an Indian entity and government wanted
to know the syrup formula.
Coke refused to budge, choosing instead to walk away
from a market leadership position in a nation of more
than 800 million people. Returned in 1993.
8
Coca-Cola and India
In the early-1990s, when India began to open up its
economy to foreign investments, Coke started
plotting a strategy to re-enter the fast-growing
market.
The company’s attention shifted to the Parle Group,
which commanded 60 percent of India’s soft drink
market.
In a landmark strategic alliance, Coke acquired
Parle’s stable of brands and gained access to its
nationwide bottling and distribution infrastructure.
9
Oligopoly and Advertising
Prevalent to compete with product
development and advertising
• Less easily duplicated than a price
change
• Financially able to advertise
LO7
10
11-10
Oligopoly and Advertising
Positive Effects
Low-cost way of providing
information to consumers
Can be manipulative
Enhances competition
Contains misleading claims that
confuse consumers
Speeds up technological progress
Consumers pay high prices for a
good while forgoing a better,
lower priced, unadvertised version
of the product
Can help firms obtain economies
of scale
LO7
Negative Effects
11
11-11
Oligopoly and Collusion
Cartels - a group of firms or nations that collude
• Formally agreeing to the price
• Sets output levels for members
LO6
12
11-12
Cartels




Explicit agreements among firms to fix output and
prices and act as a monopolist.
Examples are OPEC, Electrical Conspiracy (Econ
USA), Shipping Cartel
Incentive to cooperate – earn monopoly profits
Incentive to cheat – increase individual profits if
cheating is not detected or punished.
13
Tacit Coordination




Spontaneous cooperation resulting from
strongly perceived interdependence.
For example, following a rival’s price change.
Difficult to achieve with lots of firms.
Hard to find/prove/correct.
14
Explicit Conspiracy



Price fixing agreement.
Formal cartel.
Per se illegal.
15
Experiment
Please note your payoffs and your partners payoff for
the following three choices
1.
Do not cooperate, player 1 and 2 = $1000
2.
Cooperate, player 1 and 2 = $1600
3.
Cooperate player 1, Do not cooperate player 2=
$2000, $400
4.
Cooperate player 2, Do not cooperate player 1=
$400, $2000
16
Price Fixing
Price Fixing is an agreement among competitors to
raise, fix, or otherwise maintain the price at which
their goods or services are sold. This does not
mean that competitors agree to charge the same
price. And not all competitors have to be amongst
the conspiracy.
17
FTC and Predatory Pricing
From the Federal Trade Commission, "Instances of a
large firm using low prices to drive smaller competitors
out of the market in hopes of raising prices after they
leave are rare. This strategy can only be successful if
the short-run losses from pricing below cost will be
made up for by much higher prices over a longer
period of time after competitors leave the market.
Although the FTC examines claims of predatory pricing
carefully, courts, including the Supreme Court, have
been skeptical of such claims."
18
Coffee Wars





In 1970 GF’s Maxwell House was best seller in the
Eastern U.S.; P&G’s Folger’s in the West.
To increase sales of Folger’s in Cleveland, P&G
started: TV advertising, retailer’s promotions,
coupons, in-pack gifts, and mailed free samples.
GF responded with: mailed and in-pack coupons, and
retailers’ promotional incentives
But Folger’s share grew to 15% after a year.
GF adopted its “defend now” strategy to limit Folger’s
to 10% in the East:
heavy price discounting, “but P≥AVC”
and its “fighting brand,” Horizon
19
Coffee Wars



Evidence in the FTC’s investigation that both sold
with
P < AVC
Clearly, GF wanted to signal to P&G its aggressive
defense.
In 1976 the FTC charged GF with attempted
monopolization, unfair competition, and price
discrimination.
20
Coffee Wars

“MH did not come dangerously close to gaining
monopoly power as a result of any of its challenged
conduct in any of the alleged markets. As a result, its
actions were output-enhancing and pro-competitive
— the kind of conduct the antitrust laws seek to
promote"
21
Mergers – Increasing
Concentration





Vertical Merger – merging with a firm that supplies
inputs
Horizontal Merger – merging with a competitor
Conglomerate Merger –merging with firms that are
not related
Successful mergers – Boeing and McDonnell-Douglas
Unsuccessful Mergers – AOL Time Warner
22
Mergers and Acquisitions



Merger – a combination of two or more businesses
under one ownership
Acquisition or Takeover - one firm acquires the stock
of another
 Acquired firm is the target
Consolidation - combining firms dissolve forming a
new legal entity
23
Mergers and Acquisitions
24
Mergers and Acquisitions


Relationships
 Consolidation implies the firms combined willingly
 Acquisition can be a friendly or hostile takeover
Stockholders
 Must be willing to give up their shares for the
offered price
 Approval from majority necessary for
acquisition to be successful
25
Mergers and Acquisitions
Unfriendly Procedure
Friendly Procedure
 Target firm's
 Target firm's
management resists,
management
takes defensive
approves and
measures to stop
cooperates with
takeover
acquiring company
 Acquiring firm makes
 Negotiation occurs
a tender offer to the
until agreement is
target's shareholders
reached
 Proposal submitted
for stockholder vote
26
26
Why Unfriendly Mergers are
Unfriendly

A target's management may resist a takeover
because:
 Acquiring firm offered too low a price for the stock
 Target’s management often loses jobs, power, and
influence
27
27
Mergers and Acquisitions


Strategic Merger
 Merger is undertaken to enhance the acquirer’s
business position
Financial Merger
 Merger is undertaken to make money from the
merger process
28
The Antitrust Laws



U.S. is committed to a competitive economy
Antitrust laws (enacted 1890 - 1930s) prohibit certain
activities that can reduce competitive nature of the
economy
Mergers have potential to reduce competition
29
The History of Merger
Activity in the U.S.


Wave 1: The Turn of the Century, 1897-1904
 Horizontal mergers transformed the U.S. into a
nation of industrial giants, with some monopolies
Wave 2: The Roaring Twenties, 1916-1929
 Began with World War I and ended with the stock
market crash of 1929
 Horizontal mergers led to oligopolies
30
The History of Merger
Activity in the U.S.


Wave 3: The Swinging Sixties, 1965-1969
 Conglomerate mergers - unrelated fields
 Stock market driven
An Important Development During the 1970s
 Hostile takeovers uncommon prior to 1970s
 1974 INCO acquires ESB assisted by respected
investment bank Morgan Stanley
 After that hostile takeovers became acceptable
31
The History of Merger
Activity in the U.S.



Wave 4: Megamergers, 1981 – 1990
 Very large firms, often industry leaders, merge
Wave 5: Globalization, 1992 – 2000
 Began after 1991 – 1992 recession
 Large number of international mergers
 Ended with September 11, 2001
Wave 6: Private Equity, 2003 – 2008
 Private equity groups bought companies for
financial reasons
 Ended with the financial crisis of 2008
32
Social, Economic, and
Political Effects

Large mergers have implications regarding the
concentration of power and influence
 Anti-competitiveness of merging large companies
 Concentrates economic power in the hands of a
few
33