5IB004 Assignment Sample – Economics of Managerial Decision Making

Task 1

Introduction

Supermarkets in the UK continues to witness the highest industry growth in terms of sales since the pandemic as a vibrant online presence mitigated for minor losses in brick and mortar stores for large online supermarkets.

British shoppers spent £1.5bn on online groceries during February 2021, with the share of online grocery sales now reaching 17%- the largest share for online grocery sales ever recorded(Hawkins, et al., 2019) The number of British households buying groceries online has grown by more than double since last year-reaching 41% compared to 18% in 2020. This is equal to 11.8m households and is a 132% increase in total sales compared to the same period last year.

1.  Sales Trends in UK Supermarkets (trends in the last 3 years)

While consumers no longer feel the need to buy online, they choose to do so as large businesses expand order delivery services (Ramanathan, et al., 2017). Even after the pandemic ends and lockdown restrictions are completely lifted, majority of the consumers are expected to buy online.

This is a major hit to brick-and-mortar businesses as they have heavily invested in ensuring the stores are safe to visit during Covid-19. The demand for small and medium businesses, seems to stagnate.

5IB004 Assignment Sample - Economics of Managerial Decision Making 2

Source: Office for National Statistics (UK) Figure: 1

Oligopoly of UK Supermarkets

2a. Leading Companies in the Supermarket Industry

Responding to Tesco scaling up its business and the rapid gains made by Aldi and Lidl last year, Sainsbury tried to merge with Walmart owned Asda. However, the merger was blocked by regulators as it would further decrease competition in the market. Morrisons, the smallest of the Big Four supermarkets, differentiates itself by owning a large food manufacturing and distribution network. It makes approximately half of the food it sells in its facility.

Marks and Spencer was traditionally known for selling clothing and homewares but its food business has become its strongest factor in recent years. It makes over £10 billion in revenue annually, with 60% coming from food, 30% from its clothing and homewares range, and the rest from its international franchisees (Benetton 2018).

Company Market Share in 2020 Market Share in 2015
Tesco 26.90% 29%
Sainsbury’s 14.90% 16.70%
Asda 13.90% 16.90%
Morrisons 10.10% 11.10%
Aldi 7.50% 4.90%
Co-op 7.40% 5.90%
Lidl 5.80% 3.50%
Waitrose 4.80% 5.20%
Iceland 2.50% 2.20%
Ocado 1.70% N/A
Other 4.60% 3.30%

Figure:2

 2b. Market Structure of Supermarkets in the UK

Undoubtedly, the UK supermarket industry is an oligopoly market- the industry fits the characteristics of an oligopoly(Zhang, et al., 2019). An oligopolistic market is one where a small number of interdependent firms compete and collude with each other (Anderton, 2008).

There are several similarities between an oligopoly and the Supermarket industry. Firstly, there are primarily four large supermarkets operating across the UK. Second, there are massive barriers to entry imposed on new firms. Thirdly, competition in the UK supermarket industry is usually in the form of non-price competition. Finally, the firms are interdependent.

For example, any decision taken by Tesco will have a direct impact on other firms. The industry has some advantages such a larger variety of products and personalised services such as the “home shopping service”(Abuzeinab, et al., 2019). However, this market structure creates a dangerous situation where consumers have no real bargaining power.

2c. Comparing Oligopoly Market against Perfectly Competitive, Monopoly and Monopolistic Competition markets.

In a Perfectly Competitive market, there exists a large number of firms such that the output of the firms is extremely small compared to the size of the entire market’s output- each firm is a price taker (Gissy, et al., 2018).

All products are homogenous, and there is perfect information (consumers are aware of market prices and firms are aware of their competitor’s moves). In an oligopoly, firms can dictate prices. While perfectly competitive markets are mostly hypothetical in nature, stock markets are a close example of a perfectly competitive market (Dunant, et al., 2017).

A monopoly market has only one seller in the market. Just like oligopoly, there are barriers to entry for new firms. There are two types of Monopoly- Single Priced and Price Discriminating Monopoly. Price discrimination allows the monopolist to charge different consumers different prices for the same product.

Governments can impose regulations on monopolists from setting high prices. Monopolists can either determine their price, or their output. Monopolies usually arise due to natural causes (it might be economically feasible to only have one firm generate electricity in a city) or patents.

Monopolistic competition markets consist of many sellers but there are several differences in their product. Apple, Samsung, OnePlus etc. all sell smartphones, yet no consumer would consider them the same due to the inherent differences in their product. Monopolistic Competition allows firms to have some control over their prices, but not as much as Oligopolistic or Monopolistic markets.

Finally, Oligopolistic markets can set prices with a fair degree of independence, but not as much as a Monopolistic market. Firms collude and take decisions based on each other’s actions. Profit margins for firms are generally in the following order- Monopoly, Oligopoly, Monopolistic Competition, and Perfect Competition (Kolding, et al., 2017).

2d. Barriers to entry in UK Supermarkets

Entry to the market was opposed by three main barriers to entry- Intense competition and low profitability in the market, economics of scale, and the lack of sites for new stores (Duke, 1989). During the 1970s, intense price-competition in the UK led to profit margins as low as 1.7 per cent- a profitability margin that was unlikely to attract new entrants.

There has been a gradual shift away from price-based competition to factor-differentiated competition in terms of quality, service, range, and convenience. Consequently, new entrants might find it easier to survive in the market.

Economies of scale are the second major barrier to entry. Supermarket chains have massive bargaining power over their ancillary firms- most notably the suppliers and the manufacturers of their food and grocery products. They can force suppliers to make them sell their products at a low price, reducing their costs of sales. This increases for firms with a larger market share. Shortage of new store sites in the UK is the third major barrier to entry.

3a. Impact of Covid-19 on Grocery Stores in the UK

When Covid-19 engulfed Europe, consumers across the country rushed to supermarkets to stockpile products and online delivery services saw a massive spike. The pandemic made us aware of the vulnerable nature of our supply chain systems. On an average, the storage capacity of a supermarket only contains a day’s worth of fresh products.

The supply chain needs better provisions for when international trade or logistics are disrupted. Every country has its comparative advantages in trade – we grow bananas in tropical areas and we grow kale in temperate areas. However, locally-produced food needs to act as a provision for any disruptions in the future.

It is a known fact that currently, supermarkets account for 95% of the grocery market in the UK. This is a major problem as their products use a small set of ingredients originating from crop varieties that either grow fast or can be efficiently produced in large quantities.

The industrialization of agricultural processes has led to large-scale environmental degradation and reliance on a small set of plant cultures that can be susceptible to certain diseases in the future. While consumers agree that local farmers must be supported, only 38% are willing to pay higher prices for locally grown food. The demand for groceries surged during the pandemic and profits rose as well.

5IB004 Assignment Sample - Economics of Managerial Decision Making 2

Figure: 3

3b. Could Tesco have performed better in the Pandemic?

In March 2020, supermarket chains in the UK feared that their systems will collapse under the stress of the panic-buying due to the news of the pandemic. Thousands of workers were requested to self-isolate as massive crowds of buyers stormed to hoard basic necessitiesfor the future.

Major chains were under the impression that food shortages could cause the society to collapse, with military intervention required to monitor the safe travel of vans carrying food across the UK. However, the condition did not deteriorate to such an extent and the UK survived the food nightmare despite the touch-and-go approach of its supermarket chains.

Tesco’s CFO, Alan Stewart noted that their business changed more in the months following the outbreak than the last ten years before that. He commended all his teams in being able to respond to the challenges quickly, putting “customers first”. Tesco is the largest supermarket chain in the UK.

Pivotal to its success during the pandemic was the company’s finance team. Rapidly implementing vast operational changes, they doubled the capacity of its online grocery shopping model in a week.

When the crisis was at its peak, Tesco recruited 50,000 new temporary staff to add to its already large workforce that was working on the frontlines- in the supermarkets, distribution centres and delivery systems.

The increased workforce ensured that the spike in demand for groceries was met with swiftly. Teams also volunteered to work in stores during the Christmas season, when the workload is at its highest level.

Could Tesco have performed better in the pandemic? Absolutely. Tesco’s shares dipped after it reported that its tremendous sales performance was offset by additional costs it incurred while hiring employees as well as ensuring its supermarkets were equipped to fight against the coronavirus.

Tesco could have cut costs by isolating frontline-employees and putting them in bio-secure bubbles- maintaining these would have been easier than recruiting new employees to replace them temporarily. Moreover, it could have been more ruthless when dealing with its white-collar workforce- it could have temporarily laid off employees that were burdening the payroll. It could provide these employees with basic necessities, free of cost. This would have been a cost minimizing and practical move.

While it would be highly immoral to raise prices significantly, Tesco could increase the prices of its products by a marginal amount which would not burden the consumer but at the same time offset the losses it occurred by returning the tax exemptions given by the UK Government. It could cite higher demand as a reason behind the increase in prices. Menu costs would be minimum as a fair bit of shopping occurs online.

More than maximizing profits, Tesco could also alternatively aim to maximize social welfare- a move which would generate global acclaim and generate profits in the long run as consumer’s trust on Tesco would rise.

Tesco could have permanently hired the 50,000 employees it hired on a temporary basis initially, instead of the 20,000 that it proceeded with. While this would have put a major stress on their payroll, the increased demand and the lure of international markets could allow Tesco to steer this financial venture to success.

4. The Future of the Supermarket Industry

The pandemic has highlighted the existent cracks in the wall of the supermarket industry. It is clear that merely adopting the most efficient and cost-minimizing methods of supply chain management can lead to a structural collapses as stores only stock the amount of supplies that are required for a particular day.

Instead, there must be a set of provisions that can temporarily sustain any spike in demand. However, predicting this spike can be difficult. Moreover, groceries require adequate warehousing and storage facilities in place to remain fresh for the use of a consumer.

Keeping these in mind, Supermarket chains in the UK have equipped for demand surges caused by sudden lockdowns in states. However, consumers have grown sensible and have not shown signs of panic-buying- something that was rampant in earlier lockdowns.

The industry is looking at steady growth in the future, as the Big-4 and other grocery chains have procured more suppliers and warehousing facilities to accommodate for changes in demand. The industry’s major players will capture the majority of the market share going forward.

Task Two

 

  1. Following the news of a global pandemic, demand for alcohol-based hand sanitizers skyrocketed, as its use prevented the spread of the Sars-CoV-2 virus. Across the world, the clearest message during the pandemic was the need for people to wash hands thoroughly and regularly.

Although soap and water was promoted as the best measure for this purpose, hand sanitizers acted as a good substitute in areas where suitable hand-washing facilities were unavailable. Hand-Sanitizers are quick and convenient (Kotios and Braithwait 2019). Consequently, the demand for hand sanitizers far exceeded the supply. The price of hand sanitizers saw a massive rise (from P1 to P2) while quantity rose from Q1 to Q2. Regulatory instruments were used by the government to keep the price artificially lower than the market-determined rate.

Hospitals, schools, home-care facilities, emergency services and other employers of essential workers (as deemed by the Government) worried that they will not be able to keep their employees safe. The chemistry departments of universities in the UK and the US used their knowledge and expertise to bridge short-term gaps between supply and demand for hand-sanitizers for essential workers and vulnerable individuals. However, there are several regulatory barriers that are to be overcome before creating hand-sanitizers.

Legal and Insurance teams notified their respective universities with issues over liability when providing hand sanitizer to local bodies. NHS hospitals and healthcare workers could only accept sanitizers that met certain compulsory and stringent requirements. Essentially, the sanitizers must have at least 70% alcohol by volume.

5IB004 Assignment Sample - Economics of Managerial Decision Making 2

Figure:4

While taking decisions, managers must understand the language of regulators and know how to use it when communicating with them. Establishing credibility when procuring or producing sanitizers is necessary. Fraudulent activity during the pandemic has led regulators to be wary of new entrants in the hand-sanitizer market. Universities, for instance, enjoy a good reputation in the UK.

Managers need to have a mixture of persistence and politeness when dealing with people both internally as well as externally. When convinced, people will go the extra mile to help out, however convincing is key. One must be clear in the motives behind one’s actions during such a crisis. Moreover, attempts of profit making must be curtailed for larger output generation.

Firms must reach out to other firms and cooperate to achieve economies of scale and the Government must waiver duties on the raw materials required to create hand-sanitizers as well as hand-sanitizers itself, reducing the burden on the producers. Managers must arrange for supply of sanitizers to essential workers free of cost, as this can create a positive image for firms in the global market and can reap dividends in the future.

  1. Price elasticity of demand is defined as the degree of responsiveness of the change in quantity demanded after a change in unit price. We consider demand to be elastic when a relatively small change in price causes a large change in quantity demanded, demand is said to be perfectly elastic when a miniscule change in price leads to an extremely large change in quantity demanded. An example for elastic demand is newspapers.

If the price of The Telegraph, a leading UK newspaper, suddenly rises, it will experience a fall in quantity demanded as individuals will simply purchase some other newspaper (such as the daily mail) (Platt, et al., 2018). On the other end of the price elasticity spectrum is relatively inelastic demand wherein a unit change in price causes a small change in quantity demanded. Perfectly inelastic demand is a case wherein change in price does not affect quantity demanded at all. Usually, a product with weak substitutes exhibit price inelasticity.

Petrol is an example of perfectly inelastic demand, as individuals require petrol to drive their vehicles- a necessity for many. There are weak substitutes to petrol such as using the metro or taking a bus. Individuals who use their vehicles generally do so as this is the only mode of transportation suitable to them.

Output (Units) Total Revenue (£) Total cost (£) Profit
(£)
Marginal Revenue (£) Marginal cost (£) Change in profit (£)
0 0 3 -3 0 3 N/A
1 6 5 1 6 2 4
2 12 8 4 6 3 3
3 18 12 6 6 4 2
4 24 17 7 6 5 1
5 30 23 7 6 6 0
6 36 30 6 6 7 -1
7 42 38 4 6 8 -2
8 48 47 1 6 9 -3

 

From the given data, it is clear that Firm 1 must produce 5 units of milk as the Marginal Revenue is equal to the Marginal Cost at this point, meaning that an increase or decrease in output will either lead to a loss or a situation where additional profit can be earned, respectively.

  1. a)
Firms

Choices

 

Pollute Does Not Pollute
Firm 1 Firm 1 receives £50,000

Firm 2 receives £50,000

Firm 1 receives £5,000

Firm 2 receives £90,000

Firm 2 Firm 1 receives £90,000

Firm 2 receives £5,000

Firm 1 receives £70,000

Firm 2 receives £70,000

  1. b) From the above payoff matrix, it is clear that just as the Prisoner’s Dilemma, both firms are incentivized to pollute as both face a major loss in payoff if they do not pollute and the other continues to do so. Hence Nash Equilibrium is for both firms to pollute and make £50,000 each.
  2. c) The cooperative outcome is if both firms decide to coordinate amongst each other and have an agreement wherein no one pollutes the planet, giving both the payoff of £70,000.
  3. d) Game Theory allows managers to make decisions by analysing a player’s moves before he/she makes it. This gives an insight on how a player will react to an action by another player and mathematically shows the most beneficial move for a firm to make in order to maximize its profit (payoff).
  4. a) If Firm 1 has £10,000 to invest and it will receive £11,000 at the end of 12 months, it should invest unless the Firm can invest in a place where it will receive a guaranteed return of investment with a rate of interest exceeding 10%, compounded annually. If the rate of interest does not vary over a period of time (or varies to an extent that the rate does not change over the total time period) than any rate of interest equal to or below 10% will either provide £11,000 or lower.

b)

  Project A Project B
Internal Rate of Return 6% 8%
Net present value 88000 61000

From the given information, we can calculate the feasibility of each project. It is clear that Project B yields a greater return on investment and should be the one in which Firm 1 invests its profits.

References

Abuzeinab, A., Arif, M. and Qadri, M.A., 2017. Barriers to MNEs green business models in the UK construction sector: An ISM analysis. Journal of cleaner production160, pp.27-37.

Benetton, M., 2018. Leverage regulation and market structure: An empirical model of the uk mortgage market. Available at SSRN 3247956.

Dunant, C.F., Drewniok, M.P., Sansom, M., Corbey, S., Allwood, J.M. and Cullen, J.M., 2017. Real and perceived barriers to steel reuse across the UK construction value chain. Resources, Conservation and Recycling126, pp.118-131.

Fagan, C., Hebson, G., Tavora, I. and Grimshaw, D., 2017. Making work more equal: A new labour market segmentation approach (p. 368). Manchester University Press.

Felbo-Kolding, J., Leschke, J. and F. Spreckelsen, T., 2019. A division of labour? Labour market segmentation by region of origin: the case of intra-EU migrants in the UK, Germany and Denmark. Journal of ethnic and migration studies45(15), pp.2820-2843.

Gissey, G.C., Dodds, P.E. and Radcliffe, J., 2018. Market and regulatory barriers to electrical energy storage innovation. Renewable and Sustainable Energy Reviews82, pp.781-790.

Kirby-Hawkins, E., Birkin, M. and Clarke, G., 2019. An investigation into the geography of corporate e-commerce sales in the UK grocery market. Environment and Planning B: Urban Analytics and City Science46(6), pp.1148-1164.

Kotios, V. and Braithwaite, A., Investigation of the supply chain impacts and opportunities for the UK of Brexit.

Lukac, M., Doerflinger, N. and Pulignano, V., 2019. Developing a cross-national comparative framework for studying labour market segmentation: Measurement equivalence with latent class analysis. Social Indicators Research145(1), pp.233-255.

Panganiban, C., The Role Management on Employee Motivation & Retention in UK Retail. Editorial Board Members, p.6.

Pavliková, M., 2018. Adaptation of Key Factors of Retail Management in Central and Eastern European Fast-moving Consumer Goods Retail Companies. CENTRAL AND EASTERN EUROPE IN THE CHANGING BUSINESS ENVIRONMENT, p.320.

Platt, D., Workman, M. and Hall, S., 2018. A novel approach to assessing the commercial opportunities for greenhouse gas removal technology value chains: developing the case for a negative emissions credit in the UK. Journal of Cleaner Production203, pp.1003-1018.

Ramanathan, U., Subramanian, N., Yu, W. and Vijaygopal, R., 2017. Impact of customer loyalty and service operations on customer behaviour and firm performance: empirical evidence from UK retail sector. Production Planning & Control28(6-8), pp.478-488.

Thurgood, J., Turrell, A., Copple, D., Djumalieva, J. and Speigner, B., 2018. Using online job vacancies to understand the UK labour market from the bottom-up.

Zhang, F.M., Devaney, S. and Nanda, A., 2019. A Network Analysis of the Transaction Liquidity of UK Commercial Property Market (No. eres2019_84). European Real Estate Society (ERES).

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