MANAGERIAL ECONOMICS

- McDonalds

Name: Lubna Shaikh Class: FYBMS-B Roll No.: 102

INDEX
Sr. No. 1. 2. 3. 4. 5. 6. 7. 8. 9. Topic Page No.

Abstract Objective Data Collected Introduction Analysis of the Company Market Structure Studying the Market Structure Conclusion Bibliography

3 3 3 4 5 7 8 12 13

Page | 2

ABSTRACT
Our topic is to select a certain product or service, identify the market structure it belongs to and state why the product or service that I have selected belongs to that particular market structure. I have selected McDonalds Burgers as my product. I have briefly explained what McDonalds is and what position it holds in present global markets. I have identified the market structure and analysed it and explained it in great detail along with graphs and tables.

OBJECTIVES
The objectives of this project are: To test our analytical skills. To understand the working of a particular product and the market structure it belongs to.

DATA COLLECTED
The source of the data utilized herein is secondary, inclusive of websites, online surveys and newspaper articles.

Page | 3

INTRODUCTION
Im lovin it
Ever read this anywhere? Im sure you have! This slogan not only brings about a smile on little childrens faces but people of all generations. This slogan comes from the all time favourite fast food jointMcDonalds. McDonalds Corporation is the worlds largest hamburger fast food chain of restaurants. It serves over 64 million people in 119 countries all over the world. The company began its operations in 1940 and has its headquarters in the United States. It also started its franchisee operations in 1955. It operates over 33,000 outlets all over the world and satisfies the needs of customers depending on every region. With the expansion of McDonald's into many international markets, the company has become a symbol of globalization and the spread of the American way of life. Its prominence has also made it a frequent topic of public debates about obesity, corporate ethics and consumer responsibility. In this project youll be reading about McDonalds and its growth, the market structure it belongs to and a detailed study of the particular type of market structure along with a number of graphs and tables.

Page | 4

ANALYSIS OF THE COMPANY

If a person thinks about a burger it thinks about McDonalds. This is the kind of influence it has over the people of this world. McDonalds began its operations in 1940 and since then it has been the leader in serving fast food to millions of people over the world. McDonalds is also known for coming up with a variety of new products every now and then. Quick facts about McDonalds: Opened a number of Drive-Thru restaurants for customers that are always in a hurry. Kiosks outside of restaurants so that people could quickly pick up their parcels. Opened restaurants on highways, bus stations and railway stations to cater to hungry travellers. Opened 24 hour restaurants and also disabled friendly. Constant introduction of new and improved products. Opened play grounds for children. Also takes an active part in social service for the benefits of the unfortunate. McDonald's restaurant is operated by a franchisee, an affiliate, or the corporation itself. Around 1.7 million employees all over the world.

McDonalds in India
Over the years McDonalds India has made its mark in our market with great ease. Theyre not only friendly towards Indian cultures but also to its customers and employees. It does not serve beef and pork only in India. It started its operations in India in 1996 and since then has managed to open 200 outlets. In India it is in a 50-50 joint venture with McDonalds Corporation (US) and two businessmen Amit Jatia and Vikram Bakshi. McDonalds currently owns 235 restaurants spread over 45 cities in our country. They plan to set up around 50-60 more restaurants in this year by investing Rs. 300 crores in the Indian markets. They also have plans to set up pure vegetarian restaurants as the majority of our population is vegetarian.
It really doesnt make sense to sell beef in a country where 85% of the population doesnt eat it or will even shun a restaurant where beef is served -Vikram Bakshi

The reasons behind this massive growth in India: A locally owned company: In India McDonalds is a joint venture managed by two Indians. For 15 years now McDonalds has enjoyed leadership in food service retailing in India. Local Sourcing is the key to Indian products: McDonalds India is committed to sourcing almost all of its products from within India itself. Every raw material required has been supplied from India except potatoes for the French Fries. However, this too is now being supplied from Himachal Pradesh and Gujurat.

Page | 5

Respects for the Indian customs and cultures: McDonald's worldwide is well known for the high degree of respect to the local culture. McDonald's has developed a menu especially for India with vegetarian selections to suit Indian tastes and culture. In line with its respect for local culture, India is the first country in the world where McDonalds does not offer any beef or pork items. McDonald's has also re-engineered its operations to address the special requirements of vegetarians. Special care is taken to ensure that the vegetable products are prepared separately, using dedicated equipment and utensils. So much so that the mayonnaise and the soft serve are also 100% vegetarian. Also in India, only vegetable oil is used as a cooking medium. An Employer of Opportunity: McDonald's India is an employer of opportunity, providing quality employment and long-term careers to the Indian people. The average McDonald's restaurant employs 60-80 people from crew to restaurant manager. They also provide world class training to its employees. Quality, Service, Cleanliness and Value: McDonalds motto is to provide Quality, Service, Cleanliness and Value for money. This means that they focus on providing our customers high quality products, served quickly with a smile, in a clean and pleasant environment at an affordable price. Community Partnership McDonald's believes in giving back to the community it serves. Wherever McDonald's goes, it becomes a part of the community it operates in and contributes towards the development of the locality. This year (2011) there would be a 30% jump in the turnover. We have also set a target to double our revenue every three years. - Vikram Bakshi

Page | 6

MARKET STRUCTURE
There are various types of market structures. However McDonalds is an OLIGOPOLY. Oligopoly is a type of market which comes under IMPERFECT COMPETITION. Imperfect competition is when a firm has too much control over the market of a particular good or service and can therefore charge more than its market value. When the market for a certain good or service doesn't have very many competitors, the sole or few firms control the market. An oligopoly is a market dominated by a few large suppliers. The degree of market concentration is very high (i.e. a large % of the market is taken up by the leading firms). Firms within an oligopoly produce branded products (advertising and marketing is an important feature of competition within such markets) and there are also barriers to entry. Another important characteristic of an oligopoly is the existence of interdependence between the firms. One firm has to keep in mind the likely reactions of other firms in the market when making pricing and investment decisions. This creates uncertainty in such markets. The ongoing interdependence between businesses can lead to implicit and explicit collusion between the major firms. Key features of an Oligopoly: Few firms selling similar products. Eg.) McDonalds, Burger King, White Castle All these three companies have burgers as their main product. Each firm produces branded products. They have their own powerful market name. The above three examples are well known food companies offering their products world over. Likely to be significant entry barriers in the long run which allows firms to make super normal profits. As of now McDonalds is the leading company where fast food is concerned. Burger King has not yet been given the permission to enter in our market despite many efforts therefore McDonalds has been able to earn large amount of profits due to lack of competition. Interdependence between competing firms. Businesses have to take into action likely reactions of other firms to changes in price and output. KFC and McDonalds are two competing oligopolies in the worlds market. A change in the price of a product in McDonalds will have an impact on KFC. This should be duly noted by McDonalds.

Price Leadership in Oligopolistic Markets When one firm has a dominant position in the market the oligopoly may experience price leadership. The firms with lower market shares may simply follow the pricing changes prompted by the dominant firms. This can be seen in the McDonalds and KFC example because McDonalds has a greater market share than KFC.

Page | 7

STUDYING THE MARKET STRUCTURE

To really understand an oligopoly type of market structure it is first important to understand what is a market structure. The interconnected characteristics of a market, such as the number and relative strength of buyers and sellers and degree of collusion among them, level and forms of competition, extent of product differentiation, and ease of entry into and exit from the market. There are different types of market structures that exist.

Comparison Of Market Structures

Market Structure
Perfect Competition Monopoly Monopolistic Competition Oligopoly

Number of Sellers
Large One Many Few

Type of Product
Homogenous Unique Differentiated Homogenous or Differentiated

Entry Condition
Very easy Impossible Easy Difficult

Pricing
Price Taker Price Maker Price Maker Price Maker

OLIGOPOLY
An oligopoly is a market dominated by a few producers, each of which has control over the market. It is an industry where there is a high level of market concentration. However, oligopoly is best defined by the conduct (or behaviour) of firms within a market rather than its market structure. The concentration ratio measures the extent to which a market or industry is dominated by a few leading firms. Normally an oligopoly exists when the top five firms in the market account for more than 60% of total market demand/sales. If in an oligopoly market, the firms compete with each other, it is called a non-collusive, or non-cooperative oligopoly. If the firm cooperate with each other in determining price or output or both, it is called collusive oligopoly, or cooperative oligopoly. Mutual interdependence means that firms realize the effects of their actions on rivals and the reactions such actions are likely to elicit. For instance, a mutually interdependent firm realizes that its price drops are more likely to be matched by rivals than its price increases. This implies that an oligopolist, especially in the case of a homogeneous oligopoly, will try to maintain current prices, since price changes in either direction can be harmful, or at least not beneficial. Consequently, there is a kink in the demand curve because there are asymmetric responses to a firm's price increases and to its price decreases; that is, rivals match price falls but not price increases. This leads to "sticky prices," such that prices in an oligopoly turn out to be more stable than those in monopoly or in competition; that is, they do not change every time costs change.

Page | 8

The Kinked Demand Curve Model of an Oligopoly:

The kinked demand curve model developed first by the economist Paul Sweezy assumes that a business might face a dual demand curve for its product based on the likely reactions of other firms in the market to a change in its price or another variable. The common assumption of the theory is that firms in an oligopoly are looking to protect and maintain their market share and that rival firms are unlikely to match anothers price increase but may match a price fall. i.e. rival firms within an oligopoly react asymmetrically to a change in the price of another firm.

If a business raises price and others leave their prices constant, then we can expect quite a large substitution effect away from this firm making demand relatively price elastic. The business would then lose market share and expect to see a fall in its total revenue. If a business reduces price but other firms follow suit, the relative price change is much smaller and demand would be inelastic in respect of the price change. Cutting prices when demand is inelastic also leads to a fall in total revenue with little or no effect on market share. The kinked demand curve model therefore makes a prediction that a business might reach a stable profitmaximising equilibrium at price P1 and output Q1 and have little incentive to alter prices. The kinked demand curve model predicts periods of relative price stability under an oligopoly with businesses focusing on non-price competition as a means of reinforcing their market position and increasing their supernormal profits.

Price and Output Decisions for an Oligopolist:

Mutual interdependence among firms in an oligopoly makes this market structure more difficult to analyze than perfect competition, monopoly and monopolistic competition. The price-output decision is not simply a matter of charging a price where Marginal Revenue (MR) = Marginal Cost (MC). Making price and output decisions in an oligopoly is like playing a game of chess. One players move depends on the anticipated reactions of the opposing player. Likewise, a firm in an oligopoly can have many different possible reactions to the price, non price and output changes of another firm. Consequently there are four different models that cover all cases. They are as follows:

Page | 9

1. Non-price competition:
Non-price competition assumes increased importance in oligopolistic markets. Non-price competition involves advertising and marketing strategies to increase demand and develop brand loyalty among consumers. Businesses will use other policies to increase market share: Better quality of service including guaranteed delivery times for consumers and low-cost servicing agreements Longer opening hours for retailers, 24 hour telephone and online customer support Extended warranties on new products Discounts on product upgrades when they become available in the market Contractual relationships with suppliers - for example the system of tied houses for pubs and contractual agreements with franchises (exclusive distribution agreements) Advertising spending runs in millions for many firms. Some simply apply a profit maximising rule to their marketing strategies. A promotional campaign is profitable if the marginal revenue from any extra sales exceeds the cost of the advertising campaign and marginal costs of producing an increase in output. However, it is not always easy to measure accurately the incremental sales arising from a specific advertising campaign. Other businesses see advertising simply as a way of increasing sales revenue. If persuasive advertising leads to an outward shift in demand, consumers are willing to pay more for each unit consumed. This increases the potential consumer surplus that a business might extract.

2. Price Leadership:
Without formal agreement, firms can play a game of follow the leader that economists call price leadership. Price leadership is a pricing strategy in which a dominant firm sets the price of an industry and the other firms follow. Following this tactic firms in an industry simply match the price changes of perhaps but not necessarily the biggest firms. Price leadership is very common. Eg.) McDonalds enjoys price leadership in the fast food industry.

3. The Cartel:
Firms avoid price wars by informally playing by the established pricing rules. Another way to avoid price wars is for oligopolists to agree to a peace treaty. Instead of avoiding mutual interdependence to lead to rivalry, firms openly or secretly conspire to form a monopoly called a CARTEL. A cartel is a group of firms that formally agree to control the price and output of a product. The goal of a cartel is to reap monopoly profits by replacing competition with cooperation.

4. Game theory:
Game theory is generally known as the analysis of the interaction between multiple individuals in the decision making process. Game theory is the study of how people behave in strategic situations (i.e. when they must consider the effect of other peoples responses to their own actions). In an oligopoly, each company knows that its profits depend on actions of other firms. This gives rise to the "prisoners dilemma". The prisoners' dilemma is a particular game that illustrated why it is difficult to cooperate, even when it is in the best interest of both parties. Both players select their own dominant strategies for short-sighted personal gain. Eventually, they reach an equilibrium in which they are both worse off than they would have been, if they could both agree to select an alternative (non-dominant) strategy.

Page | 10

Equilibrium Price in Oligopoly:

Buyers want a commodity at the lowest price and sellers want to sell the commodity at the highest price. Price is determined at the levels where the forces of demand and supply are balanced. The price so determined in known as the equilibrium price. At this equilibrium price the quantity demanded is equal to the quantity supplied. Once a Kink in the demand curve is known and given, oligopoly equilibrium automatically follows. The point of Kink such as E is itself an equilibrium point. Moreover, such equilibrium is rigid and stable. There is no incentive on the part of the oligopolist to move away from the point of Kink. Any attempt on his part either to lower or raise the price will not be to his advantage. In this figure there are two demand curves, DED, which is flatter and more flexible and D1ED1, which is steeper and less flexible. The two demand curves interest at point E which itself is a point of Kink. The upper portion of the flatter demand curve DE and the lower portion of the steeper demand curve ED1 together make up the Kinked Demand Curve. Once we locate the point of Kink there is no further problem in oligopoly analysis. The point of Kink, E, is itself an equilibrium point. At such a point, equilibrium output produced is Q and price charged is P.

Revenue Pattern in Oligopoly:

The total revenue in an oligopoly increases at a decreasing rate. This is because in an oligopoly which is an imperfect market the prices have to be reduced in order to increase sale. But even reduction in prices does not lead to huge expansion in demand this is because the demand in inelastic Therefore as the output goes on increasing the price of the product keeps falling and therefore the revenue of the product increases at a diminishing rate and it eventually begins to fall.

Average revenue is equal to total revenue / number of units. Therefore the behavior of the average revenue is the same as that of the total revenue. The average revenue increases at a diminishing rate initially but eventually begins to decrease. It can at most fall to zero. However it can never be negative because the price of a commodity cannot be negative. Marginal revenue falls continuously, becomes zero at a certain point and it eventually becomes negative.

Page | 11

CONCLUSION
Understanding market structures and their importance is of utmost importance while studying an economy. The findings and studies carried out in order to get this project together have helped clear my views about market structures. It has made me aware of the various features each possesses and what roles they play in the working of not only a particular industry but also the whole economy. Also, the completion of this project has now made it easy for me to classify various products and services into different market structures. Doing this particular project has helped me to a great extent.

Page | 12

BIBILIOGRAPHY
http://www.businessdictionary.com/definition/market-structure.html http://en.wikipedia.org/wiki/McDonald's http://www.basiceconomics.info/oligopoly-market-structure.php http://examples.yourdictionary.com/oligopoly-examples.html http://moneyterms.co.uk/oligopoly/ http://www.aboutmcdonalds.com/mcd/our_company.html http://books.google.co.in/books?id=GcQ7WS3ERXUC&pg=PA187&dq=what+is+an+oligopoly?&hl=en&ei=Plq9TsSlG MnVrQfa_9XWAQ&sa=X&oi=book_result&ct=result&resnum=1&ved=0CC4Q6AEwAA#v=onepage&q=what%20is%20 an%20oligopoly%3F&f=true http://tutor2u.net/economics/revision-notes/a2-micro-oligopoly-overview.html http://www-math.mit.edu/phase2/UJM/vol1/SHAH-F.PDF http://tutor2u.net/economics/revision-notes/a2-micro-market-structures-summary.html http://www.pinkmonkey.com/studyguides/subjects/eco/chap12/e1212103.asp

Page | 13