Please enable JavaScript.

Coggle requires JavaScript to display documents.

CHAPTER 7: THE NATURE OF INDUSTRY (OVERVIEW OF THE REMAINDER OF THE BOOK…

- - - - The larger the firms, the greater the output ~ easy to make decision.
    - - Measure of Industry Concentration
        
        Concentration Ratio - measure how much of the total output in an industry is produced by the largest firms in that industry.
        
        used: Four-Firm Concentration Ratio (C4)
        ~ the fraction of total industry sales generated by the four firms in the industry.
        
        Let S1, S2, S3, S4 ~ 4 largest firms in the industry.
        ST ~ total sales of the firms in an industry.
        
        C4 = (S1 + S2 + S3 + S4) / ST
        = (w1 + w2 + w3 + w4
        where: w1 = S1/ST
        w2 = S2/ST
        w3 = S3/ST
        w4 = S4/ST
      - Limitations of Concentration Measures
      - The Concentration of U.S. Industry
      - The four-Firm Concentration ratio is:
        
        Close to zero (0) ~ when an industry is composed of a very larger member of firms. (each of which is very small
        Close to 1 ~ when 4 or fewer forms produce all of an industry's output.
        
        The closer to zero (0), the less concentration is the industry.
        
        The closer to 1, the more concentration is the industry.
      - Eg: An industry is composed of 6 firms, 4 firms have sales of $10 each, 2 firms have sales of $5 each. What is the Four-Firm Concentration Ratio for this industry?
        Answer:
        
        Total industry sales, ST = ($10 x 4) + ($5 x 2) = $50
        Total sales of the four largest firms, $10 x 4 = $40
        Four-Firm Concentration Ratio, C4 = 40/50 = 0.8
        
        This means that the 4 largest firms in the industry account for 80% of the total industry output.
        ~ more concentrated in industry.
- - - - Conglomerate Mergers
        
        integration of different product lines into a single firm.
        Eg: ~ cigarette maker and a cookie manufacturer
        ~ Davidoff
        
        similar to Horizontal Integration - a merger of the final product into a single firm, but the final product is NOT related.
        
        with CM, can improve the firm's cash flow where revenues divided from 1 product line can be used to generate working capital when the Dd for another product is low.
        
        this can reduce the variability of final earning and enhance the firm's ability too to obtain funds.
      - Horizontal Integration
        
        refer to the merging of the production of similar products into a single firm.
        Eg: 2 computer firms merged into a single firm.
      - Vertical Integration
        
        situation where various stages in the productions of a single product are carried out in a single firm.
        Eg: Automobile manufacturer
        
        produce its own steel > uses the steel to make car bodies > sell an automobile using its vendor.
        
        vertical merger: integration of 2 or more firms that produce a component for a single product to reduce the transaction cost.
      - Different Between VI and HI
        VI: involves the merging of 2 or more phases of production into a single firm.
        HI: involves merging of 2 or more final products into a single firm.
        
        VI:
        
        reduces the transaction cost.
        
        HI:
        
        to enjoy the cost-saving of economies of scale/scope.
        
        to enhance its market power.
        
        reduce the number of firm that compete in the product market. (increase four-firm concentration ratio)
        
        social benefits
    - - to gain a technology advantage.
        
        to increase revenue of an industry.
    - - Firms in some industries change higher mark-up prices than others.
        
        used LERNER INDEX
        ~ a measure of the difference between price and MC as a fraction of the product price.
        
        Lerner Index, L = (P - MC)/P
        Markup factor is 1/(1 - L)
        
        When firms set its price = MC ~ L = 0
        [consumer pay a price for the product that exactly = the cost to the firm of producing another unit of the goods]
        
        When firms set its price > MC ~ L > 0
        [consumer pay a price for the product > a cost to produce another unit of goods]
        
        The higher the LERNER INDEX, the greater the firms Markup.
      - Eg: A firm in the airline industry has a marginal cost of $200 and charges price of $300. What is the Lerner Index and markup factor.?
        
        Answer:
        
        The Lerner Index, L = (P - MC)/P
        = (300-200)/300
        =1/3
        The Markup factor, 1/(1 - L))
        = 1/(1 - 1/3)
        = 1.5
        
        show that the L = 1/3, mean that for each $1, $0.3 is markup.
        
        Markup factor is 1.5, mean that the price is 1.5 time the actual MC.
    - - vary across firms in different industries.
        
        increase revenue by using the advertising.