Subject: ECO511Subject name: Economics for BusinessName: Saiman ShresthaStudent Number: 11648698Lecturer: MarufMostafaWord limit: – 2000Due date: 1stJanuary, 2018 In recenttimes as consumers have been afforded multitude of choices in particularmarkets thanks to various reasons such as increase in their disposable income,exposure to the internet and globalization, companies have invested billions inresearch and development to keep up with the changes in customer preferences.
Similarto any other industry, the modern automotive firms have to constantly evolve inorder to survive under constant cutthroat competition. It is often said that “necessityis the mother of all inventions”. However, firms in industry spearheaded mostlyby technology have been face with the need to adopt a proactive model bycreating segments of necessities for customers rather than responding to theirnecessities. As argued by Bolton (1993), firms either, underperforming orflourishing, always find the need for innovation to be constant for respectivereasons. So, to withstand the perpetual outward pressure of the customers,competing firms and environmental advocates regarding different aspects of theproducts such as safety, design, reliability, quality etcetera, themanufacturers rely on its Research and Development team for innovation toovercome such challenges (Howell & Hsu, 2002). It is essential to explorethe nature of the competition in the market before identifying the reasonsbehind companies’ strategical decisions.
In this report will be the analysis ofreal companies and raw data comparison as well as rationale behind their needfor innovation.AnalysisThe scaleof competition invited by the surge in demands for cars is such that the carmanufacturers have found margin of error to be non-existent in their attemptsat increasing market shares through product differentiation. Manufacturersachieve this product differentiation by standing out amongst the competitionwhich allows them to make profit both in the short run and the long run.Depending on the type of market they operate in and the level of competition,the cost associated with product differentiation can vary. As the modern carmarket is a highly saturated one with many competing manufacturers whosecustomers have access to comprehensive, albeit not perfect, information aboutthe specifications, prices, quality, we can render the modern car market to be amonopolistically competitive one (Salop, 1979).Whendiscussing about whether a firm can generate profit in the long run bydifferentiating its product in the market, it simply boils down to the type ofmarket in which it operates. For instance, producers of everyday items such asgrocery items can earn regular income in short run without having to increasetheir cost of production on advertising as a result of homogeneity of theproducts.
However, due to the presence of close substitutions, producers mighthave to lower their prices to keep their products competitive in the market.Moreover, firms in competitive markets concede the ability to set prices solelyto the market forces (demand and supply). So, as they try to undercut rivalsfor profit, their attempts backfires as the rivals match their prices promptly(Bourdon, 1992).MonopolisticcompetitionHart(1985), defines monopolistic competition as,A situationwhere (1) there are many firms producing differentiated commodities ; (2) eachfirm is negligible, in the sense that it can ignore its impact on, and hencereactions from, other firms ; (3) free entry leads to zero profit of operatingfirms ; but (4) each firm faces a downward-sloping demand curve and henceequilibrium price exceeds marginal cost. (p. 529)Much likein perfect competition, the entry and exit into the market is easy and hencehave only partial control over the pricing.
However, what others do is not ofmuch concern to the firms and prices are not interdependent so firms set theirown prices. Furthermore, customers do have access to information about theproducts but it is unlikely to be perfect.How productdifferentiation occursIn amonopolistic competition, firms can find the need for product differentiationto be indispensable especially in the long-run. This is because as existingmanufacturers generate profit in short run as a result of monopoly oroligopoly, more new firms will get attracted to that market due to low barriersto entry and the firm’s profit will suffer in the long run.
Productdifferentiation is a source of competitive advantage for firms in amonopolistic competition and is achieved by featuring characteristics such asquality, flexibility and reliability of delivery (Baines & Langfield-Smith,2003). Through product differentiation, firms can make their productsphysically stand out by making use of appearance, performance, conformance, durabilityand reparability. Marketing is another tool of product differentiation and itcan have varying impact depending on the scale of promotion. Firms can also integratetheir brand marketing with Corporate Social Responsibility which will attractpositive attention from environmentalists.The majoreffect of product differentiation for a firm is that, in short run, it can enjoymore profit than its counterparts in the market as a result of temporarymonopoly. At this point, there will be profit maximization (MC=MR) because thedemand is inelastic I.e. the demand curve lies above the Average Total CostCurve (ATC) (fig 1).
Hence, the firm can charge at prices above marginal costs(fig 1). In time however, due to low entry barriers, other firms will enter themarket looking to earn economic profit and the demand curve starts to shift tothe right (fig 2). At this point, due to intense competition, firms will stopearning profit and just break-even. So in order to correct this problem, firms willinvest heavily on product differentiation primarily through product alterationand aggressive product marketing. If successful, the firm can regain its lostmarket shares effectively shifting its demand curve back to the right. However,as established earlier in this report, companies who tend to overcome thissituation do so by making timely adjustments in their production and marketingstrategies before their profits start falling down.Figure 1 Figure2 Apple’siPhone is one of the household names in the mobile phone market. Even though ithas such a huge customer base worldwide, the presence of a large number ofother cellphone companies means that it cannot always rely on its brand name toattract customers.
Hence, Apple has sought to produce differentiated batches ofproducts regularly to keep its customers excited. Apple designs its newproducts in such a way that the new iPhone is an upgrade on not only its ownolder model but on all the other cellphone models in the market in terms ofsecurity, endurance and durability, battery lifespan, aesthetics, cameraetcetera. After spending so much on product development, Apple does not spareany costs on advertisements as well regularly hiring marquee Hollywoodcelebrities to promote its products. Apple’s confidence in reaping profitsafter spending so much on product differentiation shows the need for perpetualinnovation to stay a step ahead of its close competitors.Product development in carindustry Moving onto the case of car manufacturers and why more and more new models of cars arebeing introduced to the market. The demands for cars worldwide has been on theup as more and more customers are looking to buy quality products at lowerprices. This fact can be reflected on the Australian car front where in 2016,for the third year in a row, there was a new car sales record with an increaseof 2% over the preceding year’s sales (“RECORD SALES YEAR FOR 2016 |Federal Chamber of Automotive Industries”, 2017).
With increase in demandsfor cars, companies are under constant pressure to meet expectations fromcustomers regarding the product’s quality, safety, durability, post salesservice. In addition, environmental concerns from vehicular emission poses asubstantial challenge for firms. Failure to meet these expectations at minimumcould mean that the firm could be driven off from the market. Theresponsibility of incorporating all the necessary new features and innovationwith the business strategy before rolling them out into the market falls on thefirm’s R. Beforediscussing examples of firms today who are making use of product development asa differentiation tool, we should look at an example of General Motors whofaced financial difficulties in the early 90’s because it failed to continue onits product innovation and needed a strategic reshuffle.
This was as opposed to what GM had been doinghistorically on the innovation front which saw them pioneer features such asspeedometer, auto transmission, crash-test dummies, integrate chassis system toname a few (Howell, 2000). Toyota and Volkswagenare two of the biggest players in the current car market with the two rivallingeach other across various product markets. Among the influx of Toyota and VWmodels rolling out yearly in the market, Toyota Prius V and Volkswagen Golf aretwo of the more popular models. References Baines, A., & Langfield-Smith, K.
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(1993). Organizational Innovation and SubstandardPerformance: When is Necessity the Mother of Innovation?. OrganizationScience, 4(1), 57-75. http://dx.doi.org/10.1287/orsc.
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