This project examines two companies whose products are common in everyday American life. These two companies are American Water and Under Armour. These two companies are very different in most aspects discussed in this project, and serve as two good examples of how private firms operate in different market conditions.
This project examines two companies whose products are common in everyday American life. These two companies are American Water and Under Armour. These two companies are very different in most aspects discussed in this project, and serve as two good examples of how private firms operate in different market conditions.
This project examines two companies whose products are common in everyday American life. These two companies are American Water and Under Armour. These two companies are very different in most aspects discussed in this project, and serve as two good examples of how private firms operate in different market conditions.
Microeconomic Analysis of American Water and Under Armour
David S. Spencer Thomas Edison State College Author Note This is the Final Project for the February 2014 term of ECO-112-OL, Microeconomics. The primary sources for the information in this project are the 2013 annual reports for the respective firms analyzed in this project. Because of this sourcing, the reports are not cited in the text but are available in the references section at the conclusion of the project. AWK AND UA 2 Microeconomic Analysis of American Water and Under Armour This project will examine two companies whose products are common in everyday American life. These two companies are American Water and Under Armour. These two companies are very different in most aspects discussed in this project, and serve as two good examples of how private firms operate in different market conditions. American Water Works Company, Inc. American Water Works Company, Inc. is a provider or water with operations throughout the United States. American Water Works Company, Inc. is commonly known as American Water and is traded on the New York Stock Exchange under the symbol AWK The remainder of this paper will refer to the company as AWK. Product This section of the project examines the primary product of AWK. AWKs primary product is the public supply of water to municipalities across the United States. AWK has a secondary business in a complementary product to public water in their wastewater operations business. AWKs water and wastewater products are primarily used by residential customers. AWKs 2013 customers breakdown to 91% residential, 7% commercial, 0.1% industrial, and 2% public sector and other customers. These numbers consider the number of customers by class, not the total consumption by customer class. Demand Factors Because of the ubiquity of AWKs product in the markets in which it participates, there are many factors that influence the demand for its primary product. These demand factors include, seasonal changes, draught, derivative demand change as an industrial factor of AWK AND UA 3 production, and derivative demand change as a factor of production for electrical power generation. The demand for water adjusts on a seasonal basis. This is easy to comprehend in everyday life as it is common for a residential water customer to use more water in the spring, summer, and fall in exterior applications than in the cold of winter conducting such activities such as lawn and garden watering, power washing, vehicle washing, and filling of pools. Lawn and garden watering activity increases even more in the heat of the summer when evaporation is high and plants require more water to survive during the course of a normal summer season. Conditions of draught can both increase or decrease the demand for AWK water depending on the severity of the draught and the reaction of government authorities to the draught conditions. In the early stages of a draught or in draughts where the water supply is not threatened, the demand for water can actually increase as consumers look to replace water that they may otherwise acquire from surface water, ground water, or collected rainfall that is reduced or non-existent during the draught. However, in cases where the draught is severe and threatens the water supply, government authorities are likely to implement water usage restrictions that reduce the overall demand for water which reduces the volume of water supplied by AWK in order to ensure that the affected areas do not run critically short of water. Water is an important factor of production in many industrial applications. Because of this importance to industry, the demand for water from industrial firms is subject to the changes in demand for the product that the industrial water customer produces. Because of this relationship, AWKs water is said to have derivative demand as a factor of production. This derivative demand relationship is also true in cases where AWK supplies the water used as a factor of production of electricity. Electrical producers require more water when they AWK AND UA 4 produce more electricity. AWK has a very limited customer base of electrical power producers. This customer set is primarily limited to peak power generation and backup power generation facilities. Supply Factors There are two primary factors of supply for AWKs public water product. They are the water itself, and the supplies used to treat and transport the water. Water For the water itself, there are two primary sources from which AWK extracts its supply. The two sources are surface water sources, and ground water sources. In addition to the natural process of the water cycle effecting the productivity of these sources, the level of contamination and pollution is also important in determining the usability of the water sources and the expense required to take the raw water through the treatment process so that it can be distributed to the public. surface water sources include rivers, streams, lakes, and man-made reservoirs. These reservoirs are generally created by damming steam systems in natural bowls. Surface water sources require significant treatment before they can be used as public water by AWK because of chemical pollution, human and animal waste, and bacteria and viruses living in the bodies of water. ground water sources of water come for water contained below the surface of the Earth in aquifers. Because of the natural filtering effect of sediments, the water contained in aquifers generally requires much less treatment than surface water sources. However the extraction of ground water sources requires expensive drilling and the continual pumping of water from sources that can be hundreds of feet below ground level. When ground water sources become AWK AND UA 5 polluted, they can remain that way permanently, sometimes reducing productivity and other times removing that site as a source of water. Ground water sources also have a natural rate of recharge. When the extraction rate is greater than the recharge rate, then the supply can become exhausted and unavailable for future exploitation. Energy and Supplies Energy is a very important factor of production for the production and distribution of AWKs primary product. The majority of AWKs operations rely on pumps of one kind or another. Stable and reliable prime power and standby power is essential to AWKs ability to move water from its source to endpoint customers through those pump systems. Energy is a variable cost present in each unit of water produced and distributed to customers. chemicals are an important factor of supply for AWK. This is especially true for the production of water that AWK extracts from surface water sources that are contaminated as described above. The chemicals used for the treatment of water are generally produced by petro- chemical firms and their price varies depending on the price of oil and of energy in the region where the chemical are produced. Besides the energy used in AWKs operations, the cost and availability of chemicals are the most variable aspect of AWKs supply operations. The pipes and other materials used to fabricate the infrastructure that moves the water from the source to the customer sites is the largest fixed cost for AWK. In many cases AWK purchases or leases this infrastructure from public utility commissions, while in other markets AWK owns and builds the infrastructure itself. In both cases, AWK is many times responsible for the maintenance and repair of water mains and other lines. AWK AND UA 6 Available Substitutes There are no readily available substitutes for AWKs primary products of public water. There are some limited cases where there is a ready substitute, but most customers do not have any other options because of the alternatives cost or because of local laws and regulations. The first possible alternative to AWKs public water service is the use of privately treated or purified water that is transported via commercial or private logistics. This could be in the form of bottled water or through bulk water deliveries. In either case, this method for supplying water is very inefficient and expensive because of the costs of capital, labor, and fuel involved in the transportation of potable water privately. Because of this difficulty and expense, these private water supplies are not considered an available substitute in AWKs market for public water. The other available substitute for AWKs public water is the use of private ground water wells. Although the initial cost of drilling and installing a well can be very expensive, there is very low maintenance costs and the marginal cost of each unit of water is very low. Despite this affordability, private wells are not considered an available substitute to AWKs public water product because private wells are not available to most AWK customers because of local regulation preventing the installation of private wells on many sites. Other customers are unable to install private wells because their property cannot support a well because of location or access and purity of the local ground water. Overall there is no substitute available to AWKs water, and because of the simplicity of the product and purity regulations, there are is no differentiation between AWKs water and any other suppliers water product. For most installations in AWKs customer set there are no available alternatives for the wastewater operations that compliment AWKs public water distribution; however, in some cases, some customers have the ability or requirement to use private septic systems instead of AWK AND UA 7 AWKs public sanity sewer and wastewater treatment. Most of these customers are located in rural or very lightly populated suburban areas. While septic systems are a substitute, they are generally considered an inferior substitute because of the expense and difficulty of maintaining septic systems and because of the local ground and groundwater pollution that improperly installed or maintained septic systems can produce. Available Complements As mentioned throughout this section of the project about AWKs products, their two primary products are compliments to one another. Public water supply is complimented by sanity sewers and wastewater treatment, while wastewater treatment is useless without a community water system to carry the waste. In addition to these two compliments available from AWK, there are other available complements produced and supplied by other firms in the economy. The generation of electrical power is a close complement to the public supply of water. Not counting that water is an input factor to most methods of generating electrical power, an increase in the consumption of water generally indicates an increase in economic activity or population that will also require an increase in the consumption of electricity. Demand Elasticity AWKs water has high elasticity in the short run because of the seasonal changes in the water usage by residential customers. This high elasticity continues into the long term as the price and availability of water do not just determine the demand curve for the customers in a given market, they can be the determining factor in the population and industrial growth in the market or community. AWK AND UA 8 Capital and Labor Intensity AWK is very capital intensive but requires very little labor to operate. AWKs production of public water is very capital intensive because AWK must build and maintain water extraction, treatment, and distribution facilities that are designed to last decades. Many of the facilities currently in use are at, or nearing, their end of life. This means that AWK or partner agencies and firms will need to invest significant capital to rebuild or refurbish public water infrastructure. Rebuilding assets that last decades is very expensive and requires charging rates that cover AWKs operating cost and the cost of investment in the infrastructure. Despite the high capital intensity, AWK is not labor intensive. AWK has only ~6600 employees while they serve a customer base of approximately three million households and firms Technology Technology, and the investment in new technology, is not important in AWKs core business of producing the public supply of water. This is because AWK is operating in a highly regulated market where in many cases AWK operates infrastructure that is owned by a public body or government. In addition the process of supplying water through a municipal system has remained constant for decades. Despite this lack of need for new technology in the core business, technology may play a greater part in the future of AWKs operations as new technology for remote water quality monitoring and the smart distribution of water through the distribution network is built into new or refurbished water systems to reduce waste in the distribution system. AWK is already using some new technology on a limited basis in some of its markets with smart meter that track the volume of usage over time to determine when there is the greatest demand for water. AWK AND UA 9 Technology and technology investment may not be vitally important in the production of AWKs product, but in AWKs annual report from 2013 expressed concern about water supply availability in some of its markets. New technology, such as recycling waste water into potable water, may be essential in the future for AWK and for draught-prone and arid communities in which AWK serves. Market Structure AWK operates as a monopoly. In most of the markets this is a government permitted monopoly providing services as a regulated utility. In the terms of the four market structures, AWK operates as a monopoly because it is the only competitor in its market and there are no available cost substitutes to its product. Under Armour Under Armour, Inc. is a producer, marketer, and distributor of branded athletic apparel headquartered in the United States with operations in North America, South America, Europe, and East Asia. Under Armour is publicly traded on the New York Stock Exchange under the symbol UA - The remainder of this paper will refer to the company as UA. Product UA produces branded athletic apparel manufactured from moisture-wicking fabrications in designs and styles engineered for a wide variety of climates and activities. UA produces products for climates from hot to sub-freezing and for activities ranging from walking and golf to running and high intensity team and individual sports. AWK AND UA 10 Demand Factors UA makes a majority of its sales through wholesale channels meaning that UA sells to retailers that then distribute UA apparel products to their retail outlets. The performance of these retail outlets affects the demand for UA products sold in those outlets. UA product demand is affected by seasonality. UA products are in much higher demand in the fall and winter as consumers demand UA apparel during the fall clothing shopping season and then continue to demand UA apparel as gifts during Christmas. UA product demand is affected by UAs ability to develop new designs, products, and materials. Demand for branded UA products declines over time as other producers produce comparable products and particular designs and styles go out of fashion. UA product demand is also affected by general consumer discretional spending. During downturns in consumer spending, UA demand will decline as UA products are not considered necessities to most consumers. Supply Factors The two primary supply factors for UA are the availability of specialty materials used in UA products and the availability and performance of third-party firms UA contracts to manufacture UA products. UA products are manufactured from specialty fabrics and other technically advanced raw materials that are developed by third parties. In the short run, these advanced and specialty materials are only available from a limited number of suppliers. Approximately half of the materials used by UA in 2013 came from just six firms. The price of these materials is further subject to price fluctuations with the fluctuation of commodity prices in petroleum and cotton. AWK AND UA 11 The availability of these materials is also subject to shortages because of the limited market for these specialty materials. The supply of UA apparel products is also determined by the availability and performance of its unaffiliated manufacturing firms UA uses to produce its products. In 2013, UA produced approximately 65% of its products in unaffiliated manufacturing firms at 26 sites in 19 different countries. UA attempts to distribute the manufacturing of single products to different sites in order to avoid a product outage because of a problem at one of its partner facilities. By using third-party firms for the manufacturing of its products, UA avoids the additional complexity in the factors of supply that large in-house manufacturing operations would present. Available Substitutes The athletic apparel market is a highly competitive market in which UA faces a great variety of available close substitutes. While no other firm can produce a branded UA athletic apparel product, hundreds of regional and global firms produce products that are close substitutes to UA athletic apparel. These include other firms producing branded athletic apparel from specialty materials such as Nike and adidas; other manufacturing firms specializing in outdoor apparel that has similar characteristics and usage as UA athletic apparel; and private label products offered by some of the retailers distributing UA products. Available Complements UA athletic apparel has a variety of available complement products available. UA athletic apparel substitutes include athletic footwear, athletic accessories, fitness software, and athletic electronics and electronic accessory sensors. AWK AND UA 12 These products are complements because increased demand for UA athletic apparel will correspond to an increase in the demand for these products that are used in complement to UA athletic apparel products in recreational, intermural, and professional individual and team athletic activities. Demand Elasticity Demand for UA athletic apparel products is highly elastic in the short run and in the long run. The short run for UA is seasonal. As stated above in the factors of demand, the demand for UA athletic apparel varies season to season. From year to year, the intensity of each season can have a substantial affect on the demand depending on that years weather severity. In the long run, UA athletic apparel remains demand remains elastic as consumers can easily reduce or eliminate their consumption of UA athletic apparel products in favor of one of the other many available substitutes in the athletic apparel and outdoor apparel markets. Capital and Labor Intensity UAs production is more labor-intensive than capital-intensive. UA began as a startup with only capital raised from the founding teams families and friends. The production of UAs products is very labor-intensive like most apparel operations; however, UA does not conduct manufacturing in-house. Instead UA uses partner firms to operate widely distributed manufacturing operations across 19 countries. If considering the eternal manufacture of UAs products outside the firms production, then UAs athletic apparel operation becomes relatively much more capital intensive. This is because of the seasonality of UA athletic apparel demand. That seasonality means that UAs revenue is inconsistent through the year. That inconsistency requires that UA hold cash in AWK AND UA 13 reserve throughout the year to prepare for the capital intensive run up to the fall season on high consumer demand for UA athletic apparel products. Technology In UAs highly competitive market of rapidly changing materials, fabrication methods, and designs, technology is extremely important in producing a branded product that can remain competitive with hundreds of competitors. Because of this importance, UA owns a limited number of fabric and process patents to protect some of the technological advantages UA products have over competition of branded and non-branded close substitute athletic apparel products. Without a technological advantage over other products, UAs brand would lose value and UA would lose the price power over their branded athletic apparel products. Market Structure UA operates in a monopolistically competitive market for branded athletic apparel. UA operates in a monopolistic and not perfect competitive market in part because there is differentiation between each firms products as a function of the difference in the material and process used in the fabrication of the products. In addition, UA is the only firm in the market hat has the right to produce its branded apparel, giving it a monopoly over those products and that brand. Because of this monopoly, UA has pricing power over its products to the degree that UA branded products can compete in the athletic apparel market. UA exists in a competitive market with hundreds of producers and thousands of retailers providing supply close substitutes. Because of this duality of branded monopoly and high competition between close substitutes, UA operates in a prototypical examine of a monopolistically competitive market. AWK AND UA 14 Prospectus and Conclusion When putting the analysis of these two very different companies together, it shows how private firms can operate to create economic wellbeing and value in vastly different market conditions. Below, this project concludes with the long term prospectus for the primary product of the two firms examined. American Water AWKs public water is essential to the economy and society in general. Because AWKs product is a necessity for all economic activity, the prospects for AWKs water are bright as long as the population and economic activity in AWKs markets continue to grow. Even if population and economic growth are taken as a given, there is the possibility of difficulty for the growth of AWKs water distribution. As noted in AWKs 2013 Annual Report, there is the possibility of future difficulty and disruption to AWKs ability to supply water to its monopoly markets because of the effects of drought, governmental restrictions, overuse of sources of water, the protection of threatened species or habitats, or other factors that may limit the availability of ground and surface water. Despite these concerns, the long term prospects for public water are very good as increased efficiency and technological advancements in production and distribution will ultimately provide the supply needed to satisfy growing demand in an ever more productive and populated society. Under Armour The prospects for UAs products are much more complicated in the long term than those of AWKs product. This complexity is due in part to the highly competitive market in which UA competes. Determining the prospects fro UAs athletic apparel products is also complicated by the importance of technology and branding in the long term success of UA products. If UA is AWK AND UA 15 able to continue to consistently create new branded products that are technologically superior to UA products close substitutes, then UA products will have a high probability of continued demand growth and penetration into new geographic markets into the future.
AWK AND UA 16 References American Water. (2013). 2013 Annual Report. Under Armour. (2013). 2013 Annual Report.