Suggested Answer to Question 2 (ACJC) 2.

According to the data from market research firm Euromonitor International in 2010, FairPrice has 48.1 per cent of the market share, measured by total sales. Dairy Fairm (Giant, Shop and Save, Cold Storage) follows with 21.7 per cent and Sheng Shiong has 16.5 per cent. (a) Explain the type of market structure that supermarket chains are likely to operate in. [10] (b) Comment on whether price competition should be the primary business strategy for supermarket chains. [15] Part (a) Explain the key features of an oligopoly with application to the supermarket industry in Singapore. Supermarket chains are an example of oligopoly due to the following characteristics: Characteristics 1. Few and large firms in the market due to strong barriers to entry Strong barriers to entry due to high start-up costs and the dominating firms in the industry enjoys substantial economies of scale and are able to supply at a low price. As a result of the high barriers to entry, there are only a few large firms in the industry with FairPrice having the biggest market share of 48.1%. 2. Large market share The 3 main firms in the industry (FairPrice, Dairy farm and Sheng Siong) have 86.3% of the market share. 3. Differentiated products and services Each supermarket tried to differentiate themselves from each other. Eg: of differentiated products o Housebrands: Cold Storage house brands (No Frills and First Choice) caters to consumers who wants good quality imported products but am not willing to pay for the more expensive brands. They have house brands on cheese, pasta sauces, sausages, potato chips and even wine. On the other hand, NTUC house brands (FairPrice, FairPrice Gold, FairPrice Pasar and Budget) cater to consumers who wants cheaper alternative to their essential products. They have house brand products mainly on necessities such as rice and sugar. o Source and variety: Cold Storage focuses on an upscale market which brings in imports from more exotic westernized locations. On the other hand, Sheng Shiong focuses on heartland location and has an extensive live seafood section. Eg: of differentiated services o Giant has free in-store delivery services while certain FairPrice outlets (Jurong Point, Clementi) and Cold Storage outlets (Holland Village) are open for 24 hours.

4. Interdependence in both pricing and non-pricing decisions Supermarket chains are interdependent in their pricing decisions for manufacturers brands that are similar. For instance, when FairPrice slash prices for their SIS sugar, Shop N Save follow suit. Supermarket chains are interdependent in their non-pricing decisions as well. o When NTUC started their consumer loyalty program like NTUC link-points that allows consumers to accumulate points to redeem vouchers, Dairy farm also have their consumer loyalty program like Passion Card. o When Dairy farm caters to the upmarket consumers through Market Place where gourmet meats and Japanese products are sold, NTUC launched NTUC finest which sells more international brands and organic produce to cater to the upmarket consumers. 5. Supernormal profits made in the long run Existence of supernormal profits made in long run possible due to few large firms with each firm having substantial market share. The presence of strong barrier to entry prevents new firms from entering and erodes the supernormal profit. (b) Comment on whether price competition should be the primary business strategy for supermarket chains. Key ideas 1. Explain how price competition works to increase profits. 2. Explain why price competition may not be the better primary strategy for supermarket chains. 3. Explain why non price competition gain larger market share and earn more profits 4. Explain why cost reducing strategies earn more profits 5. Evaluate under what circumstances price competition should be the primary business strategy for supermarket chains. Introduction The goal of a firm is to maximise profits. Supermarket chains adopt a variety of strategies to increase its total sales revenue and reduce its total costs. 1. Explain how price competition works to increase profits Supermarket chains often give discounts for basic common manufacturers products to encourage consumers to buy more of the products. A fall in prices lower than that sold by rival supermarkets increase the quantity demanded of the products more than proportionally and increases its sales revenue in the short term. For example, when NTUC set the price of Fab detergent (common manufacturers product found in other supermarket as well) lower thant hat of other rival supermarket, the sales of the product at NTUC will increase more than proportionately (Fab detergent have other close substitutes and hence the demand of its detergent is price elastic) and increases the sales revenue for NTUC. 2. Explain why price competition may not be the better primary strategy for supermarket chains.

However, due to the interdependence of supermarket chains in the oligopoly market, a fall in prices of products will cause the rival supermarket chains to follow suit. Such price war will lower total revenue. Demand is price elastic in nature. Such price competition is often featured in newspapers where various supermarkets advertised their price promotion and offer discounts for basic manufacturers products. Due to the element of interdependency, price competition may not be a good strategy for supermarket to earn higher profits in the long term. EV: There is a limit to how much the price can be lowered. Supermarket cannot lower price beyond the fixed price set by manufacturers. 3. Explain why non price competition gain larger market share and earn more profits. As a result, supermarket chains often use more non-price competition strategies to gain a larger market share and earn more profits. Examples of non price competition Advertising Supermarket chains often advertise their brands and project different image to customers. o Eg: Cold Storage is projected to be more international. It carries more imported goods from Europe, Japan and Korea that cannot be found in other supermarkets. On the other hand, Sheng Siong is projected to be more family friendly. It carries more brands from developing countries like China, India and Malaysia. o Eg: The slogan for Cold Storage is The fresh food people. Its trying to portray an image that freshness and quality of the products is of utmost importance to its supermarket. On the other hand, NTUC Finests slogan is Bringing the fine life closer to you. Its trying to project the image of selling upmarket items in the heartlands.

Loyalty programs Supermarket chains may give rebates and loyalty points to encourage consumers to shop in the same supermarket. Eg: Dairy Farm (Cold Storage, Shop and Save, Giant and Market Place) consumers earns one point for every dollar spent. They can redeem a $10 voucher with 1,500 points. Likewise, FairPrice gives 10% discounts off housebrands for its members and rebates given yearly where members can exchange for vouchers and products. Supermarket chains also tied up with other credit card companies to offer more rebates and loyalty points. Eg: NTUC tied up with OCBC and come up with NTUC Plus! credit and debit cards. Cold Storage also tied up with HSBC and come up with the Choice card. Non price competition differentiates the supermarket from its competitor and helps the supermarket gain a higher and more price inelastic demand. This enables the supermarket to earn higher profit margins as shown in Figure 1 below. 3

Revenue / Cost

MC AR1 MR1 A B AR MR
Qty

AC

As shown in Figure 1, the demand of the supermarket shifts to the right and becomes more price inelastic. (AR to AR1). Assuming that the cost conditions remain the same, supermarkets can earn high profits compared to before. (Area A is bigger than Area B).

4. Explain why cost reducing strategies earn more profits. Besides non price competition, supermarkets can use cost reducing strategies to lower cost and earn higher profits. Eg: of cost reducing strategies Source for cheaper suppliers Increase the number of outlets. Expansion enables supermarkets to economies of scale. Eg: Supermarkets enjoyed marketing economies of when they do bulk purchase of products. Marginal and average cost is when supermarkets enjoyed EOS. Such cost reducing strategies supermarket lower their total costs and increase their profit margins.

enjoy scale lower helps

Conclusion 5. Evaluate under what circumstances price competition should be the primary business strategy for supermarket chains. Price competition does not seem like a good strategy for profit maximising supermarkets given the interdependence nature of oligopoly. However, supermarkets can still practice price competition in the short term to increase sales. (Eg: price promotion on weekends to encourage more shoppers to shop for groceries.) They can also practice price competition for perishable products (eg fruits and vegetables) to clear stocks before their expiry date. Profit maximising supermarket chains use both revenue increasing strategies (both price and non price competition) and cost reducing strategies to maximise profits. However in some circumstances, price competition should be the primary business strategy especially for new supermarkets that aims to increase their market share. In this case, their objective is to increase market share and hence it means sense for them to adopt price competition.