Introduction To Business Economics

Business Economics
Faculty:
Prof. Sunitha Raju
Session Date: 13.07.2014
Introduction to Business Economics

MBA(IB) Weekend 2014-17
Business Economics/ Session: 1
Business Decision Making Why?
Economic system operates under certain guiding
principles
Scarcity & trade-offs (choice)
Rationality and the Decision making at the Margin
Rule based (incentives)
Markets and Organisation of Economic Activity

Allocation Issues for a firm
Optimise resource use
Efficient pricing
Maximise profits/ value
Business Decision Making
Applications
1. A global carmaker produces and sells in different geographic
regions.
Produces in home country and in foreign subsidiary
Sells in domestic market and foreign market
Needs to determine prices and production
2. An IT company proposes to enter a new market, Europe
Identifying country location, cost of establishing office, wage cost, quality of
customer service, likely demand
Needs to carry out economic forecasting
3. Pharmaceutical Company decision of investing in R & D
Assess the riskiness of the investment commercial success
Assess the production costs
Assess the potential competition
4. Conforming to government regulation- environmental, Pricing

Market Framework for Firms
Pricing
(i) Demand and Supply factors determine market
price

(ii) Price always tends toward equilibrium

Supply and Demand Shifts and
Effect on Prices

No change An increase in A decrease in
in supply supply supply

No change P same P down P up
in Demand Q same Q up Q down

An increase P up P ambiguous P up
in Demand Q up Q up Q ambiguous

A decrease P down P down P ambiguous
in Demand Q down Q ambiguous Q down

Price: Economic Properties

Measure of scarcity

Signals to both consumers and producers for efficient
decision making

Determined in markets where demand and supply forces
interact

Price Controls lead to Market distortions

Categories of Goods & Services
Private Goods Collective
goods (Theater)
(Car or Coke)
Commons Public Goods
(Ocean Fishery) (National Defense)

Rival Consumption
Yes No

E
x
c
l
u
s
i
o
n

N
o

Y
e
s

Business Firms Decisions

Objective of Profit Maximisation
Total Revenue and Total Cost
What to supply, How much to supply and Where to supply

Pricing Decision issues
Product demand and Supply curves
Efficient price and Output
Markets and Price level

A Systematic Approach to Pricing
Price Environment
Price Determination
Price Strategy

Structure of Car Sector
YEAR/
COMPANY
HML PAL MARUTI
MS PAT
(RS. LAKHS)
MS PAT
(RS. LAKHS)
MS PAT
(RS. LAKHS)
1983-84 52.9 NA 46.2 610 - -
1985-86 23.4 NA 29.1 1146 47.0 300
1989-90 15.9 272.5 23.6 1717 60.4 4194
1991-92 12.6 (1820.4) 18.77** (169.7) 68.8 3539*
1992-93 15.7 (3049.5) 11.3 NA 69.5 3661
1993-94 12.4 1756 11.9 (2241) 72.4 13600*
1994-95 9.8 NA 10.5 NA 75 NA
HML : HINDUSTAN MOTORS LIMITED
PAL : PREMIER AUTOMOBILE LIMITED
MS : MARKET SHARE
PAT : PROFIT AFTER TAX
: PROFIT BEFORE TAX (PBT)
** : FOR 9 MONTHS
Steps in Business Decision
Making
1. Define the Problem
Identifying the context or setting
Context has a bearing on Objective and Course of Action
2. Determine the Objective
Objective of profit or Other?
Barometer of Performance
Benefit-Cost analysis
3. Explore the Alternatives
4. Predict the Consequences
Economic modelling
5. Choice based on Sensitivity Analysis

Decision Making Framework of a
Firm
Business and Social Environment
Technology
Production Capacity
Worker Knowledge
Communications
Capability
Research and
Development
Market Environment
Customer Demand
Level of Competition
Supplier Capability
Legal Environment
Tax Burden
Regulatory Policy
Trade Policy
Competitive Strategy
Product Choice
Pricing Strategy
Promotion Strategy
Organisation Design
Assignment of Decision Rights
Match Worker Incentives with
Managerial Motive
Decision Management and control
Pay for Performance
Worker Pay for Performance
Divisional Pay for Performance
Management Pay for Performance
Shareholder Value Maximization
Theory of Firm Some Basics
Based on the objective of Project Maximisation

Transaction Costs (uncertainty, asset-specificity)
Market vs. non-market issues for organising a business activity

Reducing transaction costs by incentivising employees
(trade-off)
bonuses, perquisites, stock options
Modern Corporation : Principal Agent
Problem
Owners & Managers of firm differ with different
objectives
Profit maximisation is constrained by limited
information available to managers
Optimisation vs. satisfying
Alternate theories of firm
Value maximisation
Firm and Goals (1)
Basis of Corporate Strategy
what products/services will firm offer for sale?
who will be the firms customers?
what should the firm continue to do or plan to abandon?
how does the firms strategy align with the market and
competitive realities?
how should a firm compete against its market rivals?

Firm and Goals (2)
Trade-offs among Alternate goals
To pursue short run profits or long run profits
To improve profit margins or increase market share
To increase penetration of existing markets or enter new markets
To diversify into related products or into unrelated products
To seek faster growth or stability
Firm and Goals (3)
Firms Strategic Alternatives
Concentration on a single business
Vertical integration
Horizontal integration
Diversification
Joint ventures
Innovation

Profit Maximisation
Compensatory and functional theories of profit
Frictional and Monopoly theories of profit
Technology and Innovation theories of profit

Introduction To Business Economics

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