Long-Term Investment Decisions
Assume that the low-calorie frozen, microwavable food company from Assignments 1 and 2 wants to expand, and has to make some long-term capital budgeting decisions. The company is currently facing increases in the costs of major ingredients.
Use the Internet and school databases to research government policies and regulation.
- Outline a plan that managers in the low-calorie, frozen microwaveable food company could follow in anticipation of raising prices when selecting pricing strategies for making their products’ response to a change in price less elastic. Provide a rationale for your response.
- Examine the major effects that government policies have on production and employment. Predict the potential effects that government policies could have on your company.
- Determine whether or not government regulation to ensure fairness in the low-calorie, frozen microwavable food industry is needed. Cite the major reasons for government involvement in a market economy. Provide two (2) examples of government involvement in a similar market economy to support your response.
- Examine the major complexities that would arise under expansion via capital projects. Propose key actions that the company could take in order to prevent or address these complexities.
- Suggest the substantive manner in which the company could create a convergence between the interests of stockholders and managers. Indicate the most likely impact to profitability of such a convergence. Provide two (2) examples of instances that support your response.
- Use at least five (5) quality academic resources in this assignment. Note: Wikipedia does not qualify as an academic resource.
The specific course learning outcomes associated with this assignment are:
- Propose how differences in demand and elasticity lead managers to develop various pricing strategies.
- Analyze the economic impact of contracting, governance and organizational form within organizations.
- Use technology and information resources to research issues in managerial economics and globalization.
- Write clearly and concisely about managerial economics and globalization using proper writing mechanics.
Long-Term Investment Decisions
Price elasticity is a measure of the responsiveness of the quantity demanded to changes in its price. The company faces a tricky situation in the future characterized by increasing costs of major ingredients and the need to expand the production capacity. In addition to this, the company anticipates to raise prices but with little impact to the elasticity of demand. If the company significantly raises prices in response to the rising cost of major ingredients, it is likely to experience a higher elasticity of demand. However, this may not occur if the company faces an inelastic demand situation. This could be due to lack of suitable alternatives, high quality of customer service, excellent after sale services, or other reasons that bind consumers to the product leading to high customer loyalty.
Various factors influence the elasticity of demand for a company’s product with regard to changes in price. According to Morris, Pitt, and Honeycutt (2001), there are several key factors that influence the elasticity of demand. These include availability of substitutes, product differentiation, customer switching costs, complexity of products, tendency to associate higher price with quality, and among others. Availability of substitutes increases the elasticity of demand (Morris, Pitt, and Honeycutt, 2001). When a product has a high degree of differentiation, customers may be unwilling to shift to rival products. In such a case, the demand for the product would be inelastic. High switching costs may lead to low product elasticity since the customers may be unable to shift to rival products due to prohibitory prices (Morris, Pitt, and Honeycutt, 2001). The complexity of a product can lower its elasticity. Lastly, the tendency to associate the higher price of a product with quality may lead to inelasticity of demand with respect to changes in price.
From the discussion above, the company can utilize a few options to raise prices in the future and expect a less elastic change in product demand. The key option is to consider a product differentiation strategy. If the consumers perceive the company’s product as different from the rest, they may be willing to pay a premium for the difference. A number of differentiation techniques are available. These include differentiation by advertising, product properties, packaging, product name, and price (Wilson & Bates, 2003). In this case, differentiation by means of packaging and in product properties may work best for the company. A differentiation strategy would allow the company to raise price and retain a large share of the current customers. Another alternative is to create an impression of higher quality with improving price (Wilson & Bates, 2003). In such a case, the customers may associate the higher price with improvements in quality, leading do demand inelasticity with increase in price.
The government has significant impact on production and employment levels in the country. The government controls production and employment through various initiatives. First, the government determines the monetary policy in the economy (Wheeler & World Bank Group, 2004). The monetary policy in place has significant effects on production and employment levels. The monetary policy is about regulating the liquidity or the money supply in the economy. The major goal of monetary policy is to control inflation in the economy. Another goal is to reduce unemployment in the economy. The government applies an expansionary monetary policy to increase employment rates in the country. On the other hand, a contractionary monetary policy helps in reducing inflation (Wheeler & World Bank Group, 2004). The government also employs monetary policy to control production activities. For instance, a contractionary policy decreases the amount of money available for borrowing by raising the interest rates. This reduces production activities in the economy since there is less money available for borrowing.
Another major effect of government on production and employment is though the fiscal policy. Fiscal policies involve government spending and taxation levels (Wheeler & World Bank Group, 2004). The fiscal policies directly influence economic growth of the country. Fiscal policies also influence the money supply in the economy. The government may lower taxes in a particular industry to encourage more investment. The government may also lower taxes as a way of cushioning firms against harsh economic conditions. Lower taxes encourage production and may lead to high employment levels. On the other hand, higher taxes discourage investment and make the products more expensive (Wheeler & World Bank Group, 2004). This may discourage consumption of the products leading to lower production. The government can also use taxation to cushion local industries from imported goods. This may encourage local industries to increase production.
The government may provide subsidies or other incentives to producers to encourage production. Subsidies are grants made to producers. Subsidies may be in form of cash payments or tax cuts (Wheeler & World Bank Group, 2004). The effect of subsidies is improved production. The government facilitates the production of goods and services by providing public goods. These include things such as transportation infrastructure, communication networks, road networks, railway networks, postal services, social services, and among others. By delivering these goods and services, firms can be able to obtain raw materials from suppliers and deliver the finished products to the market.
Government regulation to ensure fairness in the low-calorie, frozen microwaveable food industry is critical. The government has a major regulatory role in business. In particular, the government outlines the boundaries of the private sector. There are several reasons why the government should be involved in the market economy. First, government regulation helps in curtailing the formation of monopolies in the market (Sharma & Singh, (n.d). If private companies operate on their own, their owners may opt to form mergers creating monopolies that control the entire market. Such monopolies may engage in negative practices such as creating artificial shortages in order to raise the price of goods even further. Such pricing practices may be harmful to the consumers. Monopolies also lack incentives for cutting costs or innovativeness.
Another reason for government regulation is to ensure balanced regional growth. This involves ensuring an even distribution of firms across the country to support a balanced development of all states (Sharma & Singh, (n.d). The government may provide incentives for firms to operate from a specific location. The government plays a supportive role to business ventures. This involves ensuring the success of businesses for the benefit of the nation at large. The government may achieve this by lowering taxes, imposing restrictions on imports, putting price ceilings and price floors, licensing, and through other means. The government also ensures there is no dumping of products into the country. Dumping of cheap products may cause local industries to collapse. This ensures the success of small business ventures that may not be able to compete with large international firms.
Another reason for involvement in the market economy is to enhance the quality and safety of products. The government outlines quality and safety standards for foods. Lastly, the government oversees the standardization of the public and private sector (Sharma & Singh, (n.d). This is by developing a code of conduct and norms in the industry. An example of government involvement is in the fishing industry. The government involves itself in this industry because if firms were left on their own, they are likely to make decisions based on self-interests. For instance, they are likely to engage in overfishing leading to depletion of fish stocks. Another example is the merger between Kraft and Heinz which critics fear may lead to development of monopolistic powers.
There are certain complexities that arise under expansion via capital projects. One of the major complexities is the source of additional capital for expanding. There are two main methods of raising capital for the business: debt financing and equity financing. Debt financing involves taking loans while equity financing involves selling stock to investors. The organizational leadership may fail to agree on the particular method to use in financing. This is because each method has its own unique challenges and benefits. Failure to repay debts may ruin the reputation of the business thus compromising on future creditworthy of the business. On the other hand, equity financing requires sharing of profits with investors and may see the owners lose part of control of the business. Expansion via capital projects is risky. This is because the business makes a significant investment with the possibility that things may go wrong.
Expansion via capital projects is costly and the business may face difficulties in accessing financing (Culp, 2012). In addition, the business may face challenges in managing capital projects. For instance, the business may face strained relationships with the contractors and other participant. Another complexity is the numerous regulations guiding capital projects such as health regulations, environmental impact regulations, and safety regulations (Culp, 2012). All these regulations increase the riskiness of capital projects. For instance, the local authorities may stop a capital project on the basis that it poses a risk to the environment. Closely related is the risk of fatal disruptions upon capital projects (Culp, 2012). This refers to major disruptions that may force the business to abandon the project. Another complexity involving capital projects is the lack of clear timelines and budgets. Capital projects may go beyond the stipulated timeframe or require more resources than the budget. This may lead to incomplete projects.
The company could take a number of actions in order to prevent these complexities. First, the company management should decide on the most appropriate financing model by analyzing various risk factors associated with each model. Secondly, the management should carefully examine the risks associated with the capital project to determine whether it is worthy pursuing the project. This could be through conduct a cost-benefit analysis to establish whether the benefits outweigh the costs. Proper governance of the capital project can also help in eliminating various risks such as fatal disruptions and difficult relations with partners and contractors (Culp, 2012). The company should introduce a strong governance structure for the capital project.
The company may create a convergence between the interests of the stockholders and managers through several ways. The first way is to involve the board of directors (Hill, Jones, & Schilling, 2014). The board of directors acts as the centerpiece of organizational governance. The stockholders elect the board of directors to represent their interests in the organization. Through the board of directors, the stockholders have an assurance that the management may not make decisions that may negatively affect them and in a significant way. The board of directors can apply sanctions in a situation whereby the management goes against stockholder interests. Another strategy is to apply stock-based compensation for managers (Hill, Jones, & Schilling, 2014). Stock-based compensation is a payment system whereby the managers receive salaries or other benefits basing on the stock prices. This encourages managers to strategies that enhance the long-term profitability and growth of the firm.
Another way of encouraging convergence between the interests of stockholders and the managers is by applying the takeover constraint. This relates the power held by shareholders by virtue of owning shares (Hill, Jones, & Schilling, 2014). If the shareholders sell their shares in large numbers, the company’s share price may decline. This may increase the threat of an acquisition by another company. The managers may not want such a situation to occur. As such, they may heed to stockholder interest if they note their decisions as having negative impacts on the stock price. Lastly, the company may encourage stakeholder and manager interest convergence through the financial statements (Hill, Jones, & Schilling, 2014). By filing accurate and true financial statements, the stockholders can be able to ascertain the extent to which management decisions looked upon their interests.
A convergence between stockholder and management interests is more likely to improve the profitability of the company in the long-term. This is because the management will focus more on creating value for the shareholders rather than focusing more on their stakes. For instance, the management will focus on improving stock price to short-term profitability. The first example shows how critical the board of directors is to the company, albeit in a scenario where the board fails to make the correct decisions. A report by Abelson (2002) indicates that Enron’s board of directors was instrumental in bringing the company down. This is because the board colluded with the management to keep a significant portion of the debt from the books. Another example relates to WorldCom, Inc. Following a fraud incident, the board of directors formed a special team to spearhead investigations (Trautman, 2017). The special team had no relations with the management, but was acting on behalf of the stockholders.
Abelson, R. (2002, Jan. 19). Enron’s collapse: the directors; one Enron inquiry suggests Board played important role. The New York Times.
Culp, S. (2012, May 29). Managing capital projects in a high-risk world. Forbes.
Hill, C. W., Jones, G. R., & Schilling, M. A. (2014). Strategic management: theory: an integrated approach. Boston, MA: Cengage Learning.
Morris, M. H., Pitt, L., & Honeycutt, E. D. J. (2001). Business-to-Business Marketing: A Strategic Approach. Thousand Oaks: Sage Publications, Inc.
Sharma, C. S., & Singh, R. K. (n.d). Business environment: role of the government in business. Institute of Lifelong Learning, University of Delhi.
Trautman, L. J. (2017). The Board’s Responsibility for Crisis Governance. Hastings Business Law Journal, 13(3), 274-350. Available at SSRN: https://ssrn.com/abstract=2623219 or http://dx.doi.org/10.2139/ssrn.26+23219
Wheeler, G., & World Bank Group. (2004). Sound practice in government debt management. Washington, D.C: World Bank.
Wilson, P., & Bates, S. (2003). The essential guide to managing small business growth. Chichester: Wiley.