MICRO-ECONOMICS ASSIGNMENT

Group 24 VINEET KHANDELWAL | FT161105 | ANKIT GUPTA | FT161016 | CHANDAN | FT161030 | KUSHAL RAVEENDRA | FT161046 |

Question Number 1:

You run a small firm. Two management consultants are offering you advice. The consultant A says that your firm is losing money on every unit that you produce. To reduce your losses, the consultant recommends that you cut back production. The consultant B says that if your firm sells some additional units, the price will more than cover your increase in costs. In order to reduce losses, the second consultant recommends that you should increase production.

1. Explain which consultant/s is/are factually true and who is offering the correct advice?

2. Explain your answers by drawing the relevant diagram/s.

On a broader view, both the consultants seem to be factually correct. The key thing is to look at the relationship between Marginal cost, average cost and the price per unit.
The first consultant is in a way right in his advice because the average cost to produce is higher than the selling price .Hence factually he is right to say to cut back production.
Since the price is greater than the marginal cost at Q1 the second consultant is also correct in saying that the increase in production will more than cover the costs incurred.
Hence taking the advice of second consultant seems more practical as it will lead to profits once if the production is increased up to a point (Q3) where the price equals marginal cost.

Question Number 2:
Competitive forces in the market ensure that today’s big firms will not remain market leaders always.

1. Using data from 1990 to 2012 for the Fortune 500 list of the top corporations in the United States, illustrate how companies fall behind when they stand still, but when they innovate they can leap ahead of the competition 2. Investigate the history of any two of today’s top 30 firms (year 2012). How quickly did they rise through the top 500 rankings?

Part a:
Let us take a look at the following companies: Category 1: Pentair, Duracell International, Savannah Foods and Industries, Shell Oil and Chrysler.
Category 2: General Motors, Exxon Mobil, Procter & Gamble and DuPont
Category 3: AT&T, Microsoft, Citigroup, J.P. Morgan Chase & Co., and Wal-Mart Stores
If we look at the categories that each company has been divided into, a look into the list of Fortune 500 companies from 1990 to 2012 will clearly define each category.
Category 1 are those companies that were listed in 1990 but do not exist in the list of fortune 500 in the 2012 list.
Category 2 are those companies which were listed in 1990 as well as in 2012
Category 3 are those companies which did not exist in 1990 but have been listed in 2012.
What does this data convey? It is clear that not every company that existed in the Fortune 500 list has stayed there forever. In fact, data shows that there are only 106 companies that are listed in both the 1990 and 2012 list. That is only 21.2% of the companies have stayed on the list. 78.8% of the companies have dropped out of this list. Some of these companies are either nonexistent, merged with other companies or just not doing well enough to be in the list.
The lessons to be learnt from this?
Steven Denning had pointed out 50 years ago that life expectancy of a firm in the Fortune 500 list is around 5 years, but now that has declined to less than 15 years and this is an ever declining number. From the consumers point of view this is a good shift as this clearly indicates that if a company has to stay ahead it has to keep on innovating and cannot stop or stand still even for a moment else it is overtaken by many others. The term coined for this type of innovation is ‘creative destruction’.

This creative destruction that consequently changes the list of Fortune 500 companies is an outcome of rigorous sales and profits that can be achieved only when companies innovate to cater their customers’ demands and needs at lower prices. Thus any company that innovates, leads the list and companies that don’t fall out. In the present world competition, companies either innovate or they die there is no middle path. Innovation need not be only product development but can also be something as trivial as supply chain innovation.
It is mentioned in the Forbes website that “Since 1955, when the first FORTUNE 500 was created, more than 1,800 companies have appeared in the list”, this is a huge number and the fact that only 500 appear shows that how many companies have come and gone from the list. Ultimately, the biggest question that every organization faces how to grow at or above the pace of their industry without losing control of their operations. Companies that successfully achieve this goal survive and the rest fall back.
Take an example of Chrysler, it was known to be one of the pioneers in the automobile industry. But, in 1970 the company started experiencing tumultuous times. Like all other automobile companies in USA, the company was relying on marketplace with cheap oil and smog-filled cities. As conditions changed, Chrysler could not adapt to those changes. Government rules prohibited US automakers forming Japanese or European style industry consortiums and Chrysler could not innovate quick enough to tackle this problem. Also it could not cope up with the anti-pollution norms of the government. Though Chrysler’s European division had the know-how to make fuel-economic and less polluting vehicles and all Chrysler had to do was to import the European technology, it failed to do so mainly because of management inefficiency.
Chrysler dropped out of the Fortune 500 list in 1998. And now majority of Chrysler is owned by FIAT.
On the other hand if we consider Hewlett-Packard, it was at 33rd position in 1990 and is at 10th position in 2012. If we look at the timeline of the company many seminal innovations happened at the company which enhanced its sales and also the stock prices. In 1960s HP is recognized as the symbolic founder of the Silicon Valley. It partnered with Sony and Yokogawa electric companies in Japan to develop high quality products. It overtook a small company, Dynac to get expertise in digital equipment. In 1970, it launched the HP 3000 which was an advanced stack-based design for business computing and later redesigned it with RISC technology. In 1980s it introduced the inkjet and laser printers for desktop. HP not only grew through innovations but also took many right managerial decisions of acquisitions that helped the company expand its horizon. This clearly indicates that innovation has to happen at all front for the companies to be successful.

Part b:
Selected two companies: Fannie Mae and Citigroup
Fannie Mae
The Federal National Mortgage Association (FNMA), commonly known as Fannie Mae is a government sponsored enterprise that was founded in 1938 during the Great depression as part of the new deal.

It was first listed in the Fortune 500 list in 1995. Initially it was ranked at 36th position and it was slowly rising higher in the rankings. However, as the graph shows it went out in the year 2004 but still made a comeback in 2010at 81st position and quickly moved to 5th position the very next year and in 2012 it is at the 8th position.

There are many factors why Fannie Mae had failed in 2000-2010 era. In fact, in 2009 it was ranked number 1 in fortune 500 magazine of top 50 Money Losers. It slowly picked up pace and in 2010 it was ranked 58 by Harris Interactive as the most visible companies.
Fannie Mae was established to provide local banks with federal money to finance home mortgages in an attempt to raise levels of home ownership and thereby increasing the availability of affordable houses. In 1999, Fannie Mae was under the pressure of the Clinton Government to expand mortgage loans to low and moderate income borrowers. The New York Times reported that Fannie Mae’s move toward the subprime market will lead to taking a significantly higher risk, which may not be so relevant during flush economic times but may run into trouble in an economic downturn. In 2003 Nassim Taleb wrote in The Black Swan that “The government-sponsored institute Fannie Mae, when I look at its risks, seems to be sitting on a barrel of dynamite, vulnerable to the slightest hiccup. But not to worry: their large staff of scientists deem these events ‘unlikely’”.
In the 2008 crisis people feared that Fannie Mae might go Bankrupt, but on September 7 2008, James Lockhart, director of Federal Housing Finance Agency, placed Fannie Mae into conservatorship and this is considered to be one of the turning points for Fannie Mae. In 2013 Fannie Mae bounced back and announced a dividend of $59.4 Billion to the US treasury.
Citigroup:
Citigroup first time appeared in the Fortune 500 list in 1995 at 37th position, today it is at the 20th position in the list.

Citigroup has the largest network of financial services in 140 countries and nearly 16,000 offices and more than 200 million account holders. Like all the financial services Citigroup suffered a major setback in the 2008 financial crisis, and was rescued by the US government with a stimulus package. In 2009 it converted US $25 billion in emergency aid to common stock with US treasury credit line of $45 billion and prevented bankruptcy of the world’s largest bank. They did not hesitate to cut the salary of their CEO as low as $1 per year in exchange for the government guarantee of more than $300 billion on losses. Year on year the Citigroup recovered and reduced the stake of the US government and finally in 2010, Citigroup paid off all its debt and regained its full status.
The rise of the company can be attributed majorly to the innovative management decisions and their on the toes thinking regarding mergers and sell offs.

Question Number 3:
Part a:
From the observed data for Carrie, It can be concluded that Profit is maximum at 5000 copies. More and less photocopies will leads to less profit than profit at 5000 photocopies. So Carrie should sell 5000 number of photocopies per month. Number of Photocopies Per Month | Total Cost | Fixed Cost | Variable Cost | Total Revenue.05* Number of Copies | ProfitIn Dollar | 0 | 100 | 100 | 0 | 0 | -100 | 1000 | 110 | 100 | 10 | 50 | -60 | 2000 | 125 | 100 | 25 | 100 | -25 | 3000 | 145 | 100 | 45 | 150 | 5 | 4000 | 175 | 100 | 75 | 200 | 25 | 5000 | 215 | 100 | 115 | 250 | 35 | 6000 | 285 | 100 | 185 | 300 | 15 |

Part b:
If lease rate per month is increased by $50, it will affect total cost. By analyzing the data we can conclude that at increased lease prize Carrie will bear loss in every situation. Earlier sell of 5000 copies was the maximum profit case but now it is minimum loss case. Carrie should look towards the alternate option rather than to lease a photocopy machine. Number of Photocopies Per Month | Total CostIncluding increased lease | Total Revenue.05* Number of Copies | ProfitIn Dollar | 0 | 150 | 0 | -150 | 1000 | 160 | 50 | -110 | 2000 | 175 | 100 | -75 | 3000 | 195 | 150 | -45 | 4000 | 225 | 200 | -25 | 5000 | 265 | 250 | -15 | 6000 | 335 | 300 | -35 |