As the Times Online article below states, “Barely a year ago, The Co-operative Group was selling itself as an antidote to big business, an ethical alternative to the ruthlessness of mammon, but now it has decided to take on the Big Four supermarkets at their own game.”
So just what is the business strategy of the Co-op? Is ethical business consistent with profit maximisation? Does the takeover of Somerfield make the new Co-op a very different type of supermarket from that of a few months ago? The following articles look at the Co-op’s business strategy.
Co-op hits back with its own triple whammy Times Online, Marcus Leroux (30/11/09)
Christmas battle has started but the real test will be 2010 Telegraph, James Hall (5/12/09)
Co-op supermarket chain enjoys Somerfield boost BBC News, Will Smale (11/12/09)
See also the Co-operative group site:
The Co-operative
Questions
- What do you understand by ‘ethical business’? Would you describe the Co-op as an ethical business?
- What type of merger is the one between the Co-op and Somerfield?
- What economies of scale are likely be realised by Co-op’s takeover of Somerfield?
- What type of growth strategy is the Co-operative group pursuing?
- Is being ethical likely to slow or accelerate the expansion of the Co-op?
When we examine industries and markets in economics, one of the key things we look for is how competitive the market is. A question that we ask is, under what type of market structure is this firm operating? To answer this, we will need information on the number of competitors, the products, prices, advertising, profits, efficiency and how the firms are likely to behave in both the short and long run.
A lot of the time firms are independent: their behaviour doesn’t affect the actions of rivals. This is usually because each firm within the industry only has a relatively small market share. If one firm changes the price, or how much it spends on advertising/product development, this won’t have an impact on the market equilibrium.
However, it’s not as easy for an oligopolist, as interdependence is a key characteristic of this market structure. As such, it’s not surprising that firms have a decision to make: should they compete with the other firms and try to maximise our own profits, or should they collude and try to maximise industry profits? Whilst collusion is illegal in many countries, activities such as price fixing do go ahead and it can be difficult to prove, as the ACCC is finding with a petrol price-fixing case in Melbourne. In 49 of the 53 weeks studied, when one of the big petrol stations changed their price, the industry followed these movements exactly.
As competition in a market decreases, it could be a sign that an oligopoly is developing. A few firms are beginning to dominate the market and this could spell trouble for customers. Indeed, in the Australian banking sector, there are concerns that an oligopoly will develop if more competition is not introduced. The Deputy Chairman of the Australian Bankers’ Association said: “We’ve got four major banks that are repricing all their commercial and small business customers’ margins upwards”. Customers may therefore lose out with higher prices and less choice, while the dominant firms see their profits growing.
The market structure under which a firm is operating will have a major impact on its decisions and the outcomes in the market, as shown in the articles below.
ACCC on safe political ground in targeting the Mobil takeover The Australian Business, John Durie and Martin Collins (3/12/09)
Nippon Steel Chairman warns of Australian oligopolies Market Watch, Stephen Bell (10/11/09)
Government’s bank guarantee hurting BOQ: Libby Business Day (2/12/09)
Regulators to scrutinise BHP and Rio’s Australian joint venture Financial Times, William McNamara and Elizabeth Fry (7/12/09)
Crackdown on price fixing draws mixed reaction The Korea Herald (7/12/09)
Questions
- What are the main characteristics of an oligopoly?
- Illustrate a cartel that fixes prices and show how a member of this cartel must sell at that price and at a given quantity.
- Some factors make collusion more likely to occur and more likely to succeed. In the Australian banking sector, which factors do you think are allowing price fixing to occur?
- Is the example of petrol price fixing barometric price leadership or dominant firm price leadership? Explain both of these terms and use a diagram, where possible, to illustrate the effects.
- The articles suggest that oligopolies are bad for competition. Explain why this is the case.
- To what extent are oligopolies against the public interest? Use examples from the articles to back up your argument.
On 26 November, the water industry regulator, Ofwat, published its decisions on the price caps that will apply to all the 21 water companies covering 23 areas in England and Wales from 2010 to 2015. Despite calling for average cuts of £14 in draft proposals released back in July, Ofwat is now requiring an average cut of just £3. This still means that average water prices will be some 10 per cent lower than those sought by the water companies. Note that all these figures are in real terms: i.e. after taking inflation (or deflation) into account.
But while customers in some areas will see their bills frozen in real terms, or even significantly cut, others will see a rise in theirs. The average price change varies from a fall of 7 per cent in Wales, East Anglia and Portsmouth to a rise of 13 per cent in Essex and Suffolk. There is also variation within regions, depending on factors such as whether or not you have a water meter. Thus, in the South West, customers without a meter could see a rise in bills of 29 per cent.
Not surprisingly, Ofwat’s decisions have received mixed reactions. The water companies claim that the price cap is too high to allow them to make the necessary investment in water infrastructure, such as replacing old pipes to cut down on leakages. Water customers, on the other hand, claim that Ofwat has been ‘captured’ by the industry and, as a result, has been much too lenient.
So who is right? And is the current system of 23 separate regional monopolies, regulated through price cap regulation, the best way of structuring and running the water industry? The following articles and videos look at the issues
Ofwat delivers flat bills for customers Ofwat news release (26/11/09)
Ofwat Publishes Its Decisions Regarding The Prices To Be Charged By Water And Sewerage Companies eGov Monitor (26/11/09)
Water prices to remain flat Financial Times, William MacNamara (26/11/09)
Water bills in England and Wales to be cut (including video) BBC News (26/11/09)
Water price cuts ‘could stop leak programmes’ BBC Today Programme (26/11/09)
The Big Question: Should water bills be going down even further than they are? Independent, Martin Hickman (27/11/09)
Water boys the winners with Ofwat? Independent, James Moore (27/11/09)
Households face higher than expected water bills Telegraph, Myra Butterworth (26/11/09)
There’s trouble in the pipeline as Ofwat boss fails to spot the cracks Telegraph, Damian Reece (27/11/09)
Water bills set to drop by only £3 a year Guardian, Tim Webb (26/11/09)
Regulator must find better way to fix water prices Guardian, Nils Pratley (26/11/09)
Water regulator bows to lobbying on bill price cuts (including video) Times Online, Peter Stiff (26/11/09)
Ofwat ruling on water bills will hit millions of unmetered homes Times Online, Robin Pagnamenta (27/11/09)
Water company shares buoyant after Ofwat ruling Guardian, Market Forces blog, Nick Fletcher (26/11/09)
Severn Trent leads water company shares higher after regulator’s review Telegraph (26/11/09)
The full report can be accessed from the Ofwat site at:
Final determinations on price limits Ofwat (26/11/09)
Questions
- Is price cap regulation of the RPI–X variety the best form of regulation? Explain with reference to both incentives and the issue of uncertainty.
- Explain whether water companies are natural monopolies.
- To what extent can competition be introduced into privatised utility industries as an alternative to regulation? Is increased competition a practical alternative to price cap regulation in the water industry?
- What are the arguments for and against installing water meters in each home so that people pay per litre used rather than paying a flat charge depending on the property value?
- Explain what is meant by ‘regulatory capture’. Is there evidence of regulatory capture in the water industry? Consider with respect to the November 26 ruling.
It’s one of a declining number of UK-owned industries still left in the UK: Cadbury. However, over the past few years, mergers have become the norm and Cadbury looks set to become the next. Kraft, an American food giant, has been interested in taking over Cadbury for some time and this topic was covered on the Sloman Economics News Site at the beginning of September, when we considered Kraft’s bid of £10.2 billion. (see Cadbury: Chocolate all change). Since then Kraft shares have dropped in value and so Kraft’s current bid is now worth less: a hostile bid of £9.8 billion. This has been refused by Cadbury’s Board of Directors, calling it ‘derisory’.
From the time that Kraft’s bid was formally submitted, the stopwatch begins to tick. A 60-day period is allowed under the ‘takeover code’ which is in place to protect shareholders without resorting to a date in court. Following Kraft’s bid, Cadbury share prices immediately fell, but then began to recover as the implications became clearer. Other companies mentioned as potential rivals include Nestlé and Unilever, although, given Cadbury’s recent boost in sales, Unilever has said that it is no longer interested. So, what does the future hold for Cadbury? Will it be the latest in a long line of British companies to leave their UK owners?
Kraft’s Cadbury takeover bid will set 60-day timetabling ticking Guardian, Jill Treanor (9/11/09)
Kraft plays long game in Cadbury pursuit Reuters (9/11/09)
Cadbury rejects hostile Kraft bid BBC News (9/11/09)
Kraft facing 5pm deadline in battle for Cadbury Guardian, Julia Kollewa and Elena Moya (9/11/09)
Strong sales rise boosts Cadbury BBC News (21/10/09)
Cadbury rejects £9.8bn hostile bid from Kraft Guardian, Julia Kollewe (9/11/09)
Kraft may offer more cash in bid for Cadbury Telegraph, Amy Wilson (4/11/09)
Paulson raises Cadbury stake Guardian, Nick Fletcher(11/11/09)
Unilever rule out Cadbury bid as sales beat forecasts Telegraph, Amy Wilson (5/11/09)
Cadbury’s fight for independence BBC News, Edwin Lane (24/12/09)
Questions
- Kraft is looking to expand by taking over Cadbury. What type of takeover would you classify this as and what do you think Kraft’s motives are for this takeover bid?
- If Kraft is successful, what are the likely advantages and disadvantages for (a) consumers of Cadbury chocolate; (b) shareholders of Kraft; (c) shareholders of Cadbury; (d) competitiors?
- Cadbury has said that the £9.8bn bid was ‘derisory’. How will Kraft have decided on the price it’s willing to offer and what factors are likely to influence this?
- John Paulson has raised his stake in Cadbury by purchasing another 6.3m shares. What effect do you think this will have on Cadbury’s share price and why? Does this make the takeover by Kraft more or less likely?
- Is there a role for the Competition Commission in this possible takeover? If so, why; and if not, why not?
- Cadbury has reported a boost in sales. What effect will this have on the takeover bid from Kraft? Why has this sales boost caused Unilever to pull out?
On 11 November, the European Commission announced that it was imposing fines totalling €173 million on plastic additives producers for operating a price fixing and market sharing cartel. There were 24 companies involved in the cartel. As Competition Commissioner, Neelie Kroes, said, “These companies must learn the hard way that breaking the law does not pay and that repeat offenders will face stiffer penalties. The companies’ elaborate precautions to cover their tracks did not prevent the Commission from revealing the full extent of their determined efforts to rip-off their customers”.
An interesting feature of this particular case is that one of the companies fined is AC Treuhand, a Swiss-based consultancy company. It is not a plastics producer, but took on the role of organising the cartel. Neelie Kroes said that “the company’s Swiss premises were chosen for secret meetings of cartel participants as they were outside the EU and beyond the commission’s jurisdiction. This made it harder for the watchdog to seize documents.”
Antitrust: Commission fines plastic additives producers €173 million for price fixing and market sharing cartels Europa Press Release (11/11/09)
FACTBOX-EU fines heat stabilisers cartel 173 mln euros Reuters (11/11/09)
EU fines consultant for alleged cartel role Financial Times, Nikki Tait (11/11/09)
EU cartel fine for plastics firms BBC News (11/11/09)
EU fines plastics cartel euro173 million Forbes (11/11/09)
Questions
- What conditions must apply if a cartel is to succeed in raising prices? To what extent did these conditions apply to the plastic additives cartel?
- What powers does the European Commission have under Article 81 of the Treaty of Amsterdam? (See and also. See also page 369 in Sloman and Wride Economics 7th ed.)
- Are cartel activities necessarily against the interests of the consumer? Explain.
