Attachments for AIFAROOQ786: Ethics and Strategic Planning Paper 700-900 words

October 5, 2015

Differentiating Between Market Structures

A market structure in simple terms is the collection of factors that determine how different buyers and sellers in a market interact. Further, the term also deals with how market prices of goods and services change, and how production and selling processes come together in a particular market. The paper that follows aims to identify the market structure in which the selected company operates and the strategies that may be adopted by the organization to become more competitive based on the identified market structure ("Market Structure", n.d.).

Company and Industry

The company selected for the following paper and market analysis is Shell Oil Company (“Shell”). Shell is one of the world’s leading energy and petrochemical company and today has over 94,000 employees in more than 70 countries. The business of Shell is divided into four sub-divisions namely upstream international, upstream Americas, downstream and projects and technology. In terms of business units, Shell is divided into five business units including exploration, development and extraction, manufacturing and energy production, transport and trading and sales ("Shell Global - Our Business", n.d.).

The industry in which Shell operates is oil and energy. This industry has a large number of players in the market; however, the major supply in the oil and energy industry is dominated by a few large players. Major players in this market include Saudi Aramco, Gazprom, National Iranian Oil Company, ExxonMobil, Petro China, BP, and Royal Dutch Shell (Forbes, Worlds Largest Oil Companies, 2015).

Market Structures

Within the economic framework, four major types of market structures have been identified namely monopoly, oligopoly, monopolistic, and perfect competition. The different market structures are differentiated based upon the number of buyers and sellers within the market, the level of competition that exists, and the power enjoyed by the supplier and the buyer. Characteristics of each of the different market structures are presented in the sections below (Baurnoll, n.d.). Monopoly, in simple terms, is a market structure that is dominated by a single large supplier i.e. a pure monopoly. However, in terms of regulations applicable in many countries, a monopoly is referred to as a market structure where one supplier has almost 25% of the market share. Reasons for the existence of monopolies include suppliers having patents, copyrights, or exclusive ownership of a particular resource. The overriding aspect of a monopoly is its ability to generate supernormal profits using its monopoly power.

Oligopoly, on the other hand, is a market structure where the market share is distributed between a few players in the market. Oligopolies can be identified by using either concentration ratios, i.e. the ratios of the market share of the players in the market or by using the HHI index. Industries with higher concentration ratios are identified as oligopolies. Key characteristics of this market are the interdependence of the market players and higher barriers to entry.

Monopolistic competition is a further movement away from the oligopoly structure and, in essence, is a market where firms are profit maximizes. There are low barriers to entry, and there are a larger number of sellers with each having some degree of market power.

At the end of the spectrum of market structure that began with a monopoly is perfect competition. Perfect competition is the exact opposite of a monopoly. More specifically, a perfect competition market is one where competition is at the highest level, with no barriers to entry, and every supplier in the industry is a price taker.

Company market structure

As explained above, Shell operates within the oil and energy industry. This industry has features that are quite unique, allowing identification of the market structure of the industry. More specifically, Shell operates in an industry dominated by a few large suppliers namely Aramco and ExxonMobil. Further, in terms of substitutes, the consumer of the industry does not currently have many options and, hence, a greater power is enjoyed by the suppliers.

The major reasons for high concentration ratios in the industry in which Shell operates include economies of scales enjoyed by companies already in business, elimination of weaker companies as a rest of business cycle (especially the latest slump in oil prices), and barriers to entry. Based upon these factors, the oil industry (the market in which Shell operates) is an oligopoly (Berger, 1988).

Demand function

Based on the identified market structure for the organization, the demand curve for products will be kinked, i.e. the demand curve faced by Shell will be such that it is divided into two distinct segments. The upper segment of the demand curve will be highly elastic; whereas the lower part of the demand curve will be much more inelastic. The reasons for the highly inelastic demand faced by the organization can be traced back to the interdependence of market players within an oligopoly structure.

More specifically, in the market structure that Shell operates, a decline in price by one organization is likely to be followed by a decline in price by others in the industry leading to an overall level of lower prices and, hence, an overall loss for the industry. The opposite will happen if one player in the market increases its prices where it is highly likely that others will not follow. That company is then likely to lose its market share (David, n.d.).

Business strategies

Based on the identified market structure and the demand curve faced by the organizations, including Shell, one thing is clear, in order to increase its market share and, hence its profitability, Shell cannot and should not involve itself in a strategy that is based on price competition. Price competition is not suitable since the impact of any such competition or strategy is highly dependent on the actions taken by other players in the market ("Oligopoly", n.d.).

The strategies that are suitable for Shell include collusion, the formation of a cartel, or the development of non-price based strategies. The first strategy - collusion - is one that has been seen in the oil industry for years. In this strategy, major players in the market come together and agree not to indulge in price wars and maintain higher prices to protect their sales volumes.

The second strategy that the company may follow is the formation of a cartel. A cartel is an official contract between the players in an oligopoly where they agree to set a price that will be charged by all the players. It also specifies the sales quota for each player. One of the major examples of a cartel in the oil industry is OPEC.

Lastly, the strategy that is aligned with my values and is suitable for Shell, is based on non-price competition i.e. the company should pursue a strategy that uses a combination of product development and advertisement in order to develop a strong brand which in turn allows it to charge premium prices and, hence, increase its profits. This strategy is a key part of Shell’s current company strategy as it attempts to strengthen its brand.

Within the non-price based strategy, Shell should pursue greater levels of technological innovation. Given the current decline in oil prices, this strategy is essential. Shell’s success in future will be determined by how successful it has been in bringing about innovation, the way it does business, and how its technological advancement brings down its cost to do business. This success will include innovation in project management, financial management, and development, as well as application of newer engineering mechanisms and technology sales ("Shell Global - Our Strategy", n.d.).

Of the three strategies described above, the first two raise ethical and legal concerns. More specifically, although may benefit the company profits, any form of collusion and cartels will ultimately harm the consumer in the form of higher prices and lower levels of supply. Aside from being unethical, the strategies of the formation of a cartel and that of collusion do not fall in line with Shell’s values. Shell’s long-term strategy clearly highlights the importance it places on the social and environmental footprint it leaves. More specifically, Shell has aimed to meet growing global energy demands in a way that will minimize the negative social and environmental impacts. Shell’s aim, therefore, is inconsistent with the aim of a strategy based on the formation of a cartel or collusion.

Conclusion

Based upon market structure analysis, it is concluded that Shell Company operates in an oligopoly market structure and, as such, it is important that it increases long-term profitability based upon non-price strategies and should involve itself in ethically and legally questionable practices.

References