Effect Of Price Drop On Demand & Profit Of Business

Effect of Price Drop on Profit of Business

Question:

Discuss About The Margin Case Of Certain Good And Industries?

Business is not a static entity as it goes on changing its operations and behavior according to the need of the system. it changes its  policy such as pricing policy, management policy and others to increase the sale of the business and earn maximum revenue. However, while formulating the policy the business requires to analyze the effect on various types of goods it supplies in the market and he perception of the consumer regarding the goods. The profit of an organization differs according to the demand for its products in the marketing. On the other hand, the demand for the product depends on its price as well as other factors. The report discusses the effect of price drop on the demand for various products and its effect on the profit of the organization. It further compares whether a drop in price has same effect on various kinds goods and industry.

Previous literature has given an argumentative discussion about the effect of price drop on the demand of the product and in turn on the total profit of the business. Here are literatures that show that a drop in price need not necessarily increase demand for the product and profit of the firm. According to Hill et al. (2017), a decrease in the price of the product does leads to increase in demand for the product for a short period. This is because slowly in the end, other competitor industry will adjust their product prices and the demand for the product is spread which lowers the sale volume. Thus, in other words it has been stated that with a drop in prices a company will make profit in the short run and its profit margin decreases in the long run. However, it has be further argued by Chen et al. (2017) it is not always necessary that a fall in price for goods will increase the demand for the product and profit for the firm. This is because a market is affected by various factors and variable and in order to estimate the effect of price change in the market it is necessary to analyze the market trend and reaction of the market.

Timpson  (2017) has put forward similar discussion that fall in price does not always mean that there will be an increase in profit. This is because sometimes a fall in price reduces the value of the product conceived in the mind of the consumers causing a decrease in price rather than demand. However, Maverick (2014) has argued that a decrease in price always means an increase in the profit and sale of the business. The author stated this condition to be true on the condition that market variables are steady.

Effect of Price Drop on Demand for Various Goods

According to the general principle of demand, it is stated that with a fall in price of the good the demand for that good rises in the market. This is turn increase the profit margin of an organization (Mankiw 2014). However, it is seen that there are various good in the market and the importance of those goods to type consumers differ for various factors. The goods preset in the market are luxury goods, Giffen goods, necessity goods, inferior goods and other. The effect on demand due to fall in price differs for these goods. For instance, luxury goods are goods that are consumed by the people as a symbol of status and richness. It is not a necessity for the consumers and hence a fall in price of such good will not affect its demand largely. An example of luxury goods is diamond jewelry that is wore by the consumers to show their status and class. Thus, a decrease in price of diamond jewelry will not encourage people to buy more of that jewelry (Reis 2015). The consumers that wear diamonds will still prefer it even at a high price. This proves that demand for luxury goods does not change with a change in price. Hence, it is seen that for organization selling luxury good, the profit margin does not change even with a drop in prices. This also supports he arguments put forward by Timpson  (2017) regarding the conceived value of the goods by the consumers.

The law of demand can also be applied on various goods such as Giffen goods, necessity good, substitute goods and normal goods. For Giffen good the law of demand does not apply as it is considered as one of the exception to the law of demand. Giffen good are goods for which the demand falls with a fall in price. This is because Giffen goods are inferior quality goods and are mostly consumed by lower income group people. Thus with a fall in price of these goods, the consumers shifts their demand for some better kinds of goods that has become affordable now (Landi 2015). Thus, for such goods the profit does not increases with a fall in prices. On the other hand, necessity goods are goods without which the consumer cannot think their life. Thus, a fall in prices does not have any effect on the demand for such goods. This is because with a fall in price the consumers accounting consume more of such goods even if it is a necessity. For example, medicine is an example of necessity goods and thus, medicine business does not enjoy much increase in profit with a drop in price. However, only in case of normal good a business can make profit with an increase in demand due to a fall in price. An example of such goods is clothes, shoes and others. however, there are other factors such as market trend that does reduces the profit margin of such goods to some extent.

Effect of Price Drop on Demand for Various Industries

The increase in demand for goods with a fall in price also differs across various industries. This is because with a fall in price of some branded company or industry makes the consumer lower the value of their products and thus reducing the demand further (Timpson  2017). For example, most of companies in sport industry are branded and a fall in prices of their products makes the consumers feel that they have lowered the quality of shoes they manufacture. Thus, consumers are forced to cut down the demand for the shoes manufactured by shoes companies. On the other hand, a decrease in price of grocery industry does increase the demand for such goods because people tend to buy more and store it for longer period and causing an increase in profit margin of such industry. This shows that the change in demand with a fall in prices also differs according to the type of industry the company is engaged in. this difference also depends on the thinking of consumers regarding such goods and their relation with the price. Moreover, the industry having large number of substitute of its good will not receive an increase in profit for a longer time from a fall in its price as there are competitors that will slowly adjust their prices in the market.  For branded goods, consumers have a different mindset and for grocery goods, they have a different mindset causing the differences in demand and profit margin.

The theory of law of demand applies differently between the consumers and the business. This is because a good for which the consumer thinks is a necessity good and it will not change its demand depending on the price. For the same good, the business might think that a fall in the price of its goods might increase the demand and profit margin. Thus, differences in the application of theory between both the entities are influenced by the perception of the consumers and the businesspersons. Moreover, the differences also arise due to lack of information transfer between the consumers and the producers. a fully informed producer can easily trace the need of the consumer, their trend and the trend of their competitors and work accordingly for earning more profit by decreasing price.

Conclusion

From the above discussion, it can be deduced that the effect of fall in price and increase in demand on the profit margin of a company depends on various factors such as the type of goods, time span, competitors and the substitute o the goods in the market. Moreover, it also differs according to the information the consumers and the producers conceive about each other in the economy. Thus, from the comparative advantage it is seen that a fall in price does increase the profit of the business that produce normal good and has less number of substitute in the market. However, it is true for some goods and does not apply in goods such as Giffen goods and inferior goods.

References

Chen, Y., Eshleman, J.D. and Soileau, J.S., 2016. Business Strategy and Auditor Reporting. Auditing: A Journal of Practice & Theory, 36(2), pp.63-86.

Hill, C. W., Schilling, M. A., & Jones, G. R. 2017. Strategic Management: An Integrated Approach, Theory & Cases. Boston, USA: Cengage Learning. 21, pp 186-191

Landi, M., 2015. A class of symmetric and quadratic utility functions generating Giffen demand. Mathematical Social Sciences, 73, pp.50-54.

Mankiw, N.G., 2014. Essentials of economics . Cengage learning.

Maverick, J. 2014. For a company, is it more important to lower costs or increase revenue? Available at: https://www.investopedia.com/ask/answers/122214/company-it-more-important-lower-costs-or-increase-revenue.asp [15 September 2017].

 Reis, E., 2015. Influencing factors on consumer buying bahaviour of luxury goods: a research on the buying behaviour of young consumers in Finland.

Timpson, T. 2017. Cutting prices works sometimes, but it is the lazy way to increase sales. The Telegraph. [e-journal]. Available at: https://www.telegraph.co.uk/connect/small-business/cutting-prices-is-the-lazy-way-to-increase-sales/ [15 September 2017].