Introduction
The ability to lead and to manage strategically is the main critical factor for success. Scanning the environment, evaluating the organization’s purpose, identifying critical success factors, and developing strategies are systematic ways of creating order out of chaos. Often the relationship between long-range goals and the day-to-day activities of the governing body and the management staff is not clear. Frequently, policy-making and allocation of financial resources are determined without much thought to the broader vision of the community and its needs.
The role of the manager
Following Baye (2002) “manager is a person who directs resources to achieve a stated goal” (p. 2). The role of the manager is to direct organizations and control their performance. Managers are apt to deal with a strategic issue in one of the first two ways but are often not skilled in the expansionist approach. Strategic planning and thinking entail operational (tactical) planning, the planning of those actions to be taken to put strategies into effect.
This type of planning answers the question of how to get the job done. It often consists of specific objectives accompanied by short narrative action plans. The parts are arranged in hierarchical order from very general policy board and top management issues to more specific, lower-level operating issues: environmental scan (SWOT), a mission statement. a set of strategies; objectives, tactics, and controls. Effective strategic planning and decision-making have a crucial impact on the realization of the goals and aims of the company. Organizations may not utilize all labels and may not go through all steps, but every good strategic plan has all six elements built-in; these six elements are the essence of strategic planning (Agmon, 2006).
Economics of effective management involves the identification of an organization’s goals and constraints. Strategy design begins by identifying variables relevant to a firm’s strategic situation, along with their causal interrelationships. Changes in these variables can have potentially profound effects on performance. Some of the variables belong to a firm’s external environment. Examples are the intensity of competition, the emergence of new products and processes, government regulation, and international interest and currency rates (Truett and Truett 2006). Changes in these and other variables determine a firm’s performance over time.
It is a manager’s job to develop a good understanding of the causal linkages underlying a strategic situation. Strategic planning can help managers anticipate the effects of future changes triggered in the external environment (Truett and Truett 2006).
Analysis of profits and costs helps managers to meet strategic objectives and avoid a shortage of financial resources. Budgeting problems consist of determining the amount of money needed to carry out desired projects, the amount available for investment purposes, how the available funds will be applied to the candidate projects, and how capital expenditures should fluctuate with changes in business conditions.
The usual procedure to determine the demand for capital is to estimate capital requirements at the lower levels of the organization and process them through the organization’s hierarchy until an aggregate determination is made for a managerial unit (Sammelson and Marks 2005). While capital planning is usually done for one year, executives could readily adjust the amounts as the need arose. The timing of the project expenditure can be very important.
The firm may accept a lower return this year to gain a higher return from future investments. If the future needs are considered along with the current demand for funds, then it is necessary to earmark either cash or some other type of liquid investment for future use. The manager should estimate and evaluate accounting profits and economic profits, opportunity costs, profits as a signal. Baye (2002) adds that tax considerations have a substantial influence on the timing of investments. The rate of return criterion is superior and can be adjusted to consider the element of risk. The rate of return criterion is superior in another way; even though a project has a short payout period, the possibility exists that new investment opportunities will not exist for the funds returned and the firm will suffer a considerable reduction in the rate of return.
There are two sources of capital: internal sources such as depreciation and retained earnings, and external sources such as debt or equity capital. Using this criterion, stable dividends are paid, while fluctuations in earnings are used to finance the investment plans of the firm (Keating & Wilson 2001). Another guideline proposed for retained earnings is that a certain percentage of earnings must be held back for growth and unexpected events that could occur. This method would provide a minimum level of earnings retained by the firm before any other earnings commitment could be made. Many firms are opposed to seeking outside funds. Management may also avoid external sources of funds if they feel they have more to lose by using such financing than they have to gain (Sammelson and Marks 2005).
The Time Value of Money
The Time Value of Money plays a crucial role in investment decisions and relations with investors. Any additional profits made by successfully undertaking investments with external financing would not compensate them for the risk undertaken. The next standard advocate’s replacement when the maintenance cost of the old vehicle exceeds the new vehicle’s maintenance and depreciation charges (Keating & Wilson 2001).
A fundamental assumption, however, is that the operating costs of both units are the same, an assumption that may not be true. It also assumes no capital wastage on the old truck, and that the capital wastage on the new truck is correctly estimated by depreciation charges. Because these assumptions would not stand up, this method is invalid. The direct control of machinery prices played an important role in preventing inflation (Groenewegen, 2004).
Porter’s Five Forces helps a company to analyze the eternal environment and respond effectively to current changes and market fluctuations. Five forces are entry, power of input suppliers, power of buyers, industry rivalry, and substitutes and complements. A change in an internal lever can cause a dynamic chain reaction, involving a whole sequence of events. Sometimes it helps managers to distinguish between market and nonmarket variables within environmental and decision variables, particularly in institutions whose strategy formulation entails aspects of political economy and administrative legislation. Often, the entire set of possible outcomes is obscure and difficult to determine. Moreover, if managers oversimplify the interrelationships involved, then they end up ignoring the combined effects of such chain reactions altogether (Keating and Wilson 2001).
Conversely, combining environmental and decision scenarios computed along the interrelationship paths connecting the internal and external variables, Depending on the sales volume that a firm anticipates, it will adjust its sales force, supplies, and distribution, equipment, and facilities to match the scale of its production. Coherent and consistent actions taken by its production, marketing, personnel, distribution, and procurement managers demand a shared vision of the intended production scale. Sharing common perceptions about a firm’s strategy is an important step toward coordinating implementation plans and managerial behavior.
The use of specialized capital equipment makes vertical integration more profitable for large firms than for small competitors. Economies of scale permit reduced production cost, which is an important element in determining price. Low marginal cost, other things being equal, allows lower prices, which increase potential demand, which in turn supports increased production. Firms can enjoy economies of scale even when they are producing at too small a scale in a market that is too small for them.
A firm can make product components for multiple product markets. Transnationalism emerged from the synthesis of international, global, and multinational archetypes, not as an undifferentiated identity, but as a concrete unity that affects the administrative, strategic information, and strategic-management systems of world-class firms (Keating and Wilson 2001).
Market interaction involves “consumer-producer rivalry (when consumers attempt to locate low priced, while producers attempt to charge high prices); consumer-consumer rivalry (scarcity of goods reduces the negotiating power of consumers as they compete for the right to those goods); producer-producer rivalry (scarcity of consumers causes producers to compete with one another for the right to serve customers); the Role of Government (disciplines the market process)” (Baye, 2002,p. 30).
Despite the use of strategic management processes and content models, many managers fail to maintain or improve their firm’s competitive position. These changes suggest new strategic management processes and new strategy content paralleling those in current models. Thus, value is much more important to customers and managers than previously imagined (Keating and Wilson 2001).
With rising consumer expectations and legal requirements for better quality, customers are loyal only as long as the firm provides the best value. For managers, statistically-based analyses provide the only systematic way to continuously improve relative value (and cost) positions and thus recapture market share. Marginal (Incremental) Analysis helps managers to maintain consistency in the pattern of decisions and provide improvement in a competitive position, given the firm’s choice of priorities. Marginal benefit minas “change in total benefits arising from a change in the control variable” (Baye 2002, p. 23). This analysis allows managers to identify future action but is not time-dependent. Some strategic issues are critical today and must be dealt with immediately.
Summary
In sum, effective managerial economics links all of the planning and resource allocation processes so that the focus on critical issues is not lost. Volume flexibility requires that a firm be able to accelerate or decelerate production very quickly and to rearrange orders to meet demands for unusually fast delivery. Because planning is directed toward the future, predictions of changes in the environment are indispensable components of it. Conventional forecasting techniques provide no cohesive way of understanding the effect of changes that will occur in the future. Scenarios provide corporate intelligence and a link from traditional forecasting methods to modern interactive planning systems.
References
- Agmon, T. (2006). Bringing Financial Economics into International Business Research: Taking Advantage of a Paradigm Change. Journal of International Business Studies, 37 (2), pp. 575-580.
- Baye, M. R. (2002). Managerial Economics and Business Strategy, 6th Ed. Chapter 1, pp. 4-24. McGraw-Hill/Irwin; 4 edition.
- Groenewegen, J. (2004). Who Should Control the Firm? Insights from New and Original Institutional Economics. Journal of Economic Issues, 38 (2), pp. 353-355.
- Keating, B., Wilson, H. J. (2001). Managerial Economics, Second Edition. Atomic Dog Publishing; 2nd edition.
- Sammelson, W. F., Marks, S. G. (2005). Managerial Economics. Wiley; 5 edition.
- Truett, L. J., Truett, D. B. (2006). Managerial Economics: Analysis, Problems, Cases. Wiley; 8 edition.