Introduction
Investment opportunities can be assessed with some indices, and the elasticity of demand is among them. This term defines the dependence of order on various factors, the most popular ones including price changes, customers’ income fluctuations, and the changes in the price of other different services and goods.
In this paper, McDonald’s Corporation and Hyatt Hotels Corporation have been chosen to demonstrate the influence of these indices on investment choices. However, other characteristics of the companies are also taken into account to make an informed decision. The paper includes a short overview of both companies, a theoretical overview of the elasticity terminology, a description of the critical elasticity features of both firms, and some additional investment-relevant information. The conclusion includes a possible decision concerning investment.
Hyatt: Short Description
Hyatt operates and franchises over 500 luxury hotels and resorts in almost 50 countries. The chain’s history began in 1957, but the brand Hyatt Hotels appeared in 2004; in fact, the company owns the brands Hyatt, Hyatt, Grand Hyatt, Andaz, Park Hyatt, Hyatt Place, and Hyatt Summerfield Suites (extended stay) brands (Hoover’s Inc., 2015a). The target market of the company includes business travelers and leisure vacationers with high income.
The competitors of Hyatt include other luxury hotel chains, such as Hilton Worldwide Holdings Inc., Starwood Hotels & Resorts Worldwide, Inc., or Marriott International, Inc. (Hoover’s Inc., 2015a).
McDonald’s: Short Description
McDonald’s Corporation is specialized in foodservice retail that was created in 1955. The company operates and franchises restaurants in the US, Latin America, Canada, Europe, the Asia-Pacific region, and the Middle East. The company-operated restaurants amounted to about 18% as of 2014 (McDonald’s Corporation, 2014). Most of the company’s restaurants offer drive-through service.
The menu includes typical fast food items like hamburgers, cheeseburgers, and French fries; apart from that, McDonald’s serves salads, sundaes, and pies. Finally, soft drinks, water, juices can be bought by the customers. Among the famous special McDonald’s offers are the Big Macs, Quarter Pounders, and Chicken McNuggets.
According to The World’s Most Valuable Brands Rating by Forbes (2015), McDonalds scores “poorly” with customers, but due to the size of the company (33,500 restaurants, 68 million customers, 119), it is ranked the 7th most valuable brand. For example, in the US, only there are more than 14,250 McDonald’s locations.
McDonald’s Competitors include Burger King Worldwide, Inc., Yum Brands, Inc. (Hoover’s Inc., 2015b).
Elasticity: Key Terms
Flexibility is the term used to describe the effect that a variable has on another one (Png, 2012). For example, the price elasticity of demand “measures how much the quantity demanded a response to a change in price» (Mankiw, 2014, p. 90). Therefore, the term can be defined as the change in the demand (the quantity demanded) divided by the difference in price (both presented as the percentage). In case the resulting number is more significant than 1, it is evident that the demand is significantly affected by the price change; the need for this good will be described as a price-elastic one. The need for a good is considered to be inelastic in case the elasticity is less than 1, and such an index demonstrates that the change in order is not affected by the price change significantly. Finally, the index may equal 1: in this case, the market has “unit elasticity,” which shows that the “quantity moves the same amount proportionately as the price” (Mankiw, 2014,p. 92).
The price elasticity of demand has been shown to depend on several factors. For example, depending on the existence (and accessibility) of substitutes, a good may be given up in case of a price increase that makes purchasing it less profitable than obtaining a replacement. A “necessity” good tends to have a relatively price-inelastic demand while the products qualified as “luxury” ones are usually more elastic for prices. However, it should be pointed out that the definition of “necessity” varies among consumers, and the target market is generally chosen about these differences (Mankiw, 2014, pp. 91-92). Apart from that, elasticity depends on the definition of the market (low flexibility for clothes in general, but a much higher one for expensive brand suits) and may change with time, for example, if the market situation changes and a substitute appears.
For instance, it has been defined that the price elasticity of demand for food (which is a necessity ethical without a substitute) is 0.1. At the same time, the flexibility for different kinds of food differs: the one for eggs is estimated to be around 0.27, while that of juice is 0.79 (Andreyeva, Long, & Brownell, 2010, p. 218). However, the elasticity for restaurant meals (a luxury good with substitutes) was estimated to be about 2.4 (Mankiw, 2014, p. 94).
Of course, the total picture of demand elasticity is much more complicated: there exist many other factors that demand can depend on; for example, advertising elasticity or R&D elasticity have also been determined by scientists (Png, 2012). Another significant determinant is the income elasticity of demand. Obviously, it demonstrates the relation between market and the income of the consumers. It is measured as “the percentage change in quantity demanded divided by the percentage change in income” (Mankiw, 2014, p. 97). For most goods, higher income means a growing demand, even though in cases of necessity goods elasticity is not very high since, regardless of the revenue, customers need to acquire them. For other goods, however, the inferior products (those associated with lower income; for example, public transport tickets), the income elasticity of demand is negative, which means that the need for these goods decreases with the growth of income (Mankiw, 2014, p. 98).
Finally, the cross-price elasticity of demand demonstrates how “the quantity demanded of one good response to a change in the price of another good” (Mankiw, 2014, p. 98). In this case, the numerator of the function includes the percentage change in good demand, and the denominator consists of the percentage change in the price of the good. For substitutes, the cross-price elasticity is usually positive, since the increase in the amount of one of the alternatives causes the demand for others to rise. In case of complements (the goods that can be used together, for instance, mp3-players and headphones), the rise in the price of one of the products results in the decrease of demand for the other one and the elasticity becomes negative.
The importance of indices appears to be visible. Indeed, the lower the elasticity of demand is, the more stable it is, and the easier it is to predict demand fluctuation. Companies with lower elasticities can be called more reliable. At the same time, by determining the elasticity about different factors, one can define the features that demand particular attention. To make the investment decision between McDonald’s and Hyatt, we are going to describe the relevant indices for the two companies.
Key Elasticity Features for McDonald’s and Hyatt
The Market
As it has been pointed out, the demand for food is relatively inelastic; still, given the fact that the market for McDonald’s would be defined as “fast-food restaurants,” the situation becomes different. Restaurants cannot be described as a necessity, even though in the case of fast food, they could be regarded as “convenience.” For example, it has been proved that consumers tend to prefer cheaper fast-food restaurants for cooking (Andreyeva et al., 2010). Still, it is evident that the elasticity for McDonald’s would be much higher than that for food in general.
Hyatt’s service would commonly be described as a luxury one. At the same time, it should be pointed out that at least for a part of the target market that includes mostly high-income populations and especially business travelers, it could be considered a necessity. Still, less luxurious variants could be considered even by the target market, which is described below.
Competition. The Price
The situation in the market also defines the elasticity of demand. Given the fact that neither company can be called a monopolist, both of them are expected to face competition on numerous levels.
It has been pointed out that the competition McDonald’s has to meet nowadays is quite severe (Trefis Team, 2015a, June 16). According to McDonald’s Corporation (2014), the company faces competition on multiple levels, geography-wise (local eateries and especially local cuisine restaurants), and service-vise. Economists agree with the latter and point out that McDonald’s is a comparatively conservative chain that is mostly famous for the fast-food offers (Trefis Team, 2015a, June 16). Fast food has become less favored as the ideas of healthy eating habits are being popularized, and healthier food is offered by emerging competitors (for example, Chipotle Mexican Grill). To stay competitive, the company creates unique offers (for instance, Big Mac), and insists on incorporating healthier food into the menu (McDonald’s Corporation, 2014). Still, in case it becomes necessary, it is evident that the services by McDonald’s can be easily substituted.
In fact, the same can be said about Hyatt. While the company does have a defined and refined brand, there do exist competitors with similarly famous brands (Hoover’s Inc., 2015a). Therefore, the service of this company can also be substituted, and its elasticity of demand also depends on this factor.
Cross Price Elasticity
For the substitutes of the companies, the demand cross-price elasticity would be positive. As for the cross-price flexibility between McDonald’s and Hyatt, it would not be an exaggeration to say that the target markets of the two companies do not overlap. Hyatt primarily targets high-income customers, while for McDonald’s, it is the medium-income population that is important. Therefore, a severe impact of the prices of the two companies on each other would not be expected. Still, the two services could be regarded as complementary; therefore, in case a correlation between them would be found, the cross-price elasticity would be negative.
The Income Level
The income level elasticity of demand for food depends on the actual product. Fast food elasticity among low-income customers is about 2.09, which is lower than the need for restaurants but is still a very significant figure (Andreyeva et al., p. 218). Therefore, we may conclude that with the decrease in income, the demand for McDonald’s services will also decrease significantly.
Being a luxury hotel chain, Hyatt would be expected to have a significant income elasticity of demand. It is evident that four-star hotel accommodation is a luxury good that is not even considered by low-income populations. Still, the fluctuations in the income of more affluent customers would also be expected to affect the demand for Hyatt’s services.
Conclusion
Neither the price nor income elasticity of demand for McDonald’s or Hyatt’s service could be described as inelastic. Still, it should be pointed out that the need for McDonald’s service would be less elastic in both cases. This is the result of the fact that Hyatt’s service could be described as a luxury product; therefore, its elasticity for all the factors is quite high.
At the same time, it should be mentioned that the target market of the hotel’s chains is defined by its “luxuriousness.” Price elasticity has been described as “an important tool” by Rhett Hirko, the Director of Revenue Analytics in Hyatt Hotels Corporation (Getting warm, 2012, August 24). He has pointed out that Hyatt includes the relevant indices as a tool for the assessment of the market demand that defines the company’s pricing policies.
Other Factors Relevant for Investment
McDonald’s: Poor Performance and Future Changes
As a result of the fierce competition and global economic changes, McDonald’s has been “underperforming” on the stock market: during the past two years, it has only risen 7.5% (Trefis Team, 2015a, June 16, para. 2). There is a chance that this situation will not be rectified shortly. However, it should be pointed out that McDonald’s Corporation (2014), acknowledging the “challenges,” intends to attend the current difficulties (p. 3). The activities, that, according to McDonald’s Corporation (2014), can improve the company’s future performance include paying extra attention to quality, service, and cleanness; localizing menu and marketing strategies to suit the needs of varied regions; modernizing technology (for example, implementing web and mobile orders), and strengthening customer’s trust. The latter factor is supposed to be achieved within the company’s sustainability program that includes environmental issues (initiatives concerning energy and sustainable water use), and healthy food improvements in the menu (that presupposes adding more fruit and whole grains to satisfy the healthy eating customers). The fact that the problems of the company are noticed and paid attention to allows one to expect the improvement of McDonald’s performance shortly.
Hyatt: Brand Reputation and Expansion Policy
Conducting business ethically appears to be a trend for modern companies. Hyatt Corporation (2015) emphasizes that it is an advocate of corporate social responsibility (CSR), which, in short, presupposes taking into account the impact that a business can or does have on all the groups of stakeholders and the world in general. The company’s CSR policy, Hyatt Thrive, includes, among other programs, those aimed at providing the employees with education and career opportunities. As a result, Hyatt is included in the Top 50 Places to Work in several countries, including the US, the U.K., Germany, the United Arab Emirates, and China (Hyatt Corporation, 2015, p. 1).
Similarly, Hyatt Corporation (2014) claims to have significantly increased the number of women in senior executive roles and emphasizes supporting LGBT for the past 11 years. Apart from that, the company is concerned with environmental sustainability, which includes reducing energy use, sustainable water use, and decreasing greenhouse gas emissions. Given the competition that Hyatt also has to face, it is supposed to maintain the popularity of its brand with various resources, and this ethical business policy appears to be a suitable option.
Among the more tangible opportunities of Hyatt is its expansion policy. Most of the company’s revenues come from the Americas, but the company has been expanding to the Asia-Pacific Region (APR) for the past several years. It should be pointed out that the competition for lodging in the APR is described as considerable. At the same time, the demand for hotels in the region of emerging economies and touristic countries is also enormous. Currently, Hyatt possesses almost 70 owned, managed, or franchised properties (over 25,000 rooms), with about 4000 rooms purchased during the past three years (Trefis Team, 2015b). Given the fact that Hyatt is still underrepresented in APR in comparison to its other regions, the expansion policy of the company appears to be promising.
Conclusion
McDonald’s Corporation and Hyatt Hotels Corporation are similar in providing what can be described as “luxury” services, which defines their demand elasticity. Apart from that, the two companies are international giants with famous brands and years of history. In general, the price and income elasticities for both companies are quite significant and appear to be closely correlated with the competition that the firms have to face. To alleviate the effects that the game can have on their demand, the companies maintain the popularity of their brands by positioning them as unique symbols of quality and ethical business conduct.
The cross-price elasticity for the two companies does not appear to be relevant since their target markets do not overlap. The differences in target markets also define a peculiarity of Hyatt Hotels Corporation’s demand. While it appears to be evident that the company’s service is a luxurious one, the target market of Hyatt (particularly, traveling businessmen) could regard it as a necessity. This factor serves to make the demand for the company’s services more stable. Apart from that, being a dignified brand, the Hyatt Hotels Corporation is a remarkable competitor that cannot be easily substituted.
McDonald’s also provides distinctive services, but the competition appears to be rather tough for this company, which has been demonstrated by the deteriorating performance in the past several years. The latter fact makes this company a rather undesirable choice for investment. It should be pointed out that McDonald’s realizes the difficulties that have arisen and attempts to deal with them. This could mean that the company could make a breakthrough in the future; apart from that, its size and name do provide McDonald’s with certain opportunities. However, it should be mentioned that Hyatt also has opportunities for future development and, currently, does not seem to encounter similar difficulties. Therefore, given the current market situation, Hyatt appears to be a better investment option.
References
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