Second Round

Restrictions imposed by the government, such as export quotas on certain products, are a part of the ________ environment of the PESTEL framework.

• economic

• sociocultural

• ecological

• political

Answer explanation

The political environment describes the processes and actions of government bodies that can influence the decisions and behavior of firms. Governments, for example, can affect firm performance by exerting political pressure on companies.

When the Alta Velocidad Española (AVE) was completed, it impacted Spain’s local airline industry. Which of the following statements about the five forces does this reflect?

• Substitutes were not readily available because customers cannot use other means of transport.

• Substitutes made it difficult for generating a profit potential in Spain’s airline industry.

• The combination of the competitive forces leads to collusion among existing airlines.

• Entry barriers in Spain’s airline industry are relatively high because of the high costs involved.

Answer explanation

Because the AVE provided customers with a quicker, more comfortable alternative to flying between Madrid and Barcelona, the threat of substitutes limited the industry’s profit potential.

Incumbent firms can benefit from several important sources of entry barriers. Economies of scale are one such source. Which of the following is an implication of economies of scale for incumbent firms?

• They cannot employ technology efficiently.

• They can spread fixed costs over lesser units.

• They benefit from a less specialized division of labor.

• They can demand better terms from their suppliers.

Answer explanation

Economies of scale are cost advantages that accrue for firms with larger output because they can spread fixed costs over more units, can employ technology more efficiently, can benefit from a more specialized division of labor, and can demand better terms from their suppliers.

Which of the following firms most likely has the lowest bargaining power as a buyer?

• an automobile company that can backwardly integrate to produce its own component parts

• a fast food chain that has multiple suppliers for processed meat

• a government agency that buys large quantities of cement from a private supplier

• a cell phone company that requires highly customized software for its phones

Answer explanation

The firm that most likely has the lowest bargaining power as a buyer is a cell phone company that requires highly customized software for its phones. The power of buyers is high when the industry’s products are standardized or undifferentiated commodities. When suppliers offer products that are differentiated, the bargaining power of buyers reduces.

Which of the following is a feature of a fragmented industry?

• It tends to generate high profitability.

• It consists of many small firms.

• It allows firms to set prices.

• One large firm dominates the industry.

Answer explanation

A fragmented industry consists of many small firms and tends to generate low profitability.

A fragmented industry turns into a consolidated industry when

• there are no restrictive government policies introduced in the industry.

• firms reduce competition within the industry through mergers and acquisitions.

• the barriers to enter the industry are reduced.

• the products/services are seen as commodities.

Answer explanation

A fragmented industry becomes a consolidated one through horizontal integration (mergers and acquisitions).