ANSWER

Concentration Ratio (CR) is a measurement used to understand the level of competition that exists within a market or industry in which a company operates.   Understanding the level of market competition can be important for strategic planning as well as when trying to establish pricing for a company’s products or services.  The Concentration Ratio provides a view of the market and of the price sensitivity that may exist for the company’s products or services.  A highly competitive market will have much greater price sensitivity giving a company less pricing power than it might otherwise have in a market which is less competitive (only a few key players reflecting an oligopoly or monopoly).  

The Concentration Ratio is often determined for the top 4, 8, 20, 25, and 50 largest markets participants by revenue.  However, the most prominent Concentration Ratio used to measure market competitiveness is the CR4 which is determined by measuring the total market share (MS) of the 4 largest market players.  The formula for determining any Concentration Ratio is as follows:

CR’n’ = MS1 + MS2 + MS3 + MS4…+ MS’n’, where ‘n’ is typically 4, 8, 20, 25, or 50.

In the case of the CR4 (4 largest companies by revenue), if the total is less than 40% then the market is said to be competitive.  If the CR1 value (single largest company by revenue) is greater than 90 then effectively a monopoly exists.

One of the cons of using the Concentration Ratio value alone is that it doesn’t give any indication of how the distribution of market share occurs across the companies included in the ratio.  Are there a few key players in the lead and everyone else shares a very small percentage? Or is there a fairly even market shar distribution across all market players?  For this reason, some choose to use another value for determining market concentration called the Herfindahl Hirschman Index (HHI).

Concentration Ratios for US markets and industries can be found at the US census bureau (http://www.census.gov/