Public utilities face special kind of problems which are quite unique in nature.
The public utility does not have any choice when it comes to the location of its site. The location is decided by the public authorities and the public utility has no say in the matter. They are thus deprived of the benefit of selecting an appropriate choice of location according to the business requirements.
The investment required to set up plants to run public utilities is quite high. Public utility plants involve heavy investment of capital. The entire investment has to be made before the plant can become operational. Public utilities do not enjoy the privilege of investing funds in a staggered manner.
For e.g. in the case of electricity generation, the transformers, power grid and cable network have to be fully functional before electricity can be generated and distributed.
Public utilities serve as monopolies. Monopolies can exploit customers by charging high prices, producing sub-standard products, providing poor quality service etc. To avoid such undesirable practices, the government maintains a constant vigil over the operations of public utilities. Further any deficiency in products and services produced by public utilities would have far reaching negative impact. Therefore strict rules and regulations have been laid down with regard to their functioning.
The demand for services provided by public utilities is inelastic in nature. There is no uncertainty with regard to the demand for services produced by the public utilities. Since all sales are on cash basis, there is no problem of bad debt losses. Since public utilities are run as monopolies and the goods and services sold by them are indispensable, there is no requirement for a high degree of salesmanship.
The pricing in public utilities can be based on marginal costs plus a certain percentage of overheads in case of inelastic demand and based on marginal costs, in case the demand is elastic. But the practice of fixing prices based on marginal costs is severely criticized.
Public utilities generally sell at prices which are affordable to the common man. This method is known as ‘What the traffic can bear pricing‘. The idea is everyone should have access to their products and services and no one should be deprived of using them because of the high prices.
5. Social control
Public utilities are subject to high degree of social control. They are setup and run with public money. Any deficiency in quality or service would immediately result in a problem.
For e.g. if the electricity wires are hanging in an exposed manner or railway tracks are not properly laid, there would be considerable loss of human life. If the water is contaminated or is in scarcity, it would lead to social unrest. Any such occurrence would be highlighted in the media and invite public criticism.
Deciding on the size of a firm is one of the important decisions that a businessman has to take before commencement of business. But public utilities do not have a choice in selection of size. They operate as monopolies in particular locations and have to satisfy the requirements of a large number of population. They are therefore set up as large scale units.