What it is:
How it works (Example):
The concept of a price taker is best illustrated with an example.
Assume Company XYZ makes tires that sell for $150 each. Company XYZ makes 50,000 tires a year.
Because there is a lot of competition in the tire market, and because profits and demand are flat, Company XYZ is not in a position to dictate the price of tires in the market. It must price its tires competitively in order to attract customers, because there are a lot of other substitutes for Company XYZ tires. Thus, Company XYZ can't necessarily raise the price of its tires without reasonably expecting to lose some customers to competitors, either. Company XYZ does not really have an impact on the general market price of tires and must therefore work within existing market prices.
Similarly, price takers in the trading market cannot dictate the price at which they will buy shares or sell shares; they are constrained by the broader supply and demand requirements of the market. In turn, the buy and sell decisions of price takers have very little if any effect on the market prices.
Why it Matters:
A price taker is the opposite of a price maker. That is, they are not guaranteed profit makers, and they may even choose to make more product even if it's not profitable to do so, just so they can maintain market share or achieve other objectives. Thus, investors who can distinguish price takers from price makers can more easily identify steady profit producers. Price takers are generally not leaders in their industries.