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Pricing and Output Decisions

Provide an example of a company that fits the following categories (one each) and briefly explain why the company fits this category. • Perfect competition • Monopoly • Monopolistic competition • Oligopoly Answer: Perfect Competition: eBay Many buyers and sellers all with perfect knowledge, no influence by any firm over price, homogenous products and no barriers to entry and exit are all traits of perfect competition.

Though no industry in the world can exactly fit on the lines of it, eBay-the online shopping website-can be a close example with no barriers, meaning both buyers and sellers are free to enter and leave the market, there are many identical products being traded and no one can influence price unless it is to name a higher bid Monopoly: Army and Air force Exchange Service (AAFES) Again very rare in the real world, a monopoly is characterized by a single seller who can influence price of the product it sells. There are very strong barriers to entry in this type of market.

The AAFES fits this category as it maintains a monopoly on overseas military installations’ retail sales Monopolistic Competition: Radio stations in the country This industry’s characteristics include many buyers and sellers, few barriers

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to entry and differentiated products. Radio stations all offer different songs and programs on their respective stations, it is very easy to set up or leave the radio industry and there are many radio stations (the sellers) and their listeners (the buyers) in the US Oligopoly: Organization of the Petroleum Exporting Countries (OPEC)

The defining characteristics of an oligopoly are an industry dominated by a few sellers, collusion, a homogenous product and significant barriers to entry (Paul G. Keat and Philip K. Young, 2005). All this holds true in the case of the oil industry which is dominated by 12 major oil producing industries, combined to have formed the OPEC. They offer a homogenous product which is crude oil (though some may export it refined and others unrefined), it is not easy to become a crude oil producer as enormous resources are needed and there is collusion between all these nations which leads to an identical price of oil all around the world.

2) Special Pricing Practices The economy is affecting many businesses and recreation activities. Cruise ships have seen drastic reductions with bookings. As the Director of marketing for the Carnival Cruise Lines you have implemented four new initiatives to attract “cruisers”. List and briefly discuss why you chose these new creative options. Answer: To attract cruise ships customers, I believe the following four strategies would be very useful: 1) Reducing the price of cruise tickets: This has been the most widely used practice of businesses in the face of the current recession especially the aviation industry.

If such recreation takes a lesser piece of their disposable income, I believe customers would be less wary to spend on what they view as ‘extra’ activities. If this technique is successful the revenue may remain unchanged, the lesser ticket price being offset by the hopefully greater volume of sales but the elasticity for cruises must be kept in mind 2) Offering discounts to senior citizens and school children: Low capacity utilization leads to higher fixed cost-concept of excess capacity. Even if cruises are half full, some fixed costs will always have to be paid such as cost of fuel.

Again I will do what the aviation industry by practicing price discrimination and offering lower prices to certain groups of customers so at least I achieve full or near full capacity and this helps spread my fixed cost leading to a lower unit cost per cruiser 3) Introducing special packages to encourage businesses to hold their functions on the cruise ships: This may attract more customers. In the face of the current recession, businesses such as the medical industry have cut down on their entertainment events for doctors.

For their existing programs, they may always be searching for better value-for-money deals which I will offer them 4) Instead of adopting absorption cost strategies, I would switch to marginal cost, or competitive pricing strategies to compete better with my competitors. 3) Capital Budgeting and Risk You have recently inherited $500,000 and are exploring investing your money in a new business. You have reduced your wish list down to three businesses in a small town. They are • Car Wash • Donut/Pastry shop • Flower Shop Pick the business you want to start. Review the 5 Sources of Business Risk, listed on page 467 of our text.

(Economic Conditions, Fluctuations in specific industries, Competition and technological change, Changes in consumer preferences, costs and expenses) Briefly comment on each risk factor, how it might affect you. Answer: I would choose to invest my inheritance in a Car Wash. How the following 5 business risk factors may affect me is listed below: 1) Economic Conditions: With the economic recession, more and more people are going into debt and losing their possessions such as cars and houses. Plus, with the fall of bank lending and of consequently buying cars on credit, my car wash may see a lower traffic

2) Fluctuations in specific industries: If the spare parts industry suffers, they being a complementing good to cars may affect my sales. Similarly for the car detergent industry 3) Competition and technological change: If a competitor opens close by my business with better facilities or newer technology, my customer traffic may also be affected 4) Changes in consumer preferences: Customers may prefer cheaper carwashes such as a non automatic one in face of the current economic situation. This may reduce the number of customers unless I can offer both an automatic and non automatic car wash

5) Costs and expenses: Fixed costs of the car wash such as electricity and gas bills would have to be paid, regardless of the traffic at the car wash. Therefore, the more cars the business attracts, the better because it will help spread the per unit costs. If both variable and fixed costs go up, my profit may be affected unless I can afford to raise my per wash charge. 4) Business Risk You are the CEO of a new line of clothing called C Weeds. One of the items you manufacture that is in high demand for youths (age 12-17) is blue jeans.

You are making a Return on Investment (ROI) with your operation in Tivoli, Texas of about 40%. While at a textile conference you meet the CEO of a company in Venezuela who indicates he can increase your profit margin by 10-15%, offer cheaper labor and meet or improve the quality of your jeans. You are interested, but your gut feeling says be careful. Therefore you decide to conduct a SWOT (Strength, Weaknesses, Opportunities, and Threats) analysis to evaluate the value and risks. Provide a SWOT analysis and briefly discuss each factor. Answer: The proposal’s SWOT:

1) Strength: Principally, profits may rise and with better quality, teenagers (who are very fashion conscious and quality demanding) may switch to the C Weeds brands and this may raise my sales even further 2) Weaknesses: What if the Venezuelan CEO’s proposal doesn’t work out? C Weeds is already earning quite a high ROI and this may be jeopardized if the new venture is unsuccessful. Also, unless the other CEO can show a viable plan for such a phenomenal increase, this venture may not be a very good idea 3) Opportunities: Operating from a foreign country may open up sales opportunities in that country itself.

Observing the cost reduction techniques in the country may make my business ape it in the US 4) Threats: There are political threats because Venezuela and the States do not share very cordial relations. In there is any type of embargo imposed by any of the countries, my supply may be crippled. Furthermore, Venezuela is not very politically stable and there is always the economic threat of strikes by the workforce which may cripple my supply. Also, pressure groups may have a field day if strict paying conditions of workers are not imposed which may have disastrous consequences for my business.

5) Credibility You are the CEO of Lazboy, Neosho, MO. You manufacture both wood and upholstery products and have yearly sales in excess of $100 million. When you apply conventional finish to the wood you use lacquers. With all the environmental changes, EPA, and “green movement” you decide to change your finish to a waterborne because it is less harmful to the air and ozone. Within 3 months of this change you notice your customer complaints are up 12% (directly related to the finish. You are concerned. Lazboy’s reputation is on the line.

Provide four immediate corrective actions you will take to maintain the credibility of Lazboy’s reputation. Briefly discuss. Answer: The four measures I would take would be: 1) Come out clean: I would call a press conference and come out clean over why we switched from a waterborne form a conventional lacquer. Owning up to Lazboy’s mistake may make customers more sympathetic towards the company in face of its honesty. This technique is often employed by celebrities’ publicists to gain peoples’ appreciation. 2) Vow to improve quality: I would maintain that I would still use a waterborne lacquer but that it would now be of a better quality

3) Donate generously to environmental organizations and causes: this may further show Lazboy’s commitment to environment friendly policies. Set up a customer complaint centre with a refund option: The refund option can be exercised by customers if they are not happy with the better quality lacquer that Lazboy uses. This may, in the customers eyes, reinforce the belief that Lazboy is doing all it can and its continued commitment to improve quality and not damage the environment in the process. References Book Paul G. Keat and Philip K. Young (2005). Managerial Economics. New Jersey: Prentice Hall.

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