BADM 515 - Test 1

How does carrying inventories contribute to economies of scale? Clearly explain how Hub and Spoke Networks work to affect inventory costs.

inventory costs drive up the average costs of the goods that are actually sold. The need to carry inventories creates economies of scale because firms doing a high volume of business can usually maintain a lower ratio of inventory to sales while achieving a similar level of stock-outs. This reduces their average costs of goods sold. Inventory can be thought of as revenue inventory miles instead of revenue passenger miles. The more inventory you ship the lower the costs will be. Remember inventory cost are proportional to inventory holdings over sales.

What is a catchment area and how is it used to identify competition and define the market?

the area and population from which a facility or region attracts visitors or customers

What is the difference in economies of scale and scope? What is the cube square rule and how does it relate to economies of scale and scope?

- Economies of scale occurs when a firm increase the output of a specific good or service and average cost decrease. Economies of scope occurs when total cost decrease with the production mulitiple goods using share resources, such has plants and equipment. Economies of Scale => Q increases AC decreases Economies of Scope => TC(Qx, Qy) < TC(Qx,0) + TC(0,Qy) The cube square rule formulates the idea that as area increases volume increases at a faster rate, therefore as capacity increases the average cost of producing at capacity decreases giving way to economies of scale.

What is the cost of effort for a 37 hour week? What is the cost of effort for a 43 hour week? If the firm offers a salary only job of $500 per week, what is the employee's payoff net of effort costs for a 49 hour work week?

37 hr week => c(37) = 0 43hr week => c(43) = (1/3)*(43-40)2 = 3 49hr week => c(49) = (1/3)*(49-40)2 =$27 $500 - 27 =$473

If the firm offers a salary-plus-commission job of $500 per week plus 20% of sales, how can we write the employee's payoff function? What is the employee's total compensation for working a 46 hour workweek (Note: This is the compensation and not payoff net of effort costs)?

500 + .2(100e) - c(46) c(46) = (1/3)*(46 - 40)2 = 12 Total Compensation = 500 + .2(100*46) = $1420

If the firm offers a salary-plus-commission job of base salary plus 20% of sales, what is the minimum base salary the firm can offer the employee and still have the employee willing to accept the job over a simple $2000 per week salary job?

BS + .2(100*70) - (1/3)(70-40)2 = 2000

What are economies of density as referred to in the airline industry? Explain.

Economies of density are essentially economies of scale along a given route. That is reductions in average costs as traffic volume on the route increases. 〖Average Costs〗^(Economies of Density)=(Average Costs)/(Revenue Passenger Miles) where Revenue Passenger Miles = # of passengers on route * # of miles

Clearly explain why might a large firm actually be at an advantage over a smaller firm with respect to labor?

Larger firms generally have less turnover, which reduces their training and recruiting costs. Larger firms are typically more attractive to higher quality workers.

Suppose the demand for a product faces by a monopolist firm is given by Q=60-P/2. If the marginal cost of producing the product is $20, what is the profit maximizing price the firm should charge for the product? What are the firm's profits?

P = 120 - 2Q TR = P*Q = (120 -2Q)*Q = 120Q - 2Q^2 dtr/dq = MR = 120 - 4Q MR = MC = 120 - 4Q = 20 Q = 25 P = 70

What is minimum efficient scale?

Point on the average cost curve where the quantity produced has first reached the minimum average cost. At this point the firm goes from experiencing economies of scale to constant economies of scale

What kind of economies come from reductions in cost due to adoption of technology that has high fixed costs, but lower variable costs? What kind of economies come from reductions in average costs due to increases in capacity utilization?

Short run economies of scale Long run economies of scale

At what level of effort does performance based pay in the form of salary-plus-commission yield the maximum payoff to an employee? Explain using a graph.

The maximum payoff for the employee comes where the slope of the effort curve equals the slope of the payment curve. At this effort level the effort curve and payment curve are furthest apart representing the largest difference between your marginal benefit and marginal cost. See figure

If the firm offers a salary-plus-commission job of $400 per week (instead of $500) plus 20% of sales, at what effort level does the employee maximize their payoff?

Total Benefit = 400 + .2(100e) Marginal Benefit = 20 Total Cost = (1/3)*(e-40)2 Marginal Cost = (2/3)*(e-40) Max Profit for employee where MB = MC 20 = (2/3) * (e - 40) e = 70

If the firm offers a salary-plus-commission job of $500 per week plus 20% of sales, what is the employee's marginal benefit of effort? How much more will the employee work than the standard 40 hour work week? What is the employee's actual salary when they work to maximize

Total Benefit = 500 + .2(100e) Marginal Benefit = 20 Total Cost = (1/3)*(e-40)2 Marginal Cost = (2/3)*(e-40) Max Profit for employee where MB = MC 20 = (2/3) * (e - 40) e = 70

Clearly explain umbrella branding and how it aids economies of scale and scope.

Umbrella branding is when customers use information in advertising about one product to make inferences about another product with the same name, thereby reducing advertising costs per effective image.

What is the revenue destruction effect?

When a firm expands there output but lowers their price, losing revenue on all units it would have sold at the higher price. You could sell 110 dvds at $11 each or 120 dvds at $9 each. The marginal revenue is (120*9) - (110* 11) / 10

Using the Principal-Agent model, provide at least 4 reasons why Yahoo! CEO Jerry Yang as an agent would turn down Microsoft's takeover offer?

he believes it is worth more he was trying to maximize purchase price different preferences as shareholders - he wanted to make more money for himself

What is one way insurers address moral hazard (hidden action) problems to align the interest of the insured with the insurer? Explain.

insurers refer to hidden action problems as moral hazard problems and use a variety of methods including linking premiums to the presence of fire detectors, a form of performance-based incentives to align the interests of insured with insurer. (premiums are based on amount of risk that insurer takes on by insuring the insured