MGMT 450 Final Exam

If John's Leather Company decide to supply specifically shaped leathers to Uptown Fashion Inc., it will be paid $50 per square feet. However, producing these shaped leathers incurs extra costs of worker-training and equipment installment; these extra costs are about $20 per square feet, netting a profit of $30 per square feet if John's supplies to Uptown Fashion. There is a chance Uptown Fashion will "hold up" by renegotiating for a lower price, knowing John's have no other options. Should this happen, John's will sell shaped leathers at $30 to Uptown Fashion. Alternatively, John's could simply make unshaped regular leathers to the broad marketplace, where the price is $20 per square feet. Producing regular leathers requires no special training or equipment and incurs no extra costs. In the worse case scenario, what is the economic profit accurred to John's Leather Co. by selling specialized leathers to Uptown Fashion?

-10

You invested $1M to enter bottle distribution industry. $0.1M is spent on buying the land in the Delaware valley area, $0.8M on building a bottling factory and installing production lines, and the remaining $0.1M on raw materials procurement. Should you decide to exit, the land can be easily re-sold at original price. Due to little demand for bottling facilities, the factory has to be converted for alternative use and can be resold at $0.5M (conversion cost accounted for). The procured raw materials can be resold at a discounted price of $0.05M. What is the sunk cost of entering bottle distribution business? Keep two digits after decimal point, don't type any units.

0.35

To promote sales, the platform allows you to post advertisement for $20,000. The platform has a user base of about 500,000 individuals, about 80% are active. Non-active users will not see your ad. Based on prior statistics, about 10% of those who learn about your game will buy it. What is the average cost for advertising in this case? That is, per customer cost of advertising. Type in the number without dollar sign.

0.5

Based on the information provided in the above question, what is the 2-firm concentration ratio for that market?

0.9

You own a company with multiple lines of businesses. One of them is a plastic production plant that manufactures plastic parts for computer manufacturers as well as other businesses. When producing fewer than or equal to 20 units per week, the total cost function of the plant is described as TC(Q)=Q2+Q+10. If it were to produce more than 20 (per week), a second facility will be activated, changing the total cost function to TC(Q)=2Q+400. What is the marginal cost of making the 21th unit?

12

Orange Inc. is one of the downstream business partners for your plastic production business. Recently, it asks you to manufacture a uniquely shaped plastic products to be used in its new Orange phone 8 plus products. Orange Inc. agrees to pay $20 per batch of uniquely shaped plastic products, while the cost per batch for this type of products is $15. However, if Orange Inc. were to not purchase these uniquely shaped plastic products, the best you could do would be to sell them at $17 per batch. What is the quasi-rent per batch in this case?

3

Suppose working hard costs botanists a monetary equivalent of $200. The labor market for botanists is so small that, if they were ever out of job, they will be unemployed and get paid $1000 per month through government unemployment compensation. Because most botanists do what they love, they are largely unmonitored by the employer, and thus faces a very low probability of 0.1 to be detected for shirking on job. Compute the wage at which level the botanists should be indifferent between working hard and shirking (i.e., if they are paid even just $0.0000001 more, they will choose to work hard, and if paid $0.0000001 less, will choose to shirk).

3000

If John's Leather Company decide to supply specifically shaped leathers to Uptown Fashion Inc., it will be paid $50 per square feet. Other handbag makers prefer leathers that are not specifically shaped, but will accept specifically shaped ones if they are below market price for leathers (so that they could use the savings to remake the leathers). The best offer from these other customers for specifically shaped leathers will be $10 per square feet, which is about $10 below market price for leathers in general. How much is the quasi rent (per square feet)? Type in the number without dollar sign or decimal point

40

You own a company with multiple lines of businesses. One of them is a plastic production plant that manufactures plastic parts for computer manufacturers as well as other businesses. When producing fewer than or equal to 20 units per week, the total cost function of the plant is described as TC(Q)=Q2+Q+10. If it were to produce more than 20 (per week), a second facility will be activated, changing the total cost function to TC(Q)=2Q+400. What is the marginal cost of producing the 20th unit?

40

Suppose the new generation compressible thermal bottles (CTBs) costs $40 per unit to produce, and has perceived benefit equivalent to $130 in dollar amount. The old generation CTBs in comparison costs $20 per unit to produce, with perceived benefit of $100. What price should you, the producer of new generation CTBs, charge to drive producers of old generation CTBs out of business (especially in the long run)? Enter any price that meets this requirement.

45

Suppose that supplying unique plastic parts to Orange Inc. requires an upfront investment of $20,000 to install a modified production line, which allows efficient production of unique plastic parts with a variable cost of $15 per batch. That is, the total cost of producing Q units will be TC(Q)=20000+15Q. At the price of $20 per batch, Orange Inc. agreed to purchase 10,000 batches. However, instead of spending $20,000 on a new production line, you could spend the money on advertising for your camera business, which has much higher per unit profitability. Overall, the average advertising cost per actual customer is $100 (that is, attracting a real customer costs $100 in advertising), and each camera sold brings a profit of $120. What is the economic (not accounting) profit of supplying 10,000 batches of unique parts to Orange Inc., given the money could have also been invested in advertising for the camera business?

6000

When entering the compressible thermal bottles market, you have first signed a contract with bottle manufacturers. According to the contract, you have deposited $1M production fees, 95% of which can be refunded if you decide not to produce. Research and development, which resulted in patents, have costed $20,000 that can never be recovered whatsoever. Lastly, you have contacted a distributor who is willing to market and sell your bottles for 20% of the profit per bottle sold. Before production starts, if you were to exit the market, what dollar amount will the sunk cost be? Type in the number without decimal points or comma or dollar sign.

70000

The average cost of making each compressible thermal bottles is $20, and they are sold at $90. Although unobservable, suppose that the perceived benefit for such bottles is $100. What is the value created?

80

Which pay schemes below are performance-based? Multiple answers may apply.

A CEO is paid an amount equivalent to 0.1% of the firm total capitalization (which is number of outstanding shares multiplied by share price) A car mechanic at an autoshop is paid $3000 per month; on top of that, everytime he sells a repaired used-car, he is paid half of the difference between selling price and the cost of acquiring and repairing the used-car A sales person who receives a year-end bonus if the sales volume exceeds a pre-determined level, plus a fixed wage

In XYZ city, the phone repairing business is monopolized by FixItToday Inc., which due to its accumulated experience and high business volume is able to reduce unit cost and offer a relatively low price. Which below are reasonable plans for a potential new entrant to crack into the market (multiple answers are possible)

A diversified new entrant can charge the same price (even if below average cost), and use internal capital market to fund its operation in the short run, hoping that overtime it can lower cost through learning and increasing market share The new entrant may enter with a new technology that provides greater perceived benefit (such as by quickening the service), so that the price premium it can charge is large enough to cover its higher cost If the market demand for phone fixing service is highly inelastic (we are smartphone addicts nowadays), the new entrant with better technology can substantially increase price due to its ability to offer service with higher perceived benefit than the incumbent monopoly; meanwhile, price drop by the low-cost incumbent will not draw away too many consumers

As your plastic production line accumulates production experience, the average cost goes down because experience makes producing each unit more efficient and less error prone. Which policy below is most likely going to further increase this type of learning (i.e., learning by doing or learning from experience), especially in the short run?

A policy that cuts production jobs into smaller sections (i.e., increases specialization) and assign workers to perform on one section only

A bottle making company recently adopted a batch of new production lines which are very expensive but could operate with much lower energy consumption and are also much more efficient on raw materials. While old production lines are operated by workers who are paid by piece-rate (paid by how many bottles they produce), the new production lines are fully automated so no workers are needed. Adoption of new production lines is best summarized as:

Adoption of new technology with high fixed cost but low variable cost

Which industry below is least likely to see fierce price competition?

An industry in which the only two competitors engage in (implicit) collusion

While knowing or suspecting that I have developed some illness in recent weeks, I nevertheless signed a contract with the insurance company which only sees my health report from last year. I reasoned that even if the insurance company were to find out later on, it would still be very hard or costly for it to legally prove that I know about the illness at the point of signing. This scenario supports the idea that

Asymmetric information can be a source of transaction costs

Which of the following reflects economies of scale?

Average cost declines when more units are produced.

Producer A makes luxury sports cars with perceived benefit of $30,000 (to a customer) and priced at $20,000; producer B makes sedans for daily use, with perceived benefits of $20,000 and priced at $10,000. Which statement below is true?

Both types of cars will fall on the indifference curve of the customer

Which condition below is least likely to result in price competition?

Buyers have very high switch costs

A diversified firm produces computers branded as LightSpeed Computers, and they also make tablets called LightSpeed Personal Assistants. Recently the new manager believes that the tablet business needs a new identity and decides to name the products as New Generation Personal Assistants. This change:

Decreases economies of scale and/or scope from umbrella branding

Because compressible thermal bottles (CTBs) are not necessities (most people are fine with regular bottles), the market features highly elastic price elasticity of demand. Your new patent enhances the insulation effect, thus creating a new generation of CTBs that keep internal temperature undisturbed for much longer. The best way to compete and grab market share using this new product against old generation CTBs is likely:

Charge same or nearly the same price as old generation CTBs; market share automatically increases due to the inherently better quality of new CTBs

Once your patent expires so that anyone can freely use the patented design to produce compressible thermal bottles, which of the following are likely to happen (select all that apply)?

Competition drives price down Your firm may not be able to capture as much value created as before Your firm may capture a smaller share of value created than the customers Your firm may produce at a lower cost than new entrants due to accumulated experience

Company ABC has persistently outperformed its competitors. The CEO of the company, other top managers, line managers, as well as external analysts and investors, all hold various kinds of theories as to why ABC is able to constantly outperform, but no one knows or is able to verify whether the theories people hold are true. Pick all statements below that are correct.

Competitors may find it difficult to decide what to copy from Company ABC, because no one can be sure what Company ABC did right This scenario reflects causal ambiguity, which is a type of isolating mechanism This scenario describes a type of intangible barrier to imitation

Which of the following describes economies of scope?

Cost savings associated with producing many products/goods

For two products A and B, they are least likely to be substitutive when:

Customers are indifferent for A and B when they have the same price

The production process is such that, once programmer finishes coding so that the project ends, he has nothing to work on in the next few weeks during which designer and script writer will become busy on the next project. You decide to start a new business which develops computer programs to add special effects for movies. All the work can be done in weeks in which the programmer is idle. This is an example of

Diversification to realize scope economy

You own a company with multiple lines of businesses. One of them is a plastic production plant that manufactures plastic parts for computer manufacturers as well as other businesses. When producing fewer than or equal to 20 units per week, the total cost function of the plant is described as TC(Q)=Q2+Q+10. If it were to produce more than 20 (per week), a second facility will be activated, changing the total cost function to TC(Q)=2Q+400. The average cost of producing 50 units in a week is TC(50)/50=(2x50+400)/50=10, while the average cost of producing 100 units in a week is TC(100)/100=(2x100+400)/100=6. Somehow, doubling the output level lowers average cost (or per unit cost). What best explains this observation?

Economies of scale as fixed cost is spread over more units

Other than the plastic production business, you also own a media business and have just founded a camera company which makes and sells sports cameras. Because the sports camera market is relative new and highly competitive, you have to fund your camera company with profits from plastic production business. This is an example of:

Economies of scope due to internal capital market

What are the five forces?

Entry threat/barrier, buyer power, supplier power, substitutes/complements, internal rivalry

Suppose a project needs to be completed by a team of two, one is an engineer and one a designer. Project completion results in a $1000 reward, which is split between the engineer and the designer evenly. The cost for the designer to work on the project is equivalent to a monetary value of $300. Plus, the designer has a solo project which pays $400 once it finishes in time, but if the designer chooses to work on the collaborative project with the engineer, the solo project will not be completed in time. The engineer enjoys the project and can perform very efficiently. As such, the cost for working on the project is only $100 for the engineer. The two person team is able to complete the project and receive the $1000 reward, because the total reward exceeds any of the individual costs. Is this reasoning true?

False

The Philly skateboard market used to have three major suppliers with market shares of 60%, 30%, and 10%, respectively. Over the years these numbers become 80%, 10%, and 10%. I reasoned that, because the 2 firm concentration ratio is still 90%, the market has not become more or less concentrated. Is my reasoning true?

False

The car manufacturing industry has 3 firms, with market shares of 0.7, 0.2, and 0.1, respectively. They all purchase rubber from the rubber industry, which has 2 rubber manufacturing firms with market shares of 0.5 and 0.5. If rubber suppliers have greater bargaining power, it is likely because their having greater industry concentration ratio. Is this statement true?

False

Which below are potential benefits of adopting a focused product strategy (i.e., product specialization)? Multiple answers may apply.

Faster accumulation of experience and growth of learning curve Ability to realize economies of scale (more quickly)

Suppose production of handbags involves a vertical chain with 4 steps: sourcing raw leathers, make raw leathers into finished leathers, use finished leathers to make handbags, and sell or distribute handbags. Which company below is more integrated?

Firm C sources its own raw leathers and makes its own finished leathers, has its own brand of handbags made from its finished leathers. It is also the parent company of Handbag World, a retail chain that sells luxury goods, including Firm C's branded handbags.

John's Leather Company has installed equipments and trained workers, and has started to produce specifically shaped leathers. Uptown Fashion Inc. realizes that pay $50 per square feet is nonsensical because no one else wants these leathers and John's will have no other customers anyway. It decides to lower the rate to $11, which is below market price of $20 for leathers and just slightly above $10 which is what others will pay for specifically shaped leathers. This move by Uptown Fashion Inc. is called

Hole up

A learning curve describes relationship between production experience and time needed to produce a unit likely slopes downward. Which of the following factors will like produces a steeper slope (i.e., efficiency can be achieved faster)?

Increase worker specialization

The US compressible thermal bottle market initially has 5 major producers, with market shares of 0.3, 0.25, 0.2, 0.15, and 0.1, respectively. A year later only 3 remain operating, with market shares of 0.4, 0.35, and 0.25, respectively. How has the market structure changed over the year?

It has become more concentrated with a higher Herfindahl index

Consider the following pay scheme: the worker is paid $1000 per month, plus $200 bonus if he or she is rated as the "Top3 Most Productive Employee of the Month" by colleagues and supervisors. Which statement below is NOT true?

It is least likely than other pay schemes to result in counter-productive behaviors, such as sabotage among coworkers

Company ABC persistently outperforms its competitors. Some members in the top management recently figured out the "secret" as to why the firm is able to do so, but no one else knows. Which statement below is most likely to be right?

It is possible that in the long run, persistent superior performance will end due to leakage of the found secret

Due to patent protection, you are the only producer who makes and sells compressible thermal bottles in the US. Which of the following statements relating to entry barriers of the US compressible thermal bottles market is NOT true?

Limited and/or predatory pricing is a desirable strategic barrier to deter entry

Suppose your compressible thermal business utilizes a special type of plastic as a raw material to make your bottles. This kind of plastic is not used by other competitors because they lack the patented technology. Which term below describes your business?

Monopolist

Due to patent protection, you are the only producer who makes and sells compressible thermal bottles in the US. The narrowly defined compressible thermal bottle market in the US features what type of market structure?

Monopoly

You own a software company that develops computer games. The office is rented on a yearly lease, which covers utility fees like electricity or water bills. You hired a programmer, a designer, and a script writer who are paid monthly. The business works as this: the script writer will come up with a story line, based on which the designer will draw out key figures and scenes, which will be coded by the programmer into a game. The game is sold to an online platform which pays you a a fixed amount of money to put the game on its website/application, plus 20% of the profit for each copy sold. Which part is your variable cost?

No variable cost in this case

Increased chance of potential hold up problems can cause which of the following? Multiple correct answers may apply.

Occurrence of renegotiating contract terms Transacting parties become reluctant to invest in specialized plants Transacting parties start to seek out alternative suppliers and/or buyers

Suppose a new 2018 Mini Cooper has a perceived benefit to you equivalent to $30,000, and it is priced at $21,500. The cost per unit for the car producer, everything included, amounts to $11,000. Which statement below is true?

Producer captures more of the created value than consumer

You obtained a patent for "compressible thermal bottles". You started a firm that sells compressible water bottles. As the patent name suggests, the bottle will be compressed when empty to save space. With its double layer design, the bottle effectively insulates its content from environment and is able to maintain content temperature. As a start, you want to identify potential substitute products that may compete with yours. For a given bottle product (say X), which below indicate potential substitutability? (Select all that apply).

Product X's sales volume would go up if you increase price for your bottle Although Product X does not utilize double layered design, its unique material effectively insulates content from environment Product X is a preferred choice by hikers due to its small size, which fits easily in hiking bags

The plastic parts have to be stored in a warehouse. You realize after a while that normally only 50% of the warehouse capacity is taken up. Renting half of the warehouse capacity to your supplier to store raw materials provides an extra source of income. This is an example of:

Realizing economies of scope due to deploying underused resources

What term describes the situation in which firms doing exceedingly well or poor are likely returning to normal performance over time?

Regression to the mean

Which below is NOT one of the forces in the five force framework?

Regulative force

Currently your plastic production business purchases raw materials from the co-located supplier through pure market transactions. However, there are other ways to go about sourcing raw materials. Please rank the four alternative options below from least (vertically) integrated to the most integrated. That is, the transaction relationship ranked at the top should represent the least vertically integrated business relationship among the four options.

Signing a long term contract with the supplier Forming strategic alliance with the supplier Making the supplier your subsidiary Completely owns the supplier's business

Your plastic production plant sources raw materials from a supplier which transports things like cellulose, crude oil, etc. to be used to make plastic products. Because the supplier is geographically nearby, you are unwilling to switch to a different supplier due to savings from low transportation cost with current supplier. This is an example of

Site Specificity

Company ABC has a group of workers who happen to have great "fit" among themselves in terms of personalities and skills. As such, they develop trusting relationships between each other, and are thus able to work creatively and efficiently. This is a type of isolating mechanism that prevents other firms from imitating, because it is:

Socially Complex

One of the handbag companies, named Uptown Fashion Inc., requires that John's Leather Company to produce leathers in certain shapes, because handbag production using such shaped leathers as inputs is a lot faster and cheaper. John's Leather Company is hesitant to accept this request, as no other handbag companies they supply leather to want shaped leathers. Further, producing shaped leather means the company has to install new equipments designed to make the requested shapes. Because these equipments operate differently, workers need to be trained to operate them. What best describes these workers?

Specific human assets

One of the handbag companies require that John's Leather Company to produce leathers in certain shapes, because handbag production using such shaped leathers as inputs is a lot faster and cheaper. John's Leather Company is hesitant to accept this request, as no other handbag companies they supply leather to want shaped leathers. Further, producing shaped leather means the company has to install new equipments designed to make the requested shapes. What best describes such equipments mentioned in the case?

Specific physical assets

Suppose all consumers have the same preference (and same indifference curve etc.). A benefit leader can out-compete and drive out a competitor who has same cost but lower perceived benefit, by pricing below the sum of cost and extra perceived benefit (which is the difference between benefit leader's perceived benefit and that of the competitor). Why is that the case?

The competitor needs to price below cost, if it wants to match benefit leader on provided consumer surplus

When Orange Inc. learns that you can only sell unique plastic parts to other buyers at $15 per batch, it believes that paying at $20 per batch is unnecessary and wants to re-write contract details with you. This exemplifies:

The hold up problem

Which scenario below will likely result in a least effective principal-agent relationship?

The job to be performed by the agent is very simple: the agent only needs to come up with some number of jokes per month; the principal makes money by selling those jokes, and pays the agent $500 per month for doing that.

Compared to a focused sports camera firm (that is, it has only sports camera business), which of the following are some of your potential advantages due to economies of scope as a diversified firm? Multiple answers may apply so pick all possible answers.

The possibility to fund camera business with profit from plastic production business The possibility to use spare plastic parts in your camera production process

Which of the following suggest a group of firms are competitors to each other?

Their merge would result in at least 5% price increase for no shorter than a year These firms offer largely substitutive products Using flow analysis, it appears customers buying from one of the firms also tend to buy from other firms in that group too If price for one firm's product increases, demand for products from other firms would increase

Which below is NOT true about promotion tournament as an incentive mechanism?

Through competition, it will allow the principal to directly observe effort levels of the agents

Which of the following may contribute to diseconomies of scale?

Too many machines in the factory increase risk of injury and drive up injury compensations and insurance fees

A firm owns a plant with a capacity of producing 2M pens per year, but currently it operates at 50% of its capacity (making 1M pens per year) with average cost being 90 cents per pen . The forecast is that next year the sales volume will be around 1.2M. The firm could raise production volume to meet the demand, by operating at 60% of its full capacity so that average cost is 85 cents per pen. This is an example of short-run economies of scale because increased capacity utilization, unlike technology adoption, usually can be achieved in the short-run and lowers average cost as fixed cost is spread over more units. Is this statement true?

True

The plastic parts have to be stored in a warehouse. You realize after a while that normally only 50% of the warehouse capacity is taken up. Other than renting the remaining 50% capacity out, you could also switch to a smaller warehouse by signing a new rental contract next year. Evaluate the statement below: Switching to a smaller warehouse can be thought of as realizing long run economies of scale. True of False?

True

It appears that, while advertising for FlyPro increased its sales volume, it also increased sales of an older model in the same Pro Series called FlyPro Gen1. In contrast, sales for cameras in the CamEveryday Series has remained constant. This is best explained by:

Umbrella Branding

John's Leather Company produces leathers that are supplied to a few handbag makers. John's Leather Company is more likely located in the:

Upstream of the vertical chain

One of the handbag companies decides that it needs to produce its own leathers to be used in making handbags, rather than sourcing from John's Leather Company. This is called:

Vertical Integration

Which below are structural barriers (multiple answers may apply)?

Very high output level needs to be reached to achieve low enough average cost Incumbent firms have built up brand recognition over the years

Which option below likely is a substitute to air travel between Tokyo and New York?

Video conferencing

To expand the camera business, you decide to advertise your new sports camera model named FlyPro. After some research, it appears two options are available to you: Billboards: you can rent 5 of those at $20,000 each per month, and all together roughly 100,000 people in that month will see your ads on billboards. Because the billboards are located in upscale areas of the town, about 80% of those who see the ad will buy your FlyPro model of sports camera. Google ad: you can place your ad on Google for $1,000,000 per month so that it will be visible to about 3 million individuals all around the world. However, because many of those individuals reside in countries where they can't purchase or access your camera, you estimate that only 1% of those who see your ad will actually buy the product. Given the above scenario, which statement below is true? (recall average cost of advertising is how much you spent on advertising per buyer, that is, per actual customer)

While the per customer cost of reaching potential customers is lower using Google, the average cost of advertising with Google is higher

In fashion shoe business, all fashion shoe makers use same kind of processed leathers. These processed leathers are sourced through market transactions (for simplicity, imagine all fashion shoe makers go to a processed leather bazaar monthly to get a month's supply of leathers). Which below describes a plausible scenario in which a particular maker could provide greater consumer surplus than other producers?

With high market share, it manufactures at a much larger output level to lower per unit cost, which allows it to lower price and increase consumer surplus

To compete, you developed a new patent which enhances the insulation effectiveness of the compressible thermal bottles (CTBs). As such, you raise the price to $100, which is $10 more than the prior generation of CTBs currently being sold in the market. While the per unit cost for prior generation of CTBs is $20, the cost to make CTBs of the new generation is $40. For a given customer (say John), somehow it is found out that his perceived benefits are $130 and $120 for new and old generations of CTBs, respectively. Which statement below is true?

You adopted the benefit leadership strategy

As a manufacturer of compressible thermal bottles, which below is your capability as opposed to a resource?

Your ability to conduct R&D cheaply

Which of the reasons below may motivate Orange Inc. to buy plastic parts from your plastic production business through market transactions, rather than producing those parts by itself? Multiple answers may apply so pick all possible answers.

Your business supplies plastic parts to many downstream businesses and enjoys economies of scale; it will take a long time for Orange Inc. to enter that plastic parts market and secure enough buyers to reach a high enough output level Your plastic business owns a set of patents that allow you to produce plastic parts with substantially lower variable cost, so that you can offer products priced lower than competitors Since your workers have accumulated lots of experience producing plastic parts, the average cost is lower and you are able to sell them at a lower price than what would cost Orange Inc. to make by itself

Two necessary but insufficient conditions for firms to sustain competitive advantage are:

scarce and imperfectly mobile resources (and capabilities)