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managerial economics
Managerial Economics A Problem Solving Approach 1st Edition Luke M. Froeb, Brian T. McCann - Solutions
G19-2. Divisional Evaluation Discuss a division or subunit of your organization and how it is evaluated (revenue center, profit center, cost center, etc.). How does the evaluation scheme affect performance? If it is optimal, explain why. Otherwise, explain why you think it is suboptimal, and
G19-1. Transfer Pricing Does your company use transfer pricing to ‘‘charge’’ divisions for the cost of the products they consume? Are these prices set equal to the opportunity cost of the product? Why or why not? Can you think of a better organizational architecture? Compute the profit
19-5. Transfer Pricing Suppose that a paper mill ‘‘feeds’’ a downstream box mill. For the downstream mill, the marginal profitability of producing boxes declines with volume. For example, the first unit of boxes increases earnings by $10, the second $9, the third, $7, and so on, until the
19-4. Bank Transfer Pricing Banks earn money by borrowing from depositors at low interest rates and lending to individuals and businesses at high interest rates. As banks grow, they split into functional divisions that either generate deposits or make loans. To measure the profitability of each
19-3. Jet Turbine Design This problem is mentioned in the text (see the section on ‘‘Functional Silos versus Process Teams’’). Your task is to propose an organizational solution. To briefly recap, a manufacturer is trying to design the next generation of turbine engines for jet airplanes.
19-2. Furniture Forecasting Futura Furniture Products manufactures upscale office furniture for the ‘‘Office of the Future.’’ In addition to a manufacturing division, the company includes a sales division comprised of regionally based sales offices. Sales representatives, who report to
19-1. Divisional Profit Measure Discuss the advantages and disadvantages of using divisional profit as the basis of incentive compensation for division managers compared to using company profit as the basis.
5. Which of the following actions is consistent with a manager whose compensation reflects a specific budget goal and who does not believe he can make that goal?a. Asking a vendor to preship and invoice materials for the following yearb. Discovering a ‘‘problem’’ in the order-taking
4. Which of the following organizational forms requires the strongest management oversight?a. Profit centersb. Functional organizationsc. M-form organizationsd. Functional and M-form organizations likely require similar oversight.
3. As the CEO of a large multidivisional company, it falls to you to set a transfer price between your Materials Division and your Production Division. Which cost is most relevant in making your decision?a. Average costb. Average avoidable costc. Direct costd. Opportunity cost
2. Joe runs the Service Division for a car dealership. The overall dealership has profits of $10 million on sales of $100 million and costs of $90 million. Joe’s division contributed$9 million in sales and $7 million in costs. If the Service Division is evaluated as a profit center, what dollar
1. A computer manufacturer has two divisions, one serving residential customers and one serving business customers. If an incentive conflict arises between the two divisions, how will overall company profits be affected?a. Profits will fall.b. Profits will rise.c. Profits may either rise or fall.d.
G18-3. Centralization versus Decentralization Describe a decision that is centralized (or decentralized) in your company. How could you decentralize (or centralize) the decision? What would happen if it were decentralized (or centralized)?
G18-2. Incentive Pay Describe a job compensated with incentive pay in your company. What performance evaluation metric is used, and how is it tied to compensation? Does this compensation scheme align the incentives of the employee with the goals of the company? Estimate the agency costs of the
G18-1. Incentive Conflict Describe an incentive conflict in your company. What is the source of the conflict, and how is it being controlled? Could you control it in a less costly way?
18-5. Venture Capital Venture capital (VC) firms are pools of private capital that typically invest in small, fastgrowing companies, which usually can’t raise funds through other means. In exchange for this financing, the VCs receive a share of the company’s equity while the founders of the
18-4. British Physicians The British government offered physicians incentive pay to offer better customer (patient)service, such as managing appointments better. In particular, physicians can score ‘‘points’’by seeing a patient within 48 hours after making an appointment. This year, each
18-3. Incentive Conflicts Which of the following are characteristic of principal–agent conflicts that often exist in a firm? (Note: The entire statement must be true in order to be a correct answer.)a. Managers do not always operate in the best interest of owners because owners are generally more
18-2. Incentive Compensation Firm X is a small environmental consulting firm. The firm pays employees according to how much time they bill on projects. Because they are out in the field, in close contact with clients, employees also have opportunities to recognize client demands for new projects
18-1. Real Estate Agents When real estate agents sell their own, rather than clients’, houses, they leave the houses on the market for a longer time (10 days longer on average) and wind up with better prices(2% higher on average). Why?
5. You own a retail establishment run by a store manager who receives a flat salary of$80,000. If you set up another store as a franchise with incentive compensation to the franchisee, what would be a reasonable total compensation range that the franchisee could earn?a. $80,000b.
4. Decentralization of decision-making authority is supported by which of the following?a. A trend of stronger, more active CEOsb. Shrinking costs of computing bandwidth, which allows information to be inexpensively aggregated from geographically diverse business unitsc. Development of
3. Principal–agent problemsa. occur when firm managers have more incentive to maximize profit than shareholders do.b. help explain why equity investments are an important financing source for firms.c. would not arise if firm owners had complete information about the actions of the firm’s
2. Principal–agent relationshipsa. reduce monitoring costs.b. occur because managers have good information about employees.c. are not related to asymmetric information.d. are subject to moral hazard problems.
1. Your notebook computer’s hard drive recently crashed, and you decide to take it to a local repair technician to have it fixed. In this relationship,a. you are the agent.b. the technician is the principal.c. the technician is the agent.d. no principal–agent relationship exists.
G17-1. Moral Hazard Describe a moral hazard problem your company is facing. What is the source of the asymmetric information? Who is the less informed party? Are there any wealth-creating transactions not consummated as a result of the asymmetric information? If so, could you consummate them?
17-5. Moral Hazard in Bank Loans Suppose that, as an owner of a federally insured S&L in the 1980s, the price of real estate falls, and most of your loans go into default. In fact, so many loans go into default that the net worth of the S&L is negative ($5 million). Federal regulators haven’t
17-4. Auto Insurance Suppose that every driver faces a 1% probability of an automobile accident every year. An accident will, on average, cost each driver $10,000. Suppose there are two types of individuals: those with $60,000 in the bank and those with $5,000 in the bank. Assume that individuals
17-3. AIDS Insurance Suppose your company is considering three health insurance policies. The first policy requires no tests and covers all preexisting illnesses. The second policy requires that all covered employees test negative for the HIV virus. The third policy does not cover HIV- or
17-2. Usage-Based Insurance With a GPS system attached to each insured vehicle, insurance companies are able to charge‘‘usage-based insurance rates,’’ depending onhowmuch, when, and where the insured vehicle is driven. Autograph, a firm that was awarded a U.S. patent in 2001, was shown to
17-1. Business Loan A colleague tells you that he can get a business loan from the bank, but the rates seem very high for what your colleague considers a low-risk loan.a. Give an adverse selection explanation for this, and offer advice to your friend on how to solve the problem.b. Give a moral
5. A moral hazard explanation would tell us that homeowners are __________ likely to lock their houses at night after buying insurance.a. lessb. morec. equallyd. None of the above
4. Due to the problems associated with __________, one would expect a doctor to spend __________ time with patients after buying malpractice insurance.a. moral hazard, moreb. adverse selection, morec. moral hazard, lessd. adverse selection, less
3. Which of the following is not an example of a process designed to combat moral hazard problems?a. Banks include restrictive covenants in loan agreements.b. Universities have students complete evaluations of professor performance at the end of a class.c. Insurance companies require applicants to
2. Moral hazard means that a borrower would be more likely to use loan proceeds to invest in which of the following?a. A blue chip stockb. A mutual fundc. A corporate bond fundd. A start-up biotechnology company
1. Which of the following is an example of moral hazard?a. Reckless drivers are the ones most likely to buy automobile insurance.b. Retail stores located in high-crime areas tend to buy theft insurance more often than stores located in low-crime areas.c. Drivers who have many accidents prefer to
G16-1. Adverse Selection Describe an adverse selection problem your company is facing. What is the source of the asymmetric information? Who is the less-informed party? What transactions are not being consummated as a result of the information? Could you (or do you) use signaling or screening to
16-5. Hiring Employees You need to hire some new employees to staff your start-up venture. You know that potential employees are distributed throughout the population as follows, but you can’t distinguish among them:What is the expected value of employees you hire? Employee Value $50,000 $60,000
16-4. Student Work Groups You’ll complete a number of your school assignments in small groups, many of which will be student selected. Assume group members are rational and select fellow group members based on their assessment of teammates’ intellectual and productive capabilities. Someone you
16-3. ‘‘Soft Selling’’ and Adverse Selection Soft selling occurs when a buyer is skeptical of the quality or usefulness of a product or service. For example, suppose you’re trying to sell a company a new accounting system that will reduce costs by 10%. Instead of asking for a price, you
16-2. IPOs and Adverse Selection Should owners of a private company contemplating an IPO (a sale of stock to the public) release information about the company, or keep as much of it as they can to themselves?
16-1. Bicycle Insurance and Information Asymmetry If bicycle owners do not know whether they are high- or low-risk consumers, is there an adverse selection problem?
5. To overcome the problem of adverse selection, employers can use __________ techniques, such as __________.a. signaling, monitoring employee performanceb. screening, monitoring employee performancec. screening, checking employee referencesd. signaling, checking employee references
4. Which of the following is not an example of adverse selection?a. A business bets the proceeds of a bank loan on the over/under on the next NFL game.b. An accident-prone driver buys auto insurance.c. A patient suffering from a terminal disease buys life insurance.d. A really hungry person decides
3. To combat the problem of adverse selection, __________ informed parties can employ __________ techniques.a. more, signalingb. less, signalingc. equally, screeningd. equally, signaling
2. An insurance company offers doctors malpractice insurance. Assume that settling malpractice claims against careful doctors costs $5,000 and settling malpractice claims against reckless doctors costs $30,000. Doctors themselves know whether they are reckless or careful, but the insurance company
1. If a life insurance company knows that smoking increases the risk of death but is unable to determine which applicants smoke, the problem of __________ refers to __________ being more likely to buy insurance.a. adverse selection, nonsmokers’b. moral hazard, nonsmokers’c. adverse selection,
G15-1. Uncertainty Describe a decision your company has made when facing uncertainty. Compute the expected costs and benefits of the decision. Offer advice on how to proceed. Compute the profit consequences of the advice.
15-5. Lottery Expected Value Tennessee just instituted a state lottery. The initial jackpot is $100,000. If the first week yields no winners, the next week’s jackpot goes up, depending on the number of previous players who placed the $1 lottery bets. The probability of winning is one in a
15-4. Hot Dog Uncertainty You want to invest in a hot dog stand near the ballpark. You have a .35 probability that you can turn your current $15,000 into $50,000 and a .65 probability that fierce competition will drive you to ruin, losing all your money. If you decide not to enter, you keep
15-3. Vickrey Auction Suppose after submitting your sealed bid in a Vickrey auction, you find out that you have lost the auction (you were not the highest bidder); however, you have the opportunity to revise your bid. Would you go ahead and change your bid? Why or why not?
15-2. Two Bidder Auction You hold an auction on eBay and expect two bidders to show up. You estimate that each bidder has a value of either $5 or $8 for the item, and you attach probabilities to each value of 50%. Your own value for the item is zero. You can set a reserve price, a price below which
15-1. Global Expansion You’re the manager of global opportunities for a U.S. manufacturer, who is considering expanding sales into Europe. Your market research has identified three potential market opportunities: England, France, and Germany. If you enter the English market, you have a .5 chance
5. You’re considering holding a closed-bid auction for a new technology your company has developed. One of your assistants raises a concern that the potential for a winner’s curse may encourage bidders to shade their bid values. How might you address this concern?a. Release more information
4. Suppose that the second, third, and fourth bidders from the preceding oral auction form a cartel. What is the new winning price?a. $3b. $4c. $5d. $6
3. Six bidders in an oral auction place the following values on a good: ($6, $5, $4, $3,$2, $1}. In an oral competitive auction, what is the winning price?a. $3b. $4c. $5d. $6
2. You have two types of buyers for your product. The first type values your product at $10;the second values it at $6. Forty percent of buyers are of the first type ($10 value); 60% are of the second type ($6 value). What price maximizes your expected profit contribution?a. $10b. $6c. $7.60d. $8
1. You’ve just decided to add a new line to your manufacturing plant. Compute the expected loss/profit from the line addition if you estimate the following: There’s a 70% chance that profit will increase by $100,000. There’s a 20% chance that profit will remain the same. There’s a 10%
G14-3. Test Your Bargaining Skill7 How do different bargaining strategies influence the final purchase price of a new car? In particular, determine whether having better information, being willing to walk away from a deal, or being male affects the price that you receive.Each group will be assigned
G14-2. Repeated Bargaining Describe a repeated bargaining game your firm faces. Compute and analyze the equilibrium of the game, and explicitly show how it differs from the one-shot (nonrepeated) equilibrium.What advice can you derive from your analysis? Compute the profit consequences of the
G14-1. Sequential Bargaining Describe a bargaining game within your firm, or between your firm and a competitor, or between your firm and a customer or supplier. Draw a formal game tree with the choices and payoffs to each of the parties. (Use numbers if you can estimate them; otherwise, describe
14-5. House Closing You’ve entered into a contract to purchase a new house, and the closing is scheduled for next week. It’s typical for some last-minute bargaining to occur at the closing table, where sellers often try to sweeten their deal. You have three options for the closing: (1) attend
14-4. Price Matching ElectroWorld and Galaxy Appliance are competing retail stores that tacitly bargain with each other in deciding pricing policies. Each can either price high or price low. If both price high, payoffs to each are $50 million; if one prices high and the other low, the low-pricer
14-3. Newspaper Bargaining Two equal-sized newspapers have overlap circulation of 10% (10% of the subscribers subscribe to both newspapers). Advertisers are willing to pay $10 to advertise in one newspaper but only $19 to advertise in both, because they’re unwilling to pay twice to reach the same
14-2. Ultimatum Game Continued How could you take the advantage away from the other player in the ultimatum game?
14-1. Ultimatum Game You are given an offer to split a $20 bill. The other player offers you $1. If you accept the offer, you keep the $1, and the other player keeps $19. If you reject the offer, neither of you will get anything. Do you take the offer?
5. The game of chicken hasa. a second-mover advantage.b. a first-mover advantage.c. no sequential-move advantage.d. potential sequential-move advantages, depending on the players.
4. Pete and Lisa are entering into a bargaining situation in which Pete stands to gain up to$5,000 and Lisa stands to gain up to $1,000. Who is likely to be the better bargainer?a. Peteb. Lisac. They will be equally effectived. The potential gains will have no impact on bargaining
3. Consider a vendor–buyer relationship. Which of the following conditions would lead to the buyer having more bargaining power?a. Lots of substitutes for the vendor’s product are available.b. There are relatively few buyers and many vendors.c. It costs little for buyers to switch vendors.d.
2. How many pure strategy equilibria does the following game have?a. 0b. 1c. 2d. 3 Mgmt. Bargain Hard Be Nice Bargain Hard 0, 0 10, 20 Labor Be Nice 20, 10 15,15
1. For threats or commitments to be effective, they must bea. irrational.b. rational.c. credible.d. None of the above.
G13-3. Repeated Game Describe a repeated game facing your firm. Compute and analyze the equilibrium of the game, and explicitly show how it differs from the one-shot (nonrepeated) equilibrium.What advice can you derive from your analysis? Compute the profit consequences of the advice.
G13-2. Sequential Game Describe a sequential game facing your firm, and represent it in extensive or tree form.Compute and analyze the equilibrium of the game. What advice can you derive from your analysis? Compute the profit consequences of the advice.
G13-1. Simultaneous Game Describe a simultaneous game within your firm, or between your firm and a competitor, or between your firm and a customer or supplier. Draw a formal 2 2 payoff matrix with the strategy choices clearly labeled, and the payoffs to each of the parties. (Use numbers if you
13-5. Auditing Game The manager of a corporate division faces the possibility of an audit every year. She prefers to spend time preparing if she will be audited; otherwise, she would prefer to invest her time elsewhere. The auditor, who gets recognized for uncovering problems, prefers to audit
13-4. Airline Hub Game Two airlines, A and B, are deciding to choose whether Atlanta or Chicago should be their major hub. Given the diagram here, find all equilibria of this game. Airline A Atlanta Chicago Atlanta $40M, $40M $85M, $60M Airline B Chicago $60M, $85M $35M, $35M
13-3. Cell Phone Standards Game Nokia and Ericsson plan to introduce new handheld communications devices. However, they must decide whether to use their own software standard or a common third-partydeveloped standard. The respective payoffs are diagrammed here. What is the likely outcome? Own
13-2. Coke versus Pepsi In 1931, Pepsi was almost broke. The Great Depression hit it hard, and Coke had most of the duopoly market for soft drinks in the United States. Pepsi tried many things: marketing campaigns, label changes, and more. Then it came up with the idea of selling 12-ounce bottles
13-1. Study Group Free Riding 1. In the game shown below, change the ranking of values that Sally and Joe place on leisure and grades to change the game from a prisoners’ dilemma into a game of chicken with two equilibria.2. Give advice to Joe about how to change the game to his advantage.Upper
5. In the previous game, up to how much, if anything, would Joe be willing to pay to move first?a. $0b. $10c. $80d. $90
4. The following matrix representation identifies a Nash equilibrium (Black, Even) for a simultaneous-move game between Joe and Sally. If this were a sequential-move game, and Joe had the opportunity to move first, what would the outcome be?a. Black, Oddb. Black, Evenc. White, Oddd. White, Even
3. If you find yourself in a repeated prisoner’s dilemma, which of the following would be appropriate actions?a. Launch a first strike.b. Punish your competitor severely.c. Respond immediately to your competitor’s actions.d. Make sure your actions confuse your competitor.
2. In a strategic game, if the other player has adopted a Nash equilibrium strategy, you shoulda. also adopt a Nash equilibrium strategy.b. use a strategy that delivers you a higher payoff than the Nash equilibrium strategy.c. use either a orb, depending on the specifics of the game.d. None of the
1. What is the equilibrium of the following game?a. Up, Leftb. Down, Leftc. Up, Rightd. Down, Right Mary Left Right Up 10, 10 15,5 Gary Down 5,15 12, 12
12-3. Amazon Discrimination In September 2000, Amazon offered a Planet of the Apes DVD to customers using a Netscape Web browser for $64.99. Several seconds later, however, a similar search performed with Microsoft’s Internet Explorer browser resulted in a price of $74.99 for the same product.
12-1. Newspaper versus Soft Drink Vending Machines Why do newspaper vending machines allow buyers to take more than one paper while soft drink vending machines dispense just one can of soda at a time?
5. Bundling helps sellers extract more consumer surplus bya. smoothing out different preferences in different buyer groups.b. grouping buyers into more heterogeneous segments.c. implementing an direct price discrimination scheme.d. None of the above.
4. Which of the following statements is consistent with an indirect price discrimination scheme?a. The seller doesn’t have market power.b. The seller has no means to identify different customer groups with different demand elasticities.c. The seller cannot prevent arbitrage between the two
3. Direct price discrimination may be based ona. the age groups of buyers.b. the location of buyers.c. a buyer’s membership in certain clubs or associations.d. All of the above.
2. The strategy underlying price discrimination isa. to charge higher prices to customers who have good substitutes available to them.b. to charge everyone the same price, but limit the quantity they are allowed to buy.c. to increase total revenue by charging higher prices to those with the most
1. The individual demand curve slopes downward becausea. the value an individual places on an extra unit of the good decreases.b. the amount an individual is willing to pay for the additional unit increases.c. the total value consumers derive from consuming a product increases when they consume
WHY (PRICE) DISCRIMINATE?
G10-2. Yield or Revenue Management Describe a pricing decision your company made that involved a product or service with fixed capacity. Was price set optimally? If not, why not? How would you adjust price?Compute the profit consequences of the change.
G10-1. Pricing Commonly Owned Products Describe a pricing decision your company made involving commonly owned products.Was it optimal? If not, why not? How would you adjust price? Compute the profit consequences of the change.
10-5. Yield or Revenue Management 3 Suppose your parking lot has two different consumers who use it at two different times.Daily commuters use it during the daytime, and sports fans use it at different times to park at sporting events. Daily commuter demand is variable, yet stable and known.Demand
10-4. Yield or Revenue Management 2 Suppose your elasticity of demand for your parking lot spaces is –0.5, and price is $20/day.If your MC is zero, and your capacity at 9 A.M. is 96% full over the last month, are you optimizing?
10-3. Yield or Revenue Management 1 Suppose your elasticity of demand for your parking lot spaces is –2, and price is $8/day. If your MC is zero, and your capacity is 80% full at 9 A.M. over the last month, are you optimizing?
10-2. Pricing Commonly Owned Complementary Products You are a hospital administrator trying to raise capital to refurbish the hospital. Your local bank is reluctant to lend to you because you already have a large mortgage on the property on which the hospital complex lies. But your bankers tell you
10-1. Pricing Commonly Owned Substitute Products Branded drugs face generic entry by rival drugs that typically take 80% of sales away from the branded drug within three years. This loss occurs because generic drugs are much cheaper than branded drugs, and most insurance companies won’t pay for a
5. Local retailers and producers often use weekly mailed circulars to promote their products to local consumers. The circulars feature a variety of products and make consumers aware of pricing advantages of the products available at local establishments. How would you expect one of the retailers to
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