Consider the lucrative but highly competitive industry of dog toy manufacturers.
ID: 1231094 • Letter: C
Question
Consider the lucrative but highly competitive industry of dog toy manufacturers. The industry is dominated by Tucker's Toys, Finch's Frisbees, Morgan's Munchables, Riley's Rawhides, and Pecos' Pets. With five major firms, business is highly competitive. If any of the firms tries to raise prices even by a little, customers flock to the lower-priced competitors. Demand for product from any one firm is virtually horizontal (perfectly elastic), and production costs are such that marginal costs are fairly constant over a wide range of output.Finch, being a very shrewd business owner, decides that if he produces his goods in an environmentally friendly fashion, his customers will be pleased and as a result his dog toys will be seen as slightly different from those of the others. He can stand out a little from the rest of the pack. In other words, demand for his product will not be quite so elastic.
Before implementing the eco-policy, Finch's Frisbees are selling for $1 each, at which price he manages to sell 1 million a year and just breaks even. If the company implements an eco-policy, customers will become more loyal and the company will be able to charge $1.10 for its products, though at that price only sell 900,000 per year.
Assuming demand is linear, what is the maximum amount Finch's Frisbees would be willing to pay to green its company? Assume all of the other firms are sufficiently backward to not understand the advantages of becoming greener. Show all of your work.
Explanation / Answer
Price without Eco = $1 but Finch's Frisbees just breaks even => Cost = $1 Profit with Eco = Revenue - Cost = $1.1 - $1 = $0.1 per unit Total Profit with Eco = $0.1 * 900000 = $90,000 Unless they are worse off than before, they have incentive to switch. => Finch's Frisbees will be willing to pay upto $90,000 to green its company.