Question

Please provide a recommendation regarding whether we should maintain our current price or reduce our price to $79.95. Please factor into your recommendation that we pay programming fees that amount to $49.50 per subscriber. In addition, maintenance, service, and billing costs are about $6.50 per subscriber. At present, there are 110,000 households in the relevant market.

Answer 1

Total household in the relevant market is 110,000. If the company maintain same price i.e $79.95 then it's market share is 65%. If the company charges 10% premium charges over its price then it's market share is 60%. The company's current position is it is charging the price above it's competitor and this higher price is this 10% premium.

Current price is $79.95 + 10% of $79.95 = $87.945.

In this price it's market share is 60% of total household. 60% of total household would be 110,000*60% = 110,000*0.60 =66,000. If there is demand of 66,000 under current price of $87.945 then it's total revenue under present condition is $87.945*66,000 = $5,804,370. This is total revenue under present situation.

Now if it reduces the price and bring it to the $79.95 i.e equal with the competitor then it's market share is 65%. So, 65% market share means total demand 65% of 110,000 = 71,500. Under price same with competitor i.e after reduce it to the $79.95 the total revenue of the company will be equal to $79.95*65,000 = $5,716,425.

Now we calculate the cost of the company and per subscriber cost is $49.50(programming fees) + $6.50(maintenance, servicing, billing cost) = $56.

In the first case where it's demand is 60% i.e 66,000 then it's total cost in that case $56*66,000 = $3,696,000. Total profit under premium price charge is $5,804,370 - $3,696,000 = $2,108,370.

Under second case i.e after price reduction to $79.95 and charging same price to competitor it's total cost will be $56*65% of 110,000 = $56*71,500 = $4,004,000. Total profit under price reduction would be $5,716,425 - $4,004,000 = $1,712,425.

So profit of the company under no price reduction and under current pricing is $2,108,370 but after price reduction the profit of the company would be $1,712,425.

As $2,108,370 > $1, 712,425 , the company should not reduce its price and should maintain the current price is $87.945. This is the price after charging 10% premium charges over $79.95.