Question

consider a company faced with a competitor’s price reduction. Should the company also reduce price in order to maintain market share or should the company maintain its current price? The company has conducted some preliminary research showing the financial outcones of each decision under two competitor responses; the competition maintains its price or the competition lowers its price further. The company feels pretty confident that the comprtitor cannot lower its price furthrr and assigns that outcome a probability (p) of 0.6, which means the otger outcome would have only a 40 percent chance of occurring (1-p=0.4). These outcomes are shown in the table below.

The expected monetary value of reducing the price is $ (round to the nearest dollar)

Competitive Response Company action Maintain Price Reduce Price (1-p) - 0.4 $135,000 $115,000 p 0.6 Reduce Price $165,000 $175,000 Maintain Price

Answer 1

Since the probabilities of competitive response are not equal, we will calculate the expected value for each of the scenario and select the scenario where the expected value is more. The expected value can be calculated as below:

Expected value (X) = X₁p₁ + X₂p₂ + X₃p₃ + ..... where p_n represents the probability of occoring event X_n

_{In this case, Expected value = Value if competitor maintained price * Probability of maintaining price + Value if competitor reduced price * Probability of reducing the price}

1. Company monetary value if the price is reduced:

Expected value = 165000 * 0.6 + 135000 * 0.4 = $ 153,000

2. Company monetary value if the price is maintained:

Expected value = 175000 * 0.6 + 115000 * 0.4 = $ 151,000

Since the expected value is more if the company reduces price, price should be reduced