Question

You are a profit-maximizing firm. Suppose there are two types of customers (50% of 1 type, 50% of the other) who shop in your specialty clothing store. Consumers of type R will pay __B= $80__ for a coat and __C= $ 60__ for pants. Consumers of type S will pay __D= $60__ for a coat and __E= $ 75__ for pants. Your firm faces no competition and but it does pay for the clothing, __F=$30__ per coat and __G= $ 50__ per pair of pants, i.e. MCcoat = __F= $30__ and MCpants= __G= $ 50__. You can’t price discriminate. You offer the same prices to all your customers.

Suppose instead that you only offer a bundle of one coat and one pair of pants (which we would call a suit.) What is the profit-maximizing price to charge for the suit?

Answer: Price for suit = $_______

Step 1

The Marginal Cost of Supplying both coat and pant in a bundle will be = $30 + $50 = $80

After bundling, a single price is charged for every unit of the bundle. This strategy is commodity bundling.

Optimal bundling price will be calculated based on the reservation prices of the two types of consumers.

If customers of R type have reservations against paying over $80 for a coat, they will not buy if it’s priced higher than that. So, the price must be set considering how much market share or revenues the company might lose by setting a higher price.snip

For example, At a price of $60 both R and S type will buy the coats. At a price of $80, however, only R type will buy the coats.

When both R and S type buy, Revenues = $60 * 1 Million (Assuming there are 1 Million consumers in total.)

When only R type buy, Revenues = $80 * 0.5 * 1 Million = $40 Million

Therefore, $60 is the optimal price for coats.

Similarly, At price of $60 both R and S type buy the pants whereas at a price of $75 only S type buy the pants. Revenues will obviously be higher when both R and S type buy (1 Million * $60 = $60 Million) when compared to just S type buying (0.5 * 1 Million * $75 = $37.5 Million).

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