Question

1. Price Discrimination - Two Parts Pricing: Xerox

In early days, the Xerox Corporation faced the following pricing problem for its copying machines (there was hardly any competition then). There were two segments of potential users, the large users --whose copying needs were 20,000 copies per year – and the small users -- whose copying needs were 2,000 copies per year. Xerox found that a large user would be willing to pay as much as $25,800 to buy a Xerox machine provided supplies from Xerox were free of charge over the life of the machine; similarly, a small user would be willing to buy a Xerox machine for $6,700 provided Xerox supplies free supplies. The expected life of a machine is 5 years. There are equal numbers of large and small users. The total number of users is 200.

Xerox's marginal cost of producing each of these machines was estimated to be $1,900.
Its marginal cost of paper was $0.03 per sheet. Xerox used a 10% discount rate, i.e., if it generated an income of $1 each year for 5 years, then its present value of that income stream is 1/1.10+1/1.102+...+1/1.105)=$3.79

(1) What should be the selling price of these machines (bundled with paper) if Xerox decided to go with single price (assume that everyone pays the same price and the buyers must pay immediately).

(2) Xerox wonders if it can make more money leasing the machines instead of selling them. The leasing policy will involve a yearly rental charge (payable at the end of each year) and a charge per copy made (monitored via the copy meter on the machines) -- cumulated over each year and payable at the end of the year. Only one leasing plan -- i.e., a single rental charge and a single per-copy charge -- is being contemplated. What should be Xerox's leasing policy? (Assume that each user also uses a 10% discount rate).

(3) Explain in a few words why the leasing plan does better than the single price plan?

Answer 1

1.The selling price of the machine is $4,900.

2. The rent for large users is $1,101.32 per year.

and The rent for the small users is $561.32 per year.

3. The leasing policy is better than the single price policy because in single price policy, the small sellers are paying more money to vendors and in leasing policy the large users and small users are paying as per their paper capacity.

Calculations:

Calculate the selling price of the machine as shown below

Marginal cost of producing machine = $1,900

Selling price for of machine = Marginal cost + (Number of copies * Rate * number of years)

                                            = $1,900 + (20,000 * $0.03 * 5)

                                            = $1,900 + $3,000

                                            = $4,900

Hence the selling price of the machine is $4,900.

2. Calculate the rent as per leasing policy

Rent for large users = (Marginal price / Present value rate) + (Number of copies * Rate)

                                = ($1,900 / $3.79) + (20,000 * $0.03)

                                = $501.32 + $600

                               = $1,101.32

Hence the rent for large users is $1,101.32 per year.

Rent for small users = (Marginal price / Present value rate) + (Number of copies * Rate)

                                = ($1,900 / $3.79) + (2,000 * $0.03)

                                = $501.32 + $60

                                = $561.32

Hence the rent for the small users is $561.32 per year.

3. The leasing policy is better than the single price policy because in single price policy, the small sellers are paying more money to vendors and in leasing policy the large users and small users are paying as per their paper capacity.