Question

Problem VI C-D: Apple used to produce two different versions of the Iphone, Iphone 5s and Iphone 5c. Assume the cost of production is zero. There are two types of consumers on the market, knowledgeable consumers and kids. Knowledgeable consumers value the Iphone 5s at $220 for its superior technology and the Iphone 5c at only $120. Kids don’t know that much about technology and they like colors a lot so their valuations are $110 for the Iphone 5s and $100 for the Iphone 5c. Apple is designing a pricing strategy to sell the Iphone.

c) Apple is also considering not selling to kids at all and only offering the Iphone 5s for $220 to knowledgeable consumers. What would be the profit in this case?

d) For which values of ? will Apple find it profitable to offer both types of phones and sell to both knowledgeable consumers and kids?

Please answer this question in complete detail as I don't understand this subject too well. Thank you

Answer 1

It is given that the cost is zero. Also, the valuation of knowledgeable consumers are $220 and $120, and valueation of kids are $110 and $100. Assume that there are x knowledgeable consumers and y kids.

(c) In case apple seels 5s for $220, the knowledgeable consumers would purchase it, and apple would generate a profit of $220 per phone, as cost is zero. Also, as there are x knowledgeable consumers, the total profit of apple would be $220x.

(d) Note that Apple can not seperate one market from other, ie they can't set different prices for knowledgeable consumers and different price for kids, as if they set less price for kids, the knowledgeable consumers would know and purchase only at that price and not above. Now, suppose there are a consumers among knowledgeable consumers who would buy 5s and b consumers among knowledgeable consumers who would by 5c, and there are c consumers among kids who would buy 5s and d consumers among kids who would by 5c. Hence, and .

Hence, if Apple sets price according to knowledgeable consuemrs, then their profit would be , as no kid would buy since their reservation price is lower than the price setted. Also, if Apple sets price according to kids (and hence knowledgeable consuemrs also), then their profit would be , as knowledgeable consumers would buy as their reservation price is above than the price setted.

Hence difference is or . If , ie or , then it would be better to set the price according to kids. Otherwise, if or , then it would be better to set the prices only for the knowledgeable consuemrs. However, if or , then doesn't matter according to whoever's valuation's price is set, profit would be the same.

What is to be noted is that, what matter in this scenario is that how many buyers are there in each category of a, b, c and d. That will decide which pricing stratergy is best for apple.