Case Study – United Airlines

Task summary:Use only the attached reading to answer the case study regarding ANALYZING MANAGERIAL DECISIONS: United Airlines in a 300-word APA-style paper. Reference it at least 3 times inside the discussion.

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The WSJ recently presented data suggesting that United Airlines was not covering its costs on flights from San Francisco to Washington, D.C. The article quoted analysts saying that United should discontinue this service. The costs per flight (presented in the article) included the costs of fuel, pilots, flight attendants, food, etc., used on the flight. They also included a share of the costs associated with running the hubs at the two airports, such as ticket agents, building charges, baggage handlers, gate charges, etc. Suppose that the revenue collected on the typical United flight from San Francisco to Washington does not cover these costs. Does this fact imply that United should discontinue these flights? Explain.

Comcast Corporation, Charter Communications, and other cable TV providers disseminate
subscription video content to consumers over wired telecommunication networks.1 Historically,
consumers in most local markets had but one choice—purchase cable TV from the one local
provider or watch the locally broadcast “free” channels. Subject to regulatory constraints, local
cable companies could set their prices without fear that they would be undercut by the
competition. Correspondingly, annual price increases for cable TV often exceeded the rate of
inflation. According to the Federal Communications Commission, the average monthly price for
cable TV rose by more than 90 percent between 1995 and 2005.
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The market environment facing cable TV providers has changed significantly over the last 25
years. DirecTV began to offer an alternative to cable TV in the mid-1990s—satellite TV. More
recently, there has been a tremendous growth in video streaming services, such as Netflix, Hulu,
and Amazon, which compete for many of the same customers. In 2017, YouTube initiated a live
TV service that competes directly with cable providers—customers could purchase a basic
package of 50 broadcast and cable networks for $35/month. Many young adults have chosen to
forgo cable TV altogether. Others have canceled their subscriptions. The number of cable TV
subscriptions has fallen from over 100 million in 2010 to just over 80 million in 2018. Further
declines are projected over the next decade.
In response to the increased competition, cable companies initiated various major policy
changes. First, they became more competitive in the pricing of their basic packages. As Charter’s
CEO noted, “We’ve got to think twice about rate increases.” Second, cable companies began
offering new price/channel packages to cater to various consumer groups with different
price/channel sensitivities. For example, AT&T introduced a premium package of 150 channels
for $50 per month and an economy package of 100 channels for $40 per month. Previously,
they only offered a 125-channel package for $43 month. Third, increased competition affected
the companies’ advertising strategies. For example, companies began promoting the relative
benefits of cable TV (such as access to local channels, reduced “rain fade,” not having satellite
equipment detract from the appearance of the home, and so on). Fourth, cable companies
began to bundle Internet access and Internet-protocol telephony services with their cable TV
packages. These policy changes have helped slow the decline in their number of subscribers.
This example illustrates how policy choices—such as pricing, product design, and advertising—
are influenced critically by the market environment. Policies that work within a protected
market environment often have to be amended materially when facing a more competitive
environment. It is important that managers understand the firm’s market environment and how
market circumstances affect decision making. Our purpose in this chapter is to enhance that
understanding by exploring the implications of alternative market structures. Our primary focus
is on output and basic pricing decisions within different market structures. In subsequent
chapters, we examine more complex pricing policies and how other policies, such as aspects of
the firm’s strategy and organizational architecture, also depend on the market environment.
We begin by discussing markets and market structure in greater detail. We then provide an
analysis of competitive industries. Perfect competition is at one end of a continuum based on
the environment in which prices are determined within the industry. Competitive markets
provide important managerial implications for firms operating within a broad class of market
settings. Next, we discuss barriers to entry that can limit competition within an industry. This
section is followed by an analysis of the market structure at the other end of the continuum:
monopoly. In a monopolistic industry, there is but one firm. In contrast to firms in competitive
industries, a monopolist has substantial discretion in setting prices. After a brief discussion of a
relatively common hybrid structure—monopolistic competition—we consider the case of
oligopoly, where a small number of rival firms constitute the industry.
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Markets
A market consists of all firms and individuals who are willing and able to buy or sell a particular
product.2 These parties include those currently engaged in buying and selling the product, as
well as potential entrants. Potential entrants are all individuals and firms that pose a sufficiently
credible threat of market entry to affect the pricing and output decisions of incumbent firms.
Market structure refers to the basic characteristics of the market environment, including (1) the
number and size of buyers, sellers, and potential entrants; (2) the degree of product
differentiation; (3) the amount and cost of information about product price and quality; and (4)
the conditions for entry and exit. We begin our analysis of alternative market structures by
examining competitive markets.
Competitive Markets
Economists generally characterize competitive markets by four basic conditions:
A large number of potential buyers and sellers.
Product homogeneity.
Rapid dissemination of accurate information at low cost.
Free entry into and exit from the market.
Although few markets are perfectly competitive, many markets closely approximate this
description. Moreover, competition establishes a benchmark that yields useful insights into
other market settings. An example of a market that comfortably satisfies the conditions for a
competitive market is the market for soybeans. In this market, a relatively large number of
farmers grow soybeans, and a large number of firms and individuals purchase soybeans.
Soybeans are a relatively homogeneous commodity; the product varies little across producers.
There are limited informational disparities, and entry as well as exit are essentially costless.
In competitive markets, individual buyers and sellers take the market price for the product as
given—no single participant has any real control over price. If a seller charges more than the
market price, buyers simply will purchase the product from other suppliers. And firms always
can sell their output at the market price; thus, they have no reason to offer discounts to attract
buyers. In this setting, firms view their demand curves as horizontal—a firm can sell any feasible
output at the market price, P*—but sells no output at a price above P*. Figure 6.1 illustrates a
horizontal demand curve. With a horizontal demand curve, both marginal revenue (MR) and
average revenue (AR) equal price.
Figure 6.1 Firm Demand Curve in Perfect Competition
In competitive markets, firms take the market price of the product as given. The demand curve
is horizontal. Both marginal revenue and average revenue are equal to the market price.
Firm Supply
Short-Run Supply Decisions
In the last chapter, we saw that a firm’s profit is maximized at the output where marginal
revenue equals marginal cost. The intuition of this result is straightforward—it makes sense to
expand output as long as incremental revenue is greater than incremental cost. Past this point,
profits decline with additional output since incremental revenue is less than incremental cost. In
a competitive market, marginal revenue is equal to price (P). In the short run, the firm takes its
plant size (and possibly other inputs) as given. The relevant cost is short-run marginal cost
(SRMC). The condition for short-run profit maximization in a competitive industry is
P* = SRMC(6.1)