On January 30, 2007, Microsoft launched its newest operating system, Vista, to consumers. The project, years late and billions of dollars over budget, was one of the largest technology projects in history. Microsoft spent somewhere in the neighborhood of $6 billion developing the 50 million lines of code that constitute Vista, but some analysts project it will make nearly twice that in operating profits in just the first six months following its release. Because each copy of Vista costs Microsoft only a few dollars to produce, Microsoft's profit margins will be enormous.
The launch of Vista will also translate into more revenue for retailers like CompUSA, Circuit City, Best Buy, and countless mail-order catalogs and Internet retailers. However, as this article from the Financial Times points out, the profit margins of these retailers are much slimmer than Microsoft's.
Why the difference in profit margins? The market for operating systems is dominated by a single seller (Microsoft), while the software retail market is competitive. Hence, Microsoft is able to make enormous profits by any measure, while retailers make much smaller profits.
According to the article, retailers might in fact have slimmer profit margins on the Vista operating system if which of the following happens
A. Intel and AMD engage in a price war in the computer chip maker
B. Consumers discover that they need to upgrade their hardware to run Vista
C. Apple introduces a new operating system
D. Consumers have difficulty using the new operating system
The biggest difference between Microsoft and software retailers is the market structure in which they operate. Microsoft acts as a monopoly, while companies like Circuit City and Best Buy operate in a competitive market, competing with each other and with hundreds of other stores. For simplicity, let's think of Circuit City as being a representative store.
Suppose Microsoft sells the basic version of Vista to retailers such as Circuit City for $190 per copy. If Microsoft were to raise that price to $290, which of the following would happen?
A. Retailers would not change the number of copies of Vista they order from Microsoft.
B. Retailers would increase the number of copies of Vista they order from Microsoft
C. Retailers would reduce the number of copies of Vista they order from Microsoft
D. Retailers would cancel all their orders of Vista
Initially, suppose all retailers sell the basic version of Vista for $200. Suppose Circuit City were to raise the price at which it sells Vista to $300, but the rest of the retailers were to keep their prices the same. Which of the following would happen? (Assume customers are perfectly informed about prices, and that they can just as easily go to any store.)
A. Few, if any, consumers would buy Vista from Circuit City.
B. More people would buy Vista from Circuit City
C. Most people who would have bought Vista from Circuit City will continue to do so.
D. It would have no effect on sales; the same number of people would buy Vista from Circuit City as if they price hadn't changed.
The following three graphs show different kinds of demand curves.
The demand curve that Microsoft faces for Vista most likely looks like ___, while the demand curve that a small software retailer faces for Vista most likely looks like _____.
A. Graph I; Graph II
B. Graph I; Graph III
C. Graph III; Graph I
D. Graph III; Graph II
E. Graph II; Graph III
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Suppose Microsoft chooses to produce 80 million copies of the software per year and sells copies of the software to retailers at $199 per copy.
Now consider the problem of a retailer like Circuit City or Best Buy. Such retailers can sell as many copies of Vista they like at the prevailing market price of $200.
If Circuit City sold 2 million copies of Vista, it would earn ___ in revenue. If it sold 4 million copies of Vista, it would earn ___ in revenue.
A. $700 million; $1.2 billion
B. $400 million; $800 million
C. $1.2 billion; $1.5 billion
D. $800 million; $1.2 billion
Compare the additional revenue Circuit City makes as it moves from 2 million to 4 million copies of Vista with the additional revenue it makes as it moves from 4 million to 6 million copies of Vista. If Circuit City wants to sell more copies, the additional revenue from each additional copy it sells:
A. Decrease, because Circuit City must lower its price to sell additional copies
B. Remains the same, because Circuit City sells all of its copies of Vista at the market price
C. Remains the same, because Circuit City must lower its price to sell additional copies
D. Decreases, because Circuit City sells all of its copies of Vista at the market price.
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Marginal revenue is the additional revenue that companies make when they sell more copies of Vista. Think about your answers to the previous questions. You should have found that the marginal revenue for Microsoft is different from the marginal revenue for computer retailers.
The difference helps to explain why Microsoft earns higher profit margins than retailers. Every firm sets marginal revenue equal to marginal cost when making any decision. Because of the different shapes of their marginal revenue curves, the price at which Microsoft sells Vista is ____ its marginal cost, while the price at which retailers sell Vista is ____ their marginal cost.
A. Equal to; less than
B. Greater than; equal to
C. Equal to; greater than
D. Greater than; less than
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The assumption of the perfectly competitive model is that products sold by all retailers are completely identical. Under this assumption, as we've seen in this analysis, competition between retailers is extremely fierce.
In practice, retailers try to gain some degree of market power by differentiating themselves from one another. This might make the demand curve facing each retailer slightly less like a perfectly competitive firm and more like that of a monopoly-a market structure sometimes called "monopolistic competition." Which of the following are examples of strategies that a retailer might use to seem different from its competitors?
I. Bundle Vista with other items, like peripherals or MP3 players
II. Try to offer Vista at the lowest possible price
III. Offer free technical support for 30 days after a purchase
IV. Serve free cappuccinos in the store
V. Offer a store reward card in which in-store purchases count toward future rewards.