9. RC Cola is considering marketing a new, fruit flavored soft drink. It hires M
ID: 1191706 • Letter: 9
Question
9. RC Cola is considering marketing a new, fruit flavored soft drink. It hires Mark-D Design to develop the can logo and design. RC calculates that a good design raises can sales and is worth $.75 million to them. They agree to pay $.60 million for an acceptable design. Mark-D spends $.45 million on developing the logo and design. The design can be sold elsewhere for only $.15 million.
Ex-ante, what is Mark-D’s expected profit?
Ex-post, what is Mark-D’ expected profit over its next best alternative?
If RC tries to hold-up Mark-D, what is the lowest price they can offer? What is Mark-D’s profit in this case?
If RC anticipates needing can design in the future, will this change its incentive to hold-up Mark-D? Explain.
Explanation / Answer
In an ex-ante situation Mark-D's expected profit =$.(60-45)=$.15
Say, if they pays $.60 to Mark-D and he spends $.45 for developing the logo and design and opportunity cost=$0.15 thus, ex-post expected profit =$.(60-45-15)=0
Since the mark up percentage is not specified we cannot estimate an unique numeric value and its corresponding profits.
If RC needs to change it then, they would offer lower price for the present design for the next periods. But this may happen depending upon the elasticities of both RC and Mark-D.
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