Universal Studios just completed a new movie called "Moon Wars" that had $100,000,000 in production costs, and the companywants to get back its investment, plus make as large a profit as possible. The marginal cost of supplying a movie to the public is $1 per moviegoer. (The revenue from all ticket sales goes to Universal Studios, from which the company rebates to theaters $1 for each moviegoer.) Movies only sell for one year, after which the public can watch them for free.
If Universal Studios does not advertise "Moon Wars" it expects that the demand for the movie will be
QD = 32,000,000 - 2,000,000P.
where P is the price of a movie ticket.
Universal Studios is considering two different levels of movie promotion.
Level I: Spend $10,000,000, and simply advertise to make the general public more aware of "Moon Wars." This will shift the demand curve out by 6,000,000 to
QD = 38,000,000 - 2,000,000P.
Level II: Spend $30,000,000, create a big fanfare around the release of the movie, differentiate it from all other movies and make it a unique one-of-a kind experience which no other movie will be able to duplicate. Doing so will create a group of loyal Moon Wars followers, who personally identify with the movie's theme and characters, and are much less sensitive to its price. But, the movie will lose some of its appeal to general audiences, and the demand curve will shift in by 1,000,000. The demand curve will change to
QD = 31,000,000 - 1,000,000P,
Just to reiterate, the Level II demand equation has less overall demand (an intercept of 31,000,000 on the horizontal axis instead of 32,000,000), but half of the sensitivity to price (a coefficient on P of 1,000,000 instead of 2,000,000).
1. What should Universal Studios do-engage in Level I spending, Level II spending or just release the movie without promotion?
2. How much profit will the studio make under each of these three choices?
- Profit with no promotion ____________________.
- Profit with Level I promotion ____________________.
- Profit with Level II promotion ____________________.
3. What will the movie ticket price be under each of these scenarios?
- Price with no promotion _________________.
- Price with Level I promotion ________________.
- Price with Level II promotion ________________.
4. How many people will go see Moon Wars in each case?
- Quantity with no promotion _________________.
- Quantity with Level I promotion _________________.
- Quantity with Level II promotion _________________.
5. How many more people saw the movie under Level II promotion than with no promotion at all?
6. What is the Lerner index for each of these three cases? That is, what percent of the ticket price is markup over marginal cost?
- Lerner Index with no promotion _______________.
- Lerner Index with Level I promotion ________________.
- Lerner Index with Level II promotion _______________.
7. What is the producer surplus with each of these three cases?
- Producer surplus with no promotion ______________________.
- Producer surplus with Level I promotion _____________________.
- Producer surplus with Level II promotion _____________________.
8. What is the consumer surplus with each of these three cases?
- Consumer surplus with no promotion ______________.
- Consumer surplus with Level I promotion_____________.
- Consumer surplus with Level II promotion _______________.