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Themes for Profit Maximization

Themes for Profit Maximization Pro sports teams, like most firms, have some degree of market power market power < = > ability to control price for pricing decisions, use "monopoly" model market power is enhanced by entry restrictions of leagues

JasminFlorian
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Themes for Profit Maximization

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  1. Themes for Profit Maximization • Pro sports teams, like most firms, have some degree of market power • market power < = > ability to control price • for pricing decisions, use "monopoly" model • market power is enhanced by entry restrictions of leagues • What was impact of Alex Rodriguez on ticket prices for Texas Ranger games? • Philadelphia Flyers (hockey) always sell out • Phillies (baseball, same town) seldom do • Is someone screwing up?

  2. Maximizing Profit • How do we define profit? • p= TR-TC • TC includes Opportunity Cost • Why did the Dodgers leave Brooklyn? • Were highly profitable, but ... • O’Malley perceived greater profit in LA

  3. Where are profits maximized? • Where MR = MC • Demand & Marginal Revenue • TR = P*Q • P is average revenue (TR/Q) • MR = ΔTR/ΔQ • incremental revenue per unit of incremental sales • Since D slopes down, MR < P at every Q

  4. P = A - bQ TR = PQ = AQ - bQ2 MR = ΔTR/ΔQ = A - 2bQ "The MR Rule" MR has same intercept as demand & twice the slope Ex: P = 100 - .01Q MR = 100 - .02Q MR with Linear Demand $100 D 5000 10,000 MR

  5. Optimal Ticket Prices • Optimal, from the seller's point of view • What – literally – are teams selling? • Tickets – the right to sit for 2-3 hours • The cost of selling 1 more ticket is very low ~$0 • At least up to capacity • What kind of cost is Jaromir Jagr’s salary? • Hint: What does he cost if 1 million attend? • What does he cost if 1 thousand attend?

  6. Assume no capacity constraint Let MC = 0 for simplicity (rather than 25 cents) Optimum: where MR = MC = 0 MR = 100 - 0.2Q = 0 Q* = 100 / .02 = 5000 P* = 100 - .01(5000) = $50 The Profit Max Price is $50 Profit Max Ticket Prices $100 P*=$50 D MR Q*=5000

  7. A Paradox – and a Solution • Signing Jagr in 2001 imposed a fixed cost on Washington Caps • Fixed Costs do not affect MR=MC • But teams claim ticket prices go up because of higher talent costs • When Caps signed Jagr, ticket prices jumped • Does this refute the profit max model of ticket prices? • No. Fans' WTP for games increases with more talented players • Demand (& MR) shifted out

  8. Another Paradox • Do Phillies charge too much? • Do the Flyers charge too little? • Some basic assumptions • Both teams exercise market power • Demand is same for both teams • MC ~= $0 • Capacity of stadiums is only difference

  9. Phillies' Pricing Strategy • Why does MC look like this? • --Stadium Capacity ~ 60,000 • Does it pay for the Phillies to sell out? • They couldn't do it if they gave tickets away for free! $ MC $20 D MR

  10. How About the Flyers? • Arena capacity ~17,000 • --What does this mean for their MC curve? • Does it pay for the Flyers to sell out? • What does this mean for prices? • Phillies vs. Flyers P MC D MR

  11. More Sophisticated Pricing:Price Discrimination • Consumer Surplus • Different individual values, but each pays P • Also applies to 1 buyer • MV declines w/ Q • Can seller can charge different P? • Ideal: P = MV each unit • When is this possible? P P0 D Q

  12. Forms of Price Discrimination • Successful Price Discrimination requires: • 1. market power (obvious) • 2. information • Must know differences in MV across consumers, Q • 3. separation • Must keep high MV consumers from buying at lower P • First degree price discrimination: • know WTP of all consumers for all Q • Second degree • know demand curve slopes down • Third degree • know different groups behave different demand elasticities

  13. First Degree Price Discrimination • Know what everyone is willing to pay • Can charge everyone a different price • Seller captures all consumer surplus • P = MV for each unit • More efficient • P=MC for last unit • No DWL • Hard to do in practice $ MC D MR Q QM Q*

  14. 2nd Degree Price Discrimination P • Don’t know WTP for everyone • Do know demand slopes down • Charge less for additional tickets • Captures some consumer surplus • What happens at right? • Group sales/season tickets $25 $20 $15 D 1 4 8 # Games

  15. Third Degree Price Discrimination $/Q • Can separate groups • Here, group #2 WTP more than group #1 • If can keep markets separate, profit max P2 > P1 • What if charges a single price? P2 D2 P1 MC Q2 Q1 D1 MR1 MR2

  16. Personal Seat Licenses • New innovation in pro sports • First used in pros by Carolina Panthers • Long history of similar payments in colleges • booster contributions for choice seats • PSL: payment for right to buy season tickets • Similar to golf course membership: pay for right to play • A puzzle to economists: where is gain from PSLs? • If pay for $$$$ PSL, will pay less for ticket

  17. Key to PSLs: Consumer Surplus $/Q • Charge competitive price for tickets • Not monopoly price • Walker Course Membership • Fan is WTP for opportunity to buy tix • With PSL: • Team gets ABC • Not just B A PM B D C PC Q MR

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