DECISIONS
The first decision you must make as company managers is the selling price of your Holo-Generator. Managers use price to match what people want (demand) with what is available (supply). Price also is a very important factor in determining how much profit you make. The profit that you make is equal to the price you charge multiplied by the number of Holo-Generators you sell minus what it costs to make and sell them.
You want to sell as many Holo-Generators as possible at the highest possible price and lowest possible production cost. The number of Holo-Generators you can sell depends on the quantity that customers want to buy and the number you have in inventory.
Your company has the opportunity to set a new price for your Holo-Generators in each period. Choose a price to balance the orders you receive with the number of Holo-Generators you have available to sell. Keep your competitors in mind when you are setting your price so they don’t outfox you.
At the start of the simulation, all companies charge $30 for a Holo-Generator. As you decide on a price, you need to think very carefully about what kind of company you want to build.
- High-Price Strategy. Some Holo-Generator companies plan to produce high-quality products, charge high prices, and make a big profit on each Holo-Generator sold realizing that fewer customers will buy their product. Can you name companies that follow this strategy to sell automobiles, clothing, athletic shoes, stereo equipment, and other popular items?
- High-Volume Strategy. Some Holo-Generator companies plan to keep prices low and sell as many Holo-Generators as possible. With a high-volume, they don’t need to make as much profit on each Holo-Generators they sell. What are some companies that follow this strategy to sell consumer products?
- Middle Strategy. Some companies choose to sell their Holo-Generators in the middle price range. They offer a good quality product for a reasonable price.
Holo-Generator companies can be successful with whichever strategy they choose. The key is to develop a plan and carry it out.
The orders you receive for Holo-Generators indicate how many people wanted to buy the product at the price you charged. Look at the Industry Report to see how many orders were received for every brand of Holo-Generator. Look at the Company Report to see how many orders were received for your company’s Holo-Generators.
The supply of Holo-Generators you have to sell in a period is equal to the number of Holo-Generators you produce in a period plus the number of Holo-Generators left over in inventory from the last period. Look at the Industry Report to see the total number of Holo-Generators produced by all the Holo-Generator companies. Look at your Company Report to see how many Holo-Generators your company produced in the last period and how many are in inventory to be sold during the next period. The number you produce in the next period plus the number now in inventory is your supply, or the number of Holo-Generators you have to sell during the next period.
How did the price you set last period help you balance supply with demand? Did your company have orders that it was unable to fill? If so, you could have made more profit with a higher price. Did your company produce more Holo-Generators than it could sell? If so, you could have made more profit by selling them at a lower price. You make the most profit by selling as many Holo-Generators as you can at the highest price you can charge. That means picking a price that brings in just enough orders to sell all the Holo-Generators you produce.
Your profit depends on the decisions your company makes in relation to the prices set by the other Holo-Generator companies. The company with the lowest price will get the most orders. The company with the highest price will have fewer orders for its Holo-Generators. When you select the price for your company’s Holo-Generators, you must remember that all your competitors also have to make that decision. They all want to pick a price that is just below yours so that they can sell their Holo-Generators before you sell yours. So, if your price is too high, they will sell more. But if your price is so low so that you sell all your Holo-Generators, and there still is sufficient demand for your competitors to sell all their inventory well, then they will make a greater profit.
Managers use the price of their product to balance the supply (the number of products they have to sell) with the demand (the number of products customers want to buy). The most successful company, the one with the highest profit, is the company that managers to sell all its Holo-Generators at the highest possible price.
You also must decide your company’s production level—how many Holo-Generators to make. Look at your Company Report to determine your factory capacity—the number of Holo-Generators your factory can produce. This is the largest number of Holo-Generators your company can produce in the next period. The Capacity Utilization figure on the Industry Report provides an indication of the maximum number of Holo-Generators that all the Holo-Generator companies can produce in the next period.
You can choose to produce any number of Holo-Generators ranging from none to the capacity of your factory. To make that choice, you need to know how much it costs to produce one Holo-Generator. The cost of producing a Holo-Generator depends on two factors: the size of the factory and how efficiently the factory is operated.
Look at your Company Report to see how much it cost to produce each of your Holo-Generators in the last period (Cost/Unit). If you produce the same number of Holo-Generators in the next period, the cost for each one will be the same. Holo-Generator factories produce Holo-Generators at the lowest cost when they are operated at 80 percent of capacity.
If you produce fewer Holo-Generators than that, each one costs more because some workers and machines are idle, even though you are still paying for them. If you produce more than 80 percent of the number your factory is capable of producing, you need to pay overtime to your workers and must run your machines for longer than normally scheduled. This results in breakdowns and a higher cost per Holo-Generator. To determine your lowest-cost production level, multiply your Holo-Generator factory’s capacity by 80 percent (.80).
Obviously, it is best to run your factory at 80 percent of its capacity. The only exceptions are if demand is so high you can raise your prices enough to compensate for the higher costs of producing at more than 80 percent capacity, or if demand is so low that you can never hope to sell your 80-percent-capacity inventory over the next several periods. In those cases, you might want to produce more or less than 80 percent of your capacity. Carefully analyze the situation before making that decision.
The outcome of your decision depends on how it works in relation to the decisions of all your competitors. If all Holo-Generator companies produce more, prices have to be lower for all the inventory to be sold. If all companies produce less, then prices can be higher. If some produce more and some less, and if some companies raise their prices and some lower theirs, the outcomes will be different. The companies that pick the right combination of price and production will earn the highest profit.
In the United States, it is illegal to agree with your competitors to set pricing, production, and other business decisions. This is called price-fixing. You have to guess what competitors are going to do by analyzing the information in the Industry Report and putting yourself in the other managers’ shoes.
As managers, you not only control your supply of Holo-Generators by deciding how many to produce, but you also have some control over the number of orders your company receives for its Holo-Generators. You do that by deciding how much money your company spends on marketing. Marketing includes hiring salespeople to call on stores that sell Holo-Generators putting advertisements in the newspaper and on television and radio, and printing and sending out catalogs so customers can order Holo-Generators by mail and phone.
Look at your Company Report from the last period and find the listing for Marketing on your company’s Income Statement. This is how much your company spent on its marketing activities in the last period. How many orders for your Holo-Generators did that produce?
In each period, your company can change its marketing expenditure. You will save money if you spend less on marketing. With fewer salespeople and fewer advertisements, however, you may get fewer orders for your Holo-Generators. If you increase your marketing costs, you have to pay the bill out of your profit, but the extra orders it produces may increase your profit by more than the marketing expenditures.
Once again, the outcome depends not only on your decision, but also on those of your competitors. If all the other companies increase their marketing expenditures, there might be so many people talking about Holo-Generators that you will have more orders for your brand, even though your company’s marketing expenditure has been reduced. The opposite also may be true: if the other companies cut back on their marketing expenditures, your company may have to spend more just to get the same number of orders.
The amount you decide to spend on marketing should be related to your company’s price and production decisions. Develop a marketing strategy that is consistent with your company’s goals.
There are many combinations of decisions you could make. An increase in marketing expenditures means your company will have more costs and will need a higher margin (Sales minus the production costs of the Holo-Generators sold) to cover those costs. To earn a higher margin, high-price firms may need to invest more heavily in marketing than low-price firms. In general, consumers are attracted to middle- and low-price firms because of their economical prices. However, when several firms in the Holo-Generator industry are following middle- and low-price strategies, a strong marketing program will be needed to attract customers to your company. What are some companies that produce low-priced products in competitive industries and also conduct major advertising campaigns?
The example below helps you understand how many additional products you will need to sell to cover an increase in marketing expenses. Consider the decisions your competitors are likely to make, and then choose the combination of marketing, production, and pricing decisions that you believe will produce the highest profit for your company.
THE CAPITAL INVESTMENT DECISION:
When your company raises its production level, it has more Holo-Generators to sell. When your company spends more money on marketing, it should receive more orders in the next period. However, there are many business decisions that require spending money now to see results months later.
When your company made its initial production decisions, the maximum number of Holo-Generators it could produce was determined by your factory’s capacity. You can’t produce more Holo-Generators than your Plant Capacity will allow. You now have the opportunity to expand your company’s factory.
In each period so far, you have paid Depreciation, the cost to replace worn-out equipment in your factory. The equipment in you factory is designed to last for five years. Therefore, in each period or quarter, you spent 5 percent of the value of your factory to replace machines that wore out. As a result, your factory stayed the same size and showed the same value on the Balance Sheet.
Beginning with this period, you can change the amount you spend on your factory’s equipment. If you spend more than 5 percent of the factory’s value in a period, you can buy new machines and replace the worn-out ones. This enables your factory to produce more Holo-Generators.
If you spend less than 5 percent of the factory’s value, more machinery will wear out than you replace. This means that your factory capacity will decline.
At the same level of Capacity Utilization, larger factories produce Holo-Generators at a lower cost than smaller factories. But whether your factory increases or decreases in size, you will always produce Holo-Generators at their lowest costs when you run the factory at 80 percent of its current capacity.
If you are following a low-price/high-volume strategy, your company needs more Holo-Generators to sell in the future. You should start to increase the size of your factory now. The cost of increasing your factory’s capacity by one unit is $40.
If you are following a high-price/low-volume strategy, you may not need as many Holo-Generators in the future. You can reduce the capacity of your factory by spending less on capital investment than on depreciation. It does your company little good to have a factory that can be run at 80 percent of capacity. For every $40 invested less than the last round’s depreciation, the capacity of your factory will decrease by one unit in the following period.
The capital investment decision is similar to the production decision, except that you must consider future goals. When you make your production decision, you increase the number of Holo-Generators available this period.
When you increase your factory’s capacity by spending more on capital investment in one period, the capacity increase is not available for use until the following period, since it takes time to purchase, install, and test new machinery.
Adding to your factory is also a greater commitment. You will not want to expand unless you want a greater supply of Holo-Generators for several periods. Your investment decision will affect your company for some time. Think carefully about the number of Holo-Generators you need to produce in the future to meet consumer demand.
THE RESEARCH & DEVELOPMENT DECISION:
You can influence both the short-term and long-term supply of Holo-Generators. In the short-term, you can adjust your company’s production to have the number of Holo-Generators you need in the next period. In the long-term, you can either expand or contract your company’s factory so you have the right factory capacity for the number of Holo-Generators you want to produce.
To plan your supply of Holo-Generators for the future, you need to predict future demand (orders) to match your company’s production capability.
Your marketing expenditures help determine demand for your company’s Holo-Generators. Additional money may be spent on more salespeople and advertising than on the product itself. If customers no longer want a product or they find one that does the job better, they are unlikely to continue buying yours, even if you do more advertising. To keep future orders high, companies spend money for market research and product development.
Market research includes consumer surveys and other studies to determine the needs of customers and the kinds of products they want. Companies use this information to adapt their products or invest in new ones. Companies that have the most desired products will get the most orders or obtain the highest price.
Inventing and adapting products to meet customer needs is called product development. New and improved products attract greater demand and more orders. They also prevent other companies from taking away customers with new and improved products of their own.
Assume your company’s Holo-Generators could duplicate what the user wanted. By using market research funds to pay for a consumer survey, you discover that your customers really would like a Holo-Generator with a spell-check system. The first company to make Holo-Generators with this feature would likely get more orders. To produce these advanced Holo-Generators, your company would have to spend product development money. But by investing money in market research and product development, you assure that orders for your Holo-Generators will be coming in for the future.
Look at the Income Statement on your Company Report to see how much your company has spent so far in each period on research and development (R & D). You can change your company’s R & D budget. Spending less on R & D reduces your expenses in the next period and results in more profit immediately. Spending more on R & D may result in more orders later.
Market research and product development are long-term processes that have an effect over several periods. Increased expenditures on Holo-Generator research and development show up in increased orders immediately. But unlike marketing expenditures, a single investment in R & D results in increased orders for several rounds. It can be hard to catch up with competitors who have invested in research and development when you have not.
