Presentation on theme: "Look Forward, Reason Back"— Presentation transcript:
1Look Forward, Reason Back The Cornerstone of Strategic Reasoning
2Overview Advertising and entry Retail location strategies General Principles
3Advertising and EntryAn established retailer is facing possible competition from a rivalThe established retailer can try to stave off entry by engaging in a costly advertising and price cutting campaign
4Speed and flexibilityThe rival is fast and flexible, so its policy is to wait and decide at the last possible instant its entry choiceThus, the rival observes the initiation of this campaign before making its entry decision
5Strategies and Payoffs Incumbent: Advertise or notRival: Enter or not
6Payoffs: Incumbent (Best to worst) Rival No entry and no ads No entry and adsEntry and no adsEntry and adsRival
11Equilibrium Prediction The prediction from this model is that the incumbent will run its ad campaign and this will effectively forestall entryNotice that even in absence of actual entry, the potential competition from the rival eats into the incumbent’s profits.
12Is Flexibility an Advantage? Suppose that the rival is less flexible in its management practices.It must commit to enter or not before the advertising decision of the incumbent.How does this affect the outcome of the game?
13Game Tree – Stodgy Rival Ads1,1IIn2,4No adsRAds3,3OutI4,2No ads
16Equilibrium Prediction Notice that now the prediction is that the rival will enter and the incumbent will not advertiseThe absence of flexibility on the part of the rival improves its outcome relative to the case where it retained flexibility.This game has a first-mover advantage
17Do all games exhibit first-mover advantage? NoProcurement contracts:Two firms are bidding for a procurement contract, which will be awarded to the low bidder.There is a cost to preparing a bidFirm 1 chooses its bid followed by firm 2.Clearly it pays to go second and undercut the bid of the first firm
18More Players Same methods apply to more players Only the tree grows more complex
19Location DecisionsThree retailers (A, B, and C) are deciding their location decisions for an emerging metropolitan areaTheir decision is whether to locate in an urban mall or a suburban mallThe urban mall has spots for 2 storesThe suburban mall has spots for all 3.
20Motivation The urban mall has more traffic than the suburban mall There are synergies in mall locationThe presence of 2 or more large stores drives disproportionate traffic to that mall
21Strategies and Payoffs Each retailer chooses where to locate: urban or suburbanPayoffs (Best to worst)Urban mall with other storeSuburban mall with other storesUrban mall aloneSuburban mall aloneNo mall
22Mall Allocation The malls are not strategic players. Urban: B and C have priority over ASuburban: Accept anyone
23TimingFirm A is moves first, followed by B and then C
24Game Tree U 1,5,5 C 5,5,2 U S 5,2,5 U B C U 3,4,4 S S 2,5,5 A U C 4,3,4USSB4,4,3UC4,4,4SS
25Backward Induction - C U 1,5,5 C 5,5,2 U S 5,2,5 U B C U 3,4,4 S S 2,5,5AUC4,3,4USSB4,4,3UC4,4,4SS
26Backward Induction - B U 1,5,5 C 5,5,2 U S 5,2,5 U B C U 3,4,4 S S 2,5,5AUC4,3,4USSB4,4,3UC4,4,4SS
27Backward Induction – A U 1,5,5 C 5,5,2 U S 5,2,5 U B C U 3,4,4 S S 2,5,5AUC4,3,4USSB4,4,3UC4,4,4SS
28Equilibrium Prediction Firm C chooses suburban only if other 2 choose SFirm B knows that by choosing an urban location, C will follow suit, therefore it goes urbanFirm A knows that B will go urban regardless and that C will follow B’s lead, therefore if it goes urban, it will be shut outTherefore A goes suburban and ends up alone
29General Principles Sketch a game tree outlining who moves when Construct a ranking of outcomes for both you and your rivals.Look forward and reason backIf the outcome is not a desirable one, think about how you might change the game
30Ways to Change the GameContracting: Look ahead in thinking about the strategic implications of contract termsChange the order of moves (i.e. commitment) to gain a first-mover advantage.