OPRE 6377. DemReMan : Introduction

1 Homework Questions and Answers

1. Car rental prices are dynamic. For example, after you rent a car for your next trip at a certain price,you may find out a few days later that the rental price is dropping. To avoid this a consumer maydelay his rentals until the last day before his trip.a) One of the risks in delaying a rental is that the prices may increase. What is another risk ofdelaying the rental?Answer: Stock out risk

b) Unlike business passengers, leisure passengers buy their airline tickets well in advance of theirdeparture. Both business and leisure customers rent their cars a few days in advance. Knowingthis, airlines tend to increase ticket prices towards the departure day. Explain, if this tendency willbe stronger or weaker with rental car companies.Answer: Business customers can pay more and they are likely to buy airline tickets later so

airlines increase prices. Business and leisure customers rent about the same time. Rental car

companies cannot distinguish between business and leisure customers by looking at the time

of reservation. Hence, the tendency will be less.

2. [AutoSlash] Observing that there are some instances where the car rental price dropped towardsthe rental day, AutoSlash decided to offer a service of re-pricing. Quoting from a real-world ex-ample of re-pricing from their website:

Let’s say you book a one-week rental Las Vegas via AutoSlash for $210. Within a fewhours of booking, you receive an email from AutoSlash notifying you that we were ableto find a discount to lower your rate to $180. We automatically re-booked you at thelower rate, and you’ve just saved $30 without even lifting a finger.

A few days go by, and you find another email from AutoSlash. This time, we let youknow that we detected a price drop for your rental. The rate has dropped from $180 to$165, and weve saved you another $15.

AutoSlash rents cars and receives commissions from the car rental companies. Its business modelis similar to that of Expedia.a) There is no service fee for re-pricing. Does this mean that consumer can confidently use Au-toSlash? What should they be careful of?Answer: Whether AutoSlash quotes exactly the same prices as those of car rental companies

and whether it can rent cars from all car rental companies. Also, recent customers’ feedbacks

can be important, too.

b) Suppose that consumers are confident with AutoSlash and use it frequently, how would carrental companies respond to this change with their rental fees? In particular, will rental pricesbecome more dynamic or less dynamic?Answer: less dynamic

c) Suppose that the car rental companies decide to make rental prices less dynamic, how will thevalue AutoSlash offers to customers change? In particular, will customers value re-pricing service

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more or less?Answer: They value it less. AutoSlash can become a victim of its success.

3. DTU (Dallas Technology University) is a leading school in Texas. It offers a supply chain masterdegree and charges $80 K for the degree. The expected lifetime earnings increase after getting thisdegree is $500 K. The cost of educating a single master student at DTU over the 2 year degree is$50 K. On the other hand, NTU (New Technology University) offers a similar master degree whichleads to an expected lifetime earning increase of $300 K. Suppose that NTU’s cost is also $50 K foreducating a master student.a) DTU competes with NTU for master students and wants to reconsider its $80 K fee for the mas-ter degree. DTU knows NTU’s costs and the expected lifetime earnings increase for the masterstudents. DTU does not know how much NTU exactly charges for its master degree but estimatesthat the charge is about the cost of $50K. What should the new DTU fee be in order not to losepotential students to NTU?To answer this question, consider the marginal benefit of getting a master from DTU as opposedto NTU.Answer: which is $200 K = 500-300.

Charge 200 + 50 K

b) DTU quickly learns that NTU charges $70 K for its master. Given this price, what is the maxi-mum price DTU can charge and remain competitive.Answer: Charge 200+70 K

c) The prices above are driven by the expected lifetime earning increase. This information is hardto get and is substituted by annual starting salaries upon graduation. Describe how expectedlifetime earning increase can be computed from starting salaries.Answer:

Expected lifetime earning increases can be estimated as:

(Expected work years till retirement)× (present value of annual salary at graduation).

Or a similar formula can be written to reflect expected annual salary increases. For example:

Expected lifetime earnings =(Annual salary)×

years to retire

∑i=0

(1 + % salary increase)i.

4. Recall cost based pricing, market based pricing and value based pricing discussion. Consider theDTU fee discussed above. Explain how should DTU set the fee if it is usinga) Cost based pricing.Answer: Suppose the margin DTU aimed at is 50%. For cost based pricing, DTU should charge

at 50*(1+50%)=75k.

b) Market based pricing.Answer: For market based pricing, DTU should set price the same as the market price. Suppose

the market price is 70k, then DTU also should price at 70k.

c) Value based pricing.Answer: For value based pricing, based on the expected lifetime earning increase for the stu-

dent, DTU should charge at 500k.

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