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Look Forward, Reason BackOverviewAdvertising and EntrySpeed and flexibilityStrategies and PayoffsPayoffs:Game TreeBackward InductionRival’s ChoiceIncumbent’s ChoiceEquilibrium PredictionIs Flexibility an Advantage?Game Tree – Stodgy RivalBackward Induction - IncumbentBackward Induction – RivalSlide 16Do all games exhibit first-mover advantage?More PlayersLocation DecisionsMotivationSlide 21Mall AllocationTimingSlide 24Backward Induction - CBackward Induction - BBackward Induction – ASlide 28General PrinciplesWays to Change the GameLook Forward, Reason BackThe Cornerstone of Strategic ReasoningOverviewAdvertising and entryRetail location strategiesGeneral PrinciplesAdvertising and EntryAn established retailer is facing possible competition from a rivalThe established retailer can try to stave off entry by engaging in a costly advertising and price cutting campaignSpeed and flexibilityThe rival is fast and flexible, so its policy is to wait and decide at the last possible instant its entry choiceThus, the rival observes the initiation of this campaign before making its entry decisionStrategies and PayoffsIncumbent: Advertise or notRival: Enter or notPayoffs:Incumbent (Best to worst)No entry and no adsNo entry and adsEntry and no adsEntry and adsRivalEntry and no adsNo entry and adsNo entry and no adsEntry and adsGame TreeIRR1,13,32,44,2AdsNo adsInOutInOutBackward InductionLook to the end of the game tree and prune back Rationality assumption implies that players choose the best strategy at each node.Rival’s ChoiceIRR1,13,32,44,2AdsNo adsInOutInOutIncumbent’s ChoiceIRR1,13,32,44,2AdsNo adsInOutInOutEquilibrium PredictionThe prediction from this model is that the incumbent will run its ad campaign and this will effectively forestall entryNotice that even in absence of actual entry, the potential competition from the rival eats into the incumbent’s profits.Is 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?Game Tree – Stodgy RivalRII1,12,43,34,2InOutAdsNo adsAdsNo adsBackward Induction - IncumbentRII1,12,43,34,2InOutAdsNo adsAdsNo adsBackward Induction – Rival RII1,12,43,34,2InOutAdsNo adsAdsNo adsEquilibrium PredictionNotice that now the prediction is that the rival will enter and the incumbent will not advertiseThe 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 advantageDo all games exhibit first-mover advantage?NoProcurement contracts:Two firms are bidding for a procurement contract, which will be awarded to the low bidder.There is a cost to preparing a bidFirm 1 chooses its bid followed by firm 2.Clearly it pays to go second and undercut the bid of the first firmMore PlayersSame methods apply to more playersOnly the tree grows more complexLocation DecisionsThree retailers (A, B, and C) are deciding their location decisions for an emerging metropolitan areaTheir decision is whether to locate in an urban mall or a suburban mallThe urban mall has spots for 2 storesThe suburban mall has spots for all 3.MotivationThe urban mall has more traffic than the suburban mallThere are synergies in mall locationThe presence of 2 or more large stores drives disproportionate traffic to that mallStrategies and PayoffsEach retailer chooses where to locate: urban or suburbanPayoffs (Best to worst)Urban mall with other storeSuburban mall with other storesUrban mall aloneSuburban mall aloneNo mallMall AllocationThe malls are not strategic players.Urban: B and C have priority over ASuburban: Accept anyoneTimingFirm A is moves first, followed by B and then CGame TreeABB1,5,5CCCC5,5,25,2,53,4,42,5,54,3,44,4,34,4,4USUSUSSSSSUUUUBackward Induction - CABB1,5,5CCCC5,5,25,2,53,4,42,5,54,3,44,4,34,4,4USUSUSSSSSUUUUBackward Induction - BABB1,5,5CCCC5,5,25,2,53,4,42,5,54,3,44,4,34,4,4USUSUSSSSSUUUUBackward Induction – AABB1,5,5CCCC5,5,25,2,53,4,42,5,54,3,44,4,34,4,4USUSUSSSSSUUUUEquilibrium PredictionFirm C chooses suburban only if other 2 choose SFirm B knows that by choosing an urban location, C will follow suit, therefore it goes urbanFirm 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 outTherefore A goes suburban and ends up aloneGeneral PrinciplesSketch a game tree outlining who moves whenConstruct a ranking of outcomes for both you and your rivals. Look forward and reason backIf the outcome is not a desirable one, think about how you might change the gameWays to Change the GameContracting: Look ahead in thinking about the strategic implications of contract termsChange the order of moves (i.e. commitment) to gain a first-mover


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