A. Management of AG Travel and Tour has identified two groups of individuals that

would be interested in the vacation package consisting of room and board and/or

entertainment. The maximum amount that group 1 is willing to pay for room and

board is $2500 and for entertainment is $500. For group 2, the maximum

amount they are willing to pay for room and board is $1800 and for

entertainment is $750. Although AG Travel and Tour is not able to identify

members of either group, it does know that each group values the components of

the package differently. Assuming there are an equal number of members in each

group and that the total membership in each group is a single individual. If the

marginal cost of providing the service (room and board and/or entertainment) to

each group is $1000.

i. How much will the hotel charge members of each group for the vacation

package if it could identify the members in each group?

ii. How much will the profit for AG Travel and Tour be?

iii. Since AG Travel and Tour is not able to identify members of each group,

what price should it charge for each product?

iv. What will be the profit for AG Travel and Tour in the case of (iii) above?

v. If AG Travel and Tour wants to charge a package price, what is the highest

price it can charge? (4 marks)

vi. What profit will AG Travel and Tour make if it charges the package price

found in (v) above?

B. TEXplor has purchased a 2-year lease on land adjacent to the land leased by

Clampett. The land leased by TEXplor lies above the same crude oil deposit. Assumeeach company sinks wells of the same size at the same time. If both companies sink

wide wells, each will extract 2 million barrels in 6 months, but each company will

receive profit of only $1 million. On the other if each company sinks a narrow

well, it will take a year for Clampett and TEXplor to extract their respective shares,

but their profits will be $14 million apiece. Finally, if one company drills a wide

well while the other company drills a narrow well, the first company will extract 3

million barrels and the second company will extract only 1 million barrels. In this

case, the first company will earn profits of $16 million and the second company

will actually lose $1million.

1. Illustrate this using a normal form game.

2. Does either firm have a strictly dominant strategy? If yes, what is (are) these

strategies? Explain your answer.

3. What strategy will each firm adopt? Explain your answer.

4. Does this game have a Nash equilibrium? Explain your answer

5. Is collusion possible in this game? Explain your answer.

C. Recently, the owner of KFC Franchise decided to change how she compensated her

top manager. Last year, the manager received a fixed salary of $50,000 and KFC

made $110,000 in profits (excluding the manager's compensation). She feared

that her store's performance was connected to the top manager shirking on the job

and expected that changes to her top manager's compensation structure would

improve sales. Therefore, this year she decided to offer him a fixed salary of $40,000

plus 5 percent of the store's profit. Since the change, the store is performing much

better, and she forecasts profits this year to be $300,000 (again, excluding the

manager's compensation). Assuming the change of compensation is the reason forthe increased profits, and the forecast is accurate, how much more money will the

owner make (net of payment to her top manager) because of this change?

Does the manager make more money under the new payment scheme?