MANAGERIAL ECONOMICS

ASSIGNMENT 1

Submitted by: Hajrah Arshad

Submitted to: Ma’am Anum Ali Khan
Date: 12th September’ 2019
Semester: 7
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15. The Wall Street Journal reported that Juniper Networks, Inc.—a maker of company network
equipment—plans to offer its more than 1,000 employees the opportunity to reprice their stock
options. Juniper’s announcement comes at a time when its stock price is down 90 percent,
leaving many employees’ stock options worthless. How do you think Juniper’s CEO justified
repricing the employees’ stock options to the shareholders?

The reason behind restructuring the incentive plan is to maximize the shareholder value this is
achieved by providing the employees with incentives to stay with the company for a longer period
of time. Hence, by this it reduces the costly employee turnover and increases the company's
profitability. Furthermore, by restructuring the incentive plan employees will want to find more
productive ways to work and to make the company more profitable. The benefits to the
shareholders and employees will be a higher stock price.

18. Teletronics reported record profits of $100,000 last year and is on track to exceed those
profits this year. Teletronics competes in a very competitive market where many of the firms are
merging in an attempt to gain competitive advantages. Currently, the company’s top manager
is compensated with a fixed salary that does not include any performance bonuses. Explain why
this manager might nonetheless have a strong incentive to maximize the firm’s profits.

The manager would like to retain his job in the competitive nature of the market. Manager would
fear that if his performance is not up to the standards, he will be fired and replaced by a competent
manager. Hence, the fear of being sacked and replaced will incentivize the manager to maximize
the firms profits in order to retain his position without even having any performance bonuses.

20. A few years ago, the Boston Globe reported that the city of Boston planned to spend $14
million to convert the FleetCenter sports arena and entertainment center into an appropriate
venue for the Democratic Nominating Convention (DNC). The city engaged Shawmut Design
and Construction in a contractual relationship to complete the work, which was supposed to
start 48 days prior to the commencement of the DNC on July 26. However, when negotiations
between Boston’s mayor and the police union broke down, the Boston Police Patrolmen’s
Association took to the picket lines surrounding the FleetCenter and prevented construction
crews from beginning the work union members stood at a chain-link gate in front of the arena,
shouting ‘back it up,’ and ‘respect the line, buddy.’” Moreover, the Globe reported that “On-
duty police officers, who had been instructed to prevent pickets from restricting access, did not
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intervene.” Given the tight construction schedule, construction delays reportedly cost about
$100,000 per day. Identify the principal–agent problem in this situation. Did the mayor and the
city of Boston face the classical “hold-up problem” or another problem? Explain

In the principal-agent problem the on-duty police officers are the agents whereas the city officials
are the pricipals. The police officers were supposed to prevent picket lines from blocking the
workers job. However, it can be seen that the police officers are making use of the situation and
showing opportunistic behavior as the city of Boston has promised to spend $14,000,000 to host
the DNC, the police union is trying to take advantage of this specialized investment. Therefore, it
can be said that the city of Boston is facing the holdup problem. However, another problem can be
identified in this situation which is incomplete writing contracts. When the city of Boston officials
wrote a contract with construction company many unforeseeable events were not explicitly
mentioned in the contract.

22. You are a management consultant for a 30-year old partner in a large law firm. In a meeting,
your client says: “According to an article in the New York Times, 57 percent of large law firms
have a mandatory retirement age for partners in the firm. Before they retire, partners are paid
directly for the work that they do, and, as an owner, they are entitled to a share of the profits of
the firm. Once they retire, partners do not receive either form of compensation. In light of this,
I think we should eliminate mandatory retirement in order to gain a ‘competitive advantage’ in
attracting high-quality lawyers to work for our firm. Of course, you are the expert.” What do
you recommend? Explain

Buy it removing the mandatory retirement clause from the contract, the law firms will be
incentivizing partners to continue their work and they will be compensated based on their
performance level. Hence, considering this, they are more likely to perform better and earn profits
for the firm. This situation will attract hardworking lawyers since they will be paid out of the
profits of the firm and firm is also likely to make more profits if partners are staying for longer
period of time and are dedicated towards their work.

24. Andrew has decided to open an online store that sells home and garden products. After
searching around, he chooses the software company Initech to provide software for his website
since their product required the least amount of specialized investments for him to use it. They
agreed upon price of $3,000. To use Initech's software, Andrew makes $1,000 in sunk capital
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investments and spends 40 hours learning how to use Initech's software, which is very different
from other software packages. Both Andrew and Initech view Andrew's time as worth $25 per
hour and Initech is fully aware of the investments Andrew must make to use their product. After
Andrew's investments were made, Initech came to Andrew and asked for more money.

What do you think is the new price Initech requested Andrew to pay?

Andrew investment cost=3000+1000+40*25=5000

Andrew has agreed to pay $3000. The company asks for $2000

25. Homegrown is a small restaurant that specializes in serving local fruits vegetables and
meats. The company has chosen to enter into a long-term relationship with family farms a local
farmer operation. The two parties have decided to enter into a long-term contract where family
farms will supply produced to homegrown at specified prices and volume each year. Before
signing a contract homegrown is trying to decide how long the contract should be .it estimates
that each year the contracts covers saves the restaurant $1000 in bargaining and opportunism
costs. However, each year contract covers also requires more legal fees. Homegrown estimates
number of hours required from lawyers L has a quadratic relationship with the number of years
on the contract so that L= Y^2 where Y is the number of years for the contract. if homegrown's
lawyers charge $100 per hour , how long should the contract be?

The marginal benefit for each year of contract $1000, the total cost of years is

$100L = 100Y^2

after taking the derivative we can find the marginal cost of $200Y of Y years

equating MB = MC we get,

$1000 = 200Y

Y=5

Hence, the contract should be signed for 5 years

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26. Jim's diner is just about to open in Memphis TN however Jim is trying to decide whether he
wants to offer Coke or Pepsi soda product. he determines that to offer either product he will
have to spend $1800 in sunk costs to purchase and install the appropriate paraphernalia e.g a
large Coca Cola or Pepsi sign out fron.t ultimately he chooses to offer Coke products and agrees
to pay coke 5 cents per ounce of Coke sold for the right to use its products. After Jim makes the
investments specific to his soda toys Coke returns and asks for a fixed (one time) fee In addition
to the 5 cent per ounce. what is the most Jim should be willing to pay?

Jim is willing to pay $1800 as equal to the sunk cost. Because if they had asked for more, Jim
would have shifted to Pepsi soda products since for new Pepsi setup he has to pay $1800 sunk
cost.