BUSINESS SIMULATION: COMPETING IN AN

OLIGOPOLISTIC MARKET (S E A IMULATION XERCISE TO CCCOMPANY

KEAT, YOUNG, AND E RFLE, MANAGERIAL ECONOMICS: ECONOMIC TOOLS FOR TODAY’S
DECISION MAKERS, PEARSON, 7TH EDITION, 2014©)

Welcome to the world of oligopolistic competition, in which you are the CEO
of Angle, Inc. and will run your company for 5 years competing against 2
virtual companies. You will set strategy, execute annual operating plans,
analyze financial statements, and judge how your decisions affect the overall
health of the company. In the end, you will see your scorecard results and
those of your competitors with one of you being declared the winner.

As you have learned in this course (in particular, see Chapters 9, 10, and 11
of the Keat, Young, and Erfle text), operating in an oligopoly market can be
quite challenging, especially when it involves pricing. In this type of market,
it is not simply a matter of finding the optimal price and quantity at which
MR= MC. An oligopolistic company must also be very wary of the prices that
their competitors are charging as well as how their competitors might
respond to any price changes that it decides to make. As shown in Chapter
11, economists even use game theory to try to understand the complexity of
this “mutual interdependence” in pricing.

This computer-based exercise gives you a chance to simulate the challenges

of finding the “optimal price” in a market in which the actions and reactions
of three competitors determine who is the most profitable. Moreover, each
competitor’s spending on marketing and development (i.e. operational
efficiency) also has an impact on its profit.

The Scenario

You are the new CEO of Angle, Inc. and will be competing against two
companies: Circle and Square. At the start of the simulation, all 3 companies
have the same market share and indicators of financial performance. Your
decisions on your business model and strategy and skill in executing the
strategy (particularly your pricing strategy) over five years will determine
who has the best financial performance at the end of this time period and
wins the simulation.

While the two competitors may be considered “virtual” in the sense that
their actions will be known only to you via the simulation software, they
have been programmed in a way that accurately reflects the strategy and
tactics of real competition. You will start to know the competitor’s goals and
year-by-year moves as you play the game.

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Angle Inc. is a publicly traded firm based in Atlanta, Georgia. It has just
completed its fifth year of operation and was founded by Mike Rogers who
continues to serve as Chairman and CEO. It designs and manufactures a
flagship product called “Alpha” all over the world. Last year, Angle had $30
million in sales, a Net Profit of $320,000, a market share of 33.3%, and a
stock price of $15 per share. The Alpha product and its market are flat with
slow growth potential.

Circle Inc. is a Chinese company based in Shanghai with aspirations to

expand its brand around the world. The CEO is John Li, a second generation
Chinese-American with an MBA from a top American university. John spent
his first five years as a production quality engineer in a semiconductor
manufacturing company and then went back to school for his MBA. He then
worked for 3 years in a hedge fund. The booming market in China prompted
him to return to his roots. Along with a few of his MBA classmates, he
started his own consulting company in Shanghai. However, he longed to get
back to the “real world” of business operations and so quickly accepted the
challenge of heading up the China-based Circle Company. Circle sells a
product that is just about identical in features and functionality to its major
competitors: Angle and Square.

Square Inc. is an Italian company based in Milan whose brand is already

recognized throughout the world, but whose cost-competitiveness and
brand equity are being threatened by growing global competition,
particularly from the Asia-Pacific region. CEO: Angela Fiorello, started from
the ground up in her family textile business. In her family business, she
demonstrated her natural talents in product design and marketing. She
received an MBA from SDA Bocconi (Milan), one of Europe’s leading
business schools. Her family company was bought by an Italian
conglomerate, which soon recognized that Angela’s natural talents and top
education could be put to good use to head up Square, a public company in
which they held a minority ownership. With the conglomerate’s support,
Angela was appointed as the new CEO of Square. Square competes directly
with Angle and Circle with a similar product to Alpha.

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The Market for Alpha

Angle and its competitors have been in business for 5 years with all 3
companies selling the same product (Alpha). At the start of the simulation
every company is equal which means that the financial results of revenue,
profit, inventory, profit margins, and stock price are the same for each
company. In fact, market intelligence shows that all 3 companies are also
the same in these categories:

• Price for Alpha: $100

• Number of units sold last year: 300,000 units
• Production capacity: 333,333 units
• Cost per unit of Alpha: $80.23
• Amount spent on Marketing: $4,500,000
• Amount spent on Development for manufacturing $300,000
efficiency:
• Outstanding Loans: $12,000,000

Additional data shows the following about the marketplace:

• Market size: $90,000,000

• Forecasted growth rate: 0%
• All 3 companies are competing in a fixed market.
Note: over time, the market could grow slightly if
there is enough price reduction and marketing to
simulate industry demand.
Two dominant strategies have been used in this market by Square and
Circle.

Product Differentiation Strategy – standout from the competition

by investing in marketing and drawing customers in to buy their
product. This is the “differentiation approach” discussed in Chapter
9. Pricing for this type of strategy is based on “prestige pricing”
noted in Chapter 10.

Cost Leadership Strategy- standout from the competition with a

lower cost per unit. This strategy is also explained in Chapter 9. A
company using this strategy succeeds by reducing its costs below its
competitors so that it can profit even when prices are low.

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Finally, market research shows that there are 3 types of customers for
Alpha:

1. Brand Loyal – those customers who will generally continue to buy

from the same company independent of price or competitive
marketing efforts. However, brand loyal customers will go to
competition if they feel the price is unusually high or if they are not
marketed sufficiently.

2. Price Sensitive – those customers who will “shop” for the lowest
price for Alpha.

3. Marketing Sensitive- those customers who can be lured away with

strong marketing (advertising, promotions, customer service, etc.)
campaigns.

Your Marketing Department has provided you with this chart:

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Simulation 5-year Cycle

You play the simulation for 5-years (rounds) as shown above. Each year you
submit your annual plan, analyze the year’s results, and submit the next
year’s plan.

Starting and Setting up the Simulation

Start the Simulation on your PC and the CEO dashboard will appear. This is
where you set your goals, review all your financial reports, launch your
annual planning cycle, and see your annual results.

CEO Dashboard

The Dashboard is divided into 4 areas (click on the Help button for more
information about each area) but essentially the areas are:

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 Menu – use these buttons to control the simulation, see your score,
and review help contents.
Action – this button runs the setup wizard and inputs your annual
operating plans.
Reports – these buttons display financial and business reports that
you may review to help you run your business (reports may also be
printed).
Status Panel- current stock prices and product prices are displayed
for all three companies. Your results against your 5-year goals and
year-on-year changes to Revenue and Net Profit are displayed. Note:
information is updated at the end of each year.

Startup Wizard

Click on Start Simulation and the simulation startup wizard begins. Follow
the instructions on the screen. If this is your 1st time playing the simulation,
we suggest entering the following end game growth targets as follows:

• Revenue: 2%
• Net Profit: 1%

You have 3 choices on the simulation’s difficulty (how the CEO’s of Circle and
Square compete with Angle): low, medium, and high. If this is your 1st time,
we suggest choosing low, but the choice is yours.

Click Finish to end the simulation startup.

Playing the Simulation

Angle has 2 basic strategies you can employ to meet your goals and win the
simulation (both can succeed and win the game.) You execute your strategy
by entering 5 Annual Plans. Each plan consists of 6 decision variables:

1. Price of Alpha – the selling price for 1 Alpha.

2. Production Plan for Alpha – the number of Alphas to produce next
year (maximum is 333,333 annually.)
3. Marketing – the amount of money to be spent to market to
customers. Note: minimal amount you should spend on marketing is
14% of next year’s projected revenue. The calculations of projected
revenue and minimum marketing amount are:
Projected Revenue = (Inventory + Production) x Price. For
example:
Projected Revenue = (25,000 + 300,000) x $100
= $32,500,000

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 Minimum marketing amount = $32,500,000 x 14%
= $4,550,000
4. Development – the amount of money to be spent on manufacturing
efficiency. Spending on development will lower your unit cost in the
years following the investment. Meaning that funds spent in 2009
will realize unit cost savings in 2010 and beyond.
5. Loan Increase – the amount of money you wish to borrow.
6. Loan Repayment- the amount of money you wish to pay back on
your loan’s principal.

Choose your strategy: Cost Leadership or Product Differentiation

Cost Leadership - Attain competitive advantage by running Angle so that

your cost of producing Alpha is lower than Circle and Square. An example of
the implementation of this strategy in the simulation for your first year is:

What do I do? Start of What I enter

Simulation for my first
year
Set price for Alpha at the same $100 $99
amount as last year or slightly
lower
Run production near or at full 300,000 308,000
capacity (Note: take into account (Note: there are (will yield
the amount of inventory you have 25,000 in inventory 333,333 units
from the previous year) that were not sold for sale)
last year)
Spend the minimum on marketing $4,500,000 $4,620,000*
(14% projected next year’s
revenue)
Spend more on development $300,000 $400,000
Do not increase your loan amount $12,000,000 $0 loan increase
unless you are running short of outstanding loan (Note: $750,000
cash is the maximum
amount you can
increase each
year)
Pay back some of your loan $12,000,000 $500,000
principal if you have the cash to do outstanding loan
so

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If you follow this strategy, you will expect to see the following results year-
on-year:

• Lower Profit Margin (less profit relative to revenue)

• Inventory low or none

* Minimum marketing amount = [(308,000 + 25,000) x $99] x .14

= [333,333 x $99] x .14
= $32,967,000 x .14
= $4,620,000 (rounded) Product
Differentiation- Attain competitive advantage over Circle and Square by via
marketing. An example of the implementation of this strategy in the
simulation for your first year is:
What do I do? Start of What I enter
Simulation for my first
year

Set for Alpha price at the same $100 $101

amount as last year or slightly
higher

Run production at less than full 300,000 300,000

capacity (Note: take into account (Note: there are (will yield
the amount of inventory you have 25,000 in inventory 325,000 units
from the previous year) that were not sold for sale)
last year)
Spend more than the minimum on $4,500,000 $5,500,000
marketing (Note: this is
over 16% of
projected
revenue)
Spend the same or less on $300,000 $300,000
development
Do not increase your loan amount $12,000,000 $0 loan increase
unless you are running short of outstanding loan (Note: $750,000
cash is the maximum
amount you can
increase each
year)
Only pay back some of your loan $12,000,000 $0 loan payback
principal if you have the cash to do
so

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 outstanding loan

If you follow this strategy, you will expect to see the following results year-
on-year:

• Higher Profit Margin (more profit relative to revenue)

• Will have some inventory

Impact of increasing each decision variable (holding everything else constant)

Increase price of Alpha Decreases units sold, but also may

Increase in marketing
Increase in development
Setting production closer to full
capacity
increase revenue and gross profit
margin, depending on how much of
units sold declines
Increases units sold
Decreases unit cost (1 year lag)
Lowers unit cost (note there is a risk
of more inventory if the demand is
not as great as expected)

Enter Your First Operational Plan

Now that you have chosen your strategy it is time to enter your plan and
begin playing the game. Here are step-by-step instructions for entering your
1st Plan:

1. Start the simulation.

2. Run the Setup Wizard.
3. From the CEO Dashboard, click Plan for 20XX and the planning
input screen appears.

The planning screen has 3 tabs to enter your decisions (Price & Plan,
Expenses, and Financing). You start in the Price & Plan tab.

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4. Enter the price you wish to charge for Alpha in the Enter your price
for 20XX box.
5. Enter the amount of Alpha you wish to manufacture in the Enter
your plan for 20XX box. This amount will be manufactured and
added to your existing inventory.
6. Click Next to move to the Expenses tab. The screen changes to:

7. Enter the amount you wish to spend on marketing in the Marketing

box.
8. Enter the amount you wish to spend on development in the
Development box. Note: if you wish to go back and change your
price or production levels, simply click on its tab.
9. Click Next to move to the Financing tab. The screen changes to:

10. If you wish to increase your loan (limit of $750,000 per year), enter
the amount in the Enter your loan increase box.
11. If you wish to repay a portion of your loan’s principal, enter the
amount in the Enter your repayment amount box.
12. If you are happy with your plan, click Submit Plan and the
simulation runs. If you wish to change any of your decisions, click on
any of the tabs and make your changes. If you do not want to submit
this plan, click Close or close the window by clicking on the X in the
upper right.

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How to Analyze the Results

The simulation is rich in data and there are numerous steps and sequences
you could use to analyze what happened and why the results vary. Here is
one possible sequence.

1. How were sales?

a. How many units did you sell? Check the Supply Report.
b. What happened to your inventory? Did it go up, down, or
stay relatively the same? Check the Supply Report.
c. How many units did Circle and Square sell? This is easy to
calculate. Divide their Revenue by their Price. Revenue is
found in the Income Statement and their sales price is on the
CEO Dashboard.
d. Determine what caused results. Possible reasons to
investigate: (1) your price compared to Circle and Square’s
prices and (2) the amount you spent on marketing.
2. What was the price elasticity?
a. What was the percentage change in the quantity demanded
of my product relative the percentage change in my price?
b. What impact might my levels of spending on marketing have
had on my quantity demanded?
c. Is there a cross-elasticity factor involved? Did my
competitors change their prices and if so, how might that
have affected the quantity demanded for my product?

3. How was my income?

a. What are your revenue, gross profit, operating profit, and net
profit? Check the Income Statement.
b. What were the gross profit, operating profit, and net profit
for Circle and Square? Check the Income Statement.
c. What are the reasons for your results relative to theirs?
Possible reasons to investigate: (1) your price compared to
Circle and Square’s prices and (2) your spending on
marketing, development, and your unit cost.
**********************************************************
Note: the following questions are optional. These types of
questions are covered more in courses in finance and
accounting, but every business student should be familiar with
them.

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 4. How are my financial ratios?
a. What are your Gross Profit Margin, Operating Profit Margin,
and Net Profit Margin? Check the Financial Ratios Report.
b. What trend are you seeing in your ratios year-on-year?
c. What are Circle and Square’s Gross Profit Margin, Operating
Profit Margin, and Net Profit Margin? What is their trend?
How do they compare to your trend?
5. What is going on with inventory levels?
a. You know your inventory level from step 1.
b. What are the inventory levels of Circle and Square? Check
the Balance Sheet Report. Why are they different? Possible
reason: The company who charged the highest price,
probably has the highest level of inventory.

What should you do next?

Once you have analyzed the results, you can follow 1 of 3 possible strategies
for the next year.

1. Stick with your current strategy (low cost or differentiation)

2. Switch to the other strategy
3. Experiment with a blend of both business models
Quick Check on Your Understanding of What to Do Next: Suppose in the
first year you chose the cost leadership strategy as shown above. Which of
the following indicates that you decided to continue with this strategy in the
second year of your operation? 1

A. Price: $100 Marketing: $525,000 Development: $300,000

B. Price: $99 Marketing: $300,000 Development: $400,000
C. Price: $98 Marketing: $500,000 Development: $450,000
How to Win

When you complete your 5 years as CEO, you will receive an appraisal of
your performance based upon Angle’s performance against Circle and
Square. One of the 3 companies – Angle, Circle, or Square will be declared
the simulation winner based upon a balanced scorecard approach.

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Anytime during the simulation, you can view your score by clicking the
Score button from the Dashboard.

Consult the help menu for details on the scorecard calculations.

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