Question

Mega Media Cable TV is able to purchase an exclusive right to sell a premium sports channel in its market area. Let's assume that Mega Media pays $100,000 a year for the exclusive marketing rights to the sports channel. Since Mega Media has already installed cable to all of the homes in its market area, the marginal cost of delivering the sports channel to subscribers is zero. The manager of Mega Media needs to know what price to charge for the sports channel service to maximize her profit. Before setting price, she hires an economist to estimate demand for the sports channel. The economist discovers that there are two types of subscribers who value premium sporting channels. First are the 3,000 die-hard sports fans who will pay as much as $150 a year for the new channel. Second, the premium sports channel will appeal to 20,000 occasional sports viewers who will pay as much as $25 a year for a subscription to it.

A) How much profit will Mega Media Cable TV earn if it sets the price at $25
B) How much profit will Mega Media Cable TV earn if it sets the price at $150
C) If Mega Media Cable TV is unable to price discriminate, what price will it choose to maximize its profit, and what is the amount of the profit
D) If Mega Media Cable TV is able to price discriminate, what would be the maximum amount of profit it could generate

Answer 1

A) If Mega Media sets the price at $25, 23,000 sports viewers will subscribe to their sports channel. Their profit will = (23,000 x $25) - $100,000 = $575,000 - $100,000 = $475,000

B) If Mega Media sets the price at $150, only 3,000 sports viewers will subscribe to their sports channel. Their profit will = (3,000 x $150) - $100,000 = $450,000 - $100,000 = $350,000

C) Since Mega Media is not able to price discriminate, then it should charge only $25 a year for the subscribing to the sports channel since at that price their profit will be $475,000.

D) If Mega Media could price discriminate, its profit = (20,000 x $25) + (3,000 x $150) - $100,000 = $500,000 + $450,000 - $100,000 = $850,000