Economics

MODULE 5. HEALTH ECONOMICS AND QUANTITATIVE METHODS

UNIT 2. SMALL GROUP PROBLEM SET 5.2.B.

 

 

General Instructions

 

EACH STUDENT SHOULD SEEK TO ANSWER THE QUESTIONS BELOW PRIOR TO THE STUDENT-LED SMALL GROUP DISCUSSION AND A SMALL GROUP-LEVEL RESPONSE FORMULATED. EACH SMALL GROUP IS THEN TO SUBMIT ITS RESPONSE TO THE QUESTIONS BELOW NO LATER THAN 8:00 PM EDT ON MONDAY FOLLOWING THE INSTRUCTOR-LED DISCUSSION SESSION FOR THIS UNIT.

 

The Scenario

Two physical therapy firms are exploring the possibility of merging.  The data for each of these firms are:

 

Firm #1                                  Firm #2

 

Visits:                          12,000                                                14,400

Marginal Cost:           $25.00                                                $25.00

Fixed Costs:               $75,000                                  $100,000

Market Share:                          10%                                      12%

 

After the merger, marginal costs are expected to stay the same at $25.00 per visit. Combined fixed costs are estimated to remain at $175,000.  If there were no loss of patients, the combined volume for the merged firms would be 26,400 visits, or a 22% market share.

 

The overall price elasticity of demand for physical therapy is estimated to be -0.40.

 

The Assigned Analysis

 

  • Utilize Cornot’s economic pricing model and Lerner’s index of monopoly power to calculate the firm-specific elasticity that Firms 1 & 2 each face and the profit-maximizing price for each. Using these prices, calculate the current total costs, revenues, and profits for each of the firms.

 

  • (i) Calculate total costs, revenues, and profits for the merged entity, assuming current price and patient visit levels. (ii) Using the merged organization’s higher market share, calculate the profit-maximizing price it theoretically might charge and estimate total revenues, costs, and profits under this scenario.

 

  • How realistic/probable is the scenario you just analyzed in (B) (ii) above? Provide an explanation for your answer.

 

  • What is a more realistic scenario with respect to post-merger pricing and visit volume? Provide estimates of total revenues, costs, and profits under this scenario.

 

  • What additional information might you seek and (pricing) strategies might you pursue to maximize the marketshare and profitability of this merger?

 

 

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