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Du Pont’s Titanium Business

Du Pont’s Titanium Business. Take Aways. Leader’s Capacity Affects Industry Profitability. Two firms with capacities q 1 and q 2 Firm 1 is industry leader Market demand is Q < q 1 + q 2 There is excess capacity in the industry Willingness to pay in the market is v

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Du Pont’s Titanium Business

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  1. Du Pont’s Titanium Business Take Aways

  2. Leader’s Capacity Affects Industry Profitability • Two firms with capacities q1and q2 • Firm 1 is industry leader • Market demand is Q < q1 + q2 • There is excess capacity in the industry • Willingness to pay in the market is v • Firm 1 earns v * (Q – q2) • Firm 2 earns v * (Q – q2) * (q2/Q)

  3. Increasing Concentration Increases Industry Profits • Now suppose that industry becomes more concentrated: • Firm 1 obtains 1 more unit of capacity and firm 2 one less unit of capacity relative to Q • Firm 1 earns v profits on this additional unit • Firm 2 loses v * (q2/Q) from the reduction in its relative capacity • Hence, industry profits increase

  4. Incentives to Acquire Capacity – Ignoring Game Theory • Naïve model: • Firm 1 already has idle capacity • So the marginal value of acquiring more capacity is zero • Firm 2 is using all its capacity, so its marginal valuation is v * (q2/Q) • Hence the naïve model predicts that firm 2 will have greater incentive to acquire additional capacity

  5. Incentives to Acquire Capacity – Game Theory Incentives • Sophisticated model: • As demand grows, market will become more concentrated if firm 1 acquires additional capacity • Marginal value of this capacity to firm 1 is v • Marginal value of this capacity to firm 2 is v * (q2/Q) • Thus, a strategic firm 1 will seek to pre-empt capacity expansions by firm 2

  6. How does industry concentration affect prices? • Key assumption in DuPont’s analysis: Growth strategy will raise industry prices • Thought experiment: Shift one unit of capacity from firm 2 to firm 1 • Suppose v = 26c/lb • Pre-shift price: v (Q – q2+ (q2/Q) * q2) • Post-shift price: v (Q – q2 + 1+ (q2/Q) * (q2 -1) • Price increase: • v * ( 1 - (q2/Q) )

  7. Matching Price Increases • Without sufficient excess capacity, not matching a price increase does nothing to the profits of rivals • With sufficient excess capacity, not matching a price increase leads to market share gains at the expense of rivals

  8. Take Aways – Strength of DuPont’s Strategy • Pre-emptive capacity expansion depends on current structure of the industry: • Pros for DuPont • Cost asymmetry • Positive feedback (experience curve effects) • Favorable policy environment • Announcements (signals) were a key part of DuPont’s strategy • Leveraging corporate reputation in the future

  9. Take Aways – Weaknesses of DuPont’s Strategy • Projections had problems: • No accounting for cycles • Overconfidence about sales and policy outcome • Little regard for variation in rival responses • Pricing strategy had problems • Holding the line on prices in an industry with high capacity utilization was simply ineffective • Not clear that the upside was worth the gamble

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