South-Western College Publishing - Economics  
Mommy, can we go to "--- 'R' Us" today?
Subject toy store considers leaving the toy industry
Topic Profit Maximization and the Firm; Monopolistic Competition
Key Words

profit, sales, loss, competition

News Story

Giant toy retailer Toys 'R' Us is considering leaving the toy business. Once a leader in toy retail sales, with 25% of the market in the 1980s, the giant's market share has fallen to 15% currently. It reported that same-store sales fell 5.1% in the last fiscal year.

Why the downfall? Most importantly, Wal-Mart. Wal-Mart has used toys as loss leaders in its stores, pricing toys at lower than cost to lure customers into the stores and consistently undercutting other toy retailers' prices. Wal-Mart now holds a 25% market share for toys. Secondly, children are turning to electronic games at a much younger age, leaving Toys 'R' Us behind in favor of Best Buy, Electronics Boutique, and other electronics retailers.

Toys 'R' Us plans to focus more on its Babies 'R' Us store format, selling everything from diapers and strollers to baby furniture and beginning toys. This format has been hugely successful for the firm. Profits from this component of the company have steadily risen over time by about 16%. Toys 'R' Us has also shuttered all of its Kids 'R' Us clothing stores, and all Imaginarium stores. There is no telling how long this strategy will work for it, though, since Wal-Mart and Target Stores are both focusing on the baby goods industry as well.

(Updated September, 2004)

Questions
1.

The article gives two reasons for the demise of Toys 'R' Us. Illustrate graphically with supply and demand curves the impact of these changes on the market for toys at Toys 'R' Us.

2. Why would Wal-Mart use toys as a "loss leader?" What is the economic rationale behind such activity?
3. What must have been true about the relationship between the average variable cost and price of its products for Toys 'R' Us to decide to close stores and leave the industry completely? Explain.
Source Joseph Pereira, Rob Tomsho and Ann Zimmerman. "Toys 'Were' Us?" The Wall Street Journal. 12 August 2004, http://www.wsj.com

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