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The Price Is Right for Priceline But Not WebHouse
Subject Losses and shutdown condition
Topic Production and Costs
Key Words Consumers, bid, cost, subsidy, profitability, sales, subsidiary, coupons, market, manufacturers
News Story

Priceline.com allows consumers to bid for airline tickets, among other things. If the bid is accepted, the consumer is obliged to accept the itinerary and airline. Initially, the founder subsidized tickets, selling them below cost, in order to attract consumers. Later, the major airlines joined his system. The company is now headed toward profitability.

The same idea has been applied to sales of groceries by WebHouse, an independent subsidiary of Priceline. Consumers could bid on more than 200 grocery items, but could not specify the brand. They could then use a special identification card to pick up the groceries at any of thousands of supermarkets. Although it was similar to offering coupons to a limited part of the market, manufacturers were slow to participate. The company therefore had to subsidize purchases. It also faced costs of half a billion dollars to build a network connecting 80,000 cash registers. Now, WebHouse is shutting down because it cannot raise enough money to continue.

(Updated November 1, 2000)

Questions
1.

Priceline.com has been fairly successful in selling airline tickets.
a) Draw a diagram of Priceline's average total, average variable and marginal cost curves. Show the price as a horizontal line such that the company is making a small loss but stays in business. Shade in the area representing the loss.
b) Explain why Priceline is able to stay in business in spite of making a loss.

2. WebHouse has not been as successful.
a) Draw a diagram of WebHouse's three cost curves. In drawing them, remember that the company has higher fixed costs than Priceline because of its network of cash registers, and also has higher variable costs because it is subsidizing sales. Explain how this has affected the way you have drawn the curves compared to your diagram in Question 1.
b) Now add a price line such that WebHouse is obliged to shut down. Explain why it is necessary to shut down.
Source Saul Hansell, "Priceline's WebHouse Club Abandoned as Investors Balk," The New York Times, October 6, 2000.

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