Problem
Background: Travel-Rx plans to spend $6 million to transform 6 recreational vehicles (rv's) into health labs. The rv's will tour the Texas offering a $99 heart-health workup to anybody who wants one. The workup consists of a detailed questionnaire and some basic diagnostics (blood pressure, ultrasound, cholesterol test, etc). Using the information from the questionnaire and the diagnostics, a statistical analysis will determine the customer's risk of a heart "malfunction" in the next year, the next three years, and the next five years. Similar question-based analyses are free online; expensive diagnostic-based analyses are available from doctors; Travel-Rx merges the two. None of the statistical analyses can outperform a coin-flip.
Travel-Rx claims that one factor in the decision to go with 6 labs is that 6 labs will deter entry by others. They provided the following data to support their claim (the numbers are expected profits):
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The Competition
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Travel-Rx
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Do Not Enter
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Enter & Compete
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5 or fewer labs
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30, 0
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5, 10
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6 or more labs
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20, 0
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2,2
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1. How can firms use a commitment to achieve their preferred outcome?
2. What is the effectiveness of commitments?
3. How does sunk cost affects credibility?