How to install enough capacity to produce

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Firm A has developed a new product and must now decide whether to install enough capacity to produce either one or two units of the product. It expects production costs (including capacity building) to be C(q) = 8q + q2 and it estimates demand for the product to be D(p) = 10 0.5 p. It also expects that, as soon as its capacity building plans are announced, a rival firm, firm B, will develop a clone (which consumers view as a perfect substitute for the product of firm A) and then to install enough capacity to produce either one or two units of this clone product. It expects Firm B to have identical costs. Represent this situation as an extensive-form game and use backward induction to deduce what capacity Firms A and B will install.

Reference no: EM13190582

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