Question

Exxon Mobil Selling All Its Retail Gas Stations Exxon Mobil is not alone among Big Oil exiting the retail gas business, a market where profits have gotten tougher as crude oil prices have risen. Gas station owners say they're struggling to turn a profit because while wholesale gasoline prices have risen sharply, they've been unable to raise pump prices fast enough to keep pace. Source: Houston Chronicle, June 12,2008 a. Is Exxon Mobil making a shutdown or exit decision in the retail gasoline market? b. Under what conditions will this decision maximize Exxon Mobil's economic profit? c. How might Exxon Mobil's decision affect the economic profit of other gasoline retailers?

Short answer

Exxon Mobil is making an exit decision. This maximizes profit if cost savings and reallocations to other ventures outweigh staying in retail. Other retailers may see increased profits due to reduced competition.

Step-by-step solution

Understanding the Difference Between Shutdown and Exit

Shutdown refers to a short-term decision to stop production during periods when a firm expects revenue to be less than its variable costs. In contrast, an exit is a long-term decision where a firm leaves the market permanently by selling off its assets and ceasing operations.

Analyzing Exxon Mobil's Decision

Exxon Mobil is selling all its retail gas stations, which indicates a permanent exit from the retail gasoline market. This is not a short-term shutdown but a long-term exit decision.

Conditions for Maximizing Economic Profit for Exxon Mobil

Exxon Mobil's decision will maximize its economic profit if the long-term benefits of reallocating resources outweigh the revenue generated from the retail gas business. This condition occurs when the cost savings from exiting (avoiding high operational costs and variable costs) and the potential profits from other ventures or investments are greater than the profits they could have earned by staying in the retail gasoline market.

Impact on Economic Profit of Other Gasoline Retailers

Exxon Mobil's exit may affect other gasoline retailers in various ways. With one less competitor, remaining retailers may experience reduced competition, potentially allowing them to increase their market share and possibly raise prices, which could increase their economic profit. However, this depends on the overall market conditions and the ability of remaining retailers to capture Exxon Mobil's former customer base.

Key concepts

shutdown decision

A shutdown decision in the context of a market like the gasoline market refers to a firm's choice to temporarily halt operations. This situation arises when the revenue a firm expects to generate is less than its variable costs. Variable costs include those expenses that vary with production levels, such as raw materials and labor. For example, if a gas station finds that the costs of purchasing gasoline and maintaining operations exceed the revenue earned from sales, it may decide a temporary shutdown is warranted. The key idea here is that a shutdown is not a permanent exit. The firm expects that market conditions might improve in the future, allowing it to restart operations profitably.

exit decision

An exit decision is a long-term strategy where a firm opts to leave the market entirely. This decision involves selling off assets, ceasing operations, and reallocating resources to more profitable ventures. In the case of Exxon Mobil selling all its retail gas stations, the company is making an exit decision. This move suggests Exxon Mobil does not expect sufficient future profitability in the retail gasoline market to justify continuing operations. Instead, the company believes it can generate better economic returns by investing resources elsewhere. By exiting, Exxon Mobil aims to reduce costs associated with maintaining retail stations, such as high operational expenses and variable costs, and potentially invest in more lucrative opportunities.

market competition

Market competition describes the dynamic environment where firms vie for customers within a specific market. Exxon Mobil’s exit from the retail gasoline market can have significant effects on market competition. With one less major player, remaining gasoline retailers may face reduced competitive pressure. This reduction in competition could allow these retailers to capture a larger share of the market and potentially increase their prices. The effect of reduced competition generally leads to higher economic profits for the remaining firms as they can gain customers who previously patronized Exxon Mobil. However, the overarching market conditions and the competitive responses of remaining firms will ultimately determine the extent of these benefits.