RSM392F LEC 0101, 0201: Strategic Management

Instructor: Hyeun Lee

Final Exam – Summer 2022

Academic integrity is taken very seriously in this class. Any attempts of academic
dishonesty will lead to severe administrative outcomes.

Exam Details

• Duration: 2 hours (9am-11am unless otherwise coordinated)

• Total points: 90 pts
• Grades depend on accurate use of the theory and your ability to link that theory to details
in the case.

Exam Reminders

• Type up your answers in Word document. If for some reason you are unable to use Word,
submit it as PDF. Do not handwrite your answers.
• Write your name and student number on the first page of your answer and include it in
the top header of each page.
• Answer all questions and make sure to indicate the number of the question you are
answering.
• If necessary, use page number and line number to reference contents from the case (e.g.
line x, page y).
• When you are done writing your exam, submit the electronic file to the assignment on
Quercus labelled “FINAL EXAM”. If you are having any issues with Quercus email me
your test answers at hyeun.lee@rotman.utoronto.ca.
• If you have questions during the exam, log into this zoom link
(https://utoronto.zoom.us/j/81319487734). If that does not work, email me.
• Write out your answers as a coherent argument, no bullet points.
• Regarding the Chuck E. Cheese business, use information from the case. No additional
knowledge required. No mathematical models required. Necessary details on the
background on the industry are summarized in the case.
• The case reading is drawn from business cases, official statements from Chuck E.
Cheese, and media articles. Certain details in the case have been modified and simplified
for the purposes of this exam.

1
 1 Nolan Bushnell and Atari
2 Atari, founded in 1972 by Nolan Bushnell, launched the video game industry with its big hit,
3 Pong. When Atari developed a home version of Pong in 1974, most game systems came with
4 one or several games in their circuits, and consumers were not able to add other games. This
5 changed when Atari introduced the Video Computer System (VCS) 2600 with games on
6 interchangeable cartridges and a joystick, separating the consoles and games.
7
8 Despite the huge success of Pong, there were challenges that Atari had to overcome. For
9 example, while the separation of consoles and games allowed Atari (and competitors) flexibility
10 in pricing their products, this also created tensions between game developers and console
11 makers. Because Atari’s VCS 2600 did not have a feature to lock out unwanted developers,
12 independent game makers were able to develop their games without permission or paying royalty
13 to Atari.
14
15 Atari continued to experience turbulent times in the late 1970s and was hit hard by the video
16 game crash of 1983. However, the rise and fall of businesses in this industry are common. Major
17 players like Nintendo or Sony have all experienced dominant positions in one period, only to be
18 dethroned by competitors in other periods. Many people still consider the founding of Atari to be
19 the inception of the Video Game industry and remember Atari as a legendary company that once
20 had Steve Jobs and Steve Wozniak as employees.
21
22 Chuck E. Cheese and Family Entertainment
23 As Atari experienced growth, Bushnell, who was also an avid Disney fan, saw potential in
24 business opportunities using arcade games (coin-operated entertainment machines typically
25 installed in public, such as restaurants). In the case of Pong, the arcade version was a great hit
26 that it sold for $1,500 USD to numerous restaurants and other locations, and in the lifetime of the
27 arcade machine, it would make more than $20,000 USD. These observations led him to think
28 about ways to operate the game machines in creative ways.
29
30 In 1977, Bushnell opened the first Chuck E. Cheese’s Pizza Time Theater, which today goes by
31 the name Chuck E. Cheese’s (or CEC for short). CEC is one of the first family-entertainment
32 concept companies, with the goal of inviting families and younger children to affordable
33 entertainment. As a father of eight children, he also knew that there were not enough places for a
34 family to go and have fun, especially where kids can play games in public spaces. At the time,
35 the closest things to CEC’s competitors included bowling alleys, arcades, and movie theaters. He
36 began to think of creating a big arcade with food as a support structure. Pizza was chosen for
37 simplicity in recipes, as it did not require too many ingredients or cooking expertise to prepare.
38
39 As a result of Bushnell’s keen interest in Disney, he decided to incorporate mechanized animal
40 characters into CEC. Inspired by the animatronics showroom at Disneyland, he decided to put
41 together a show with robotic characters (hence, no need for human performers or puppeteers),
42 which required programming animatronic control for characters; movements would sync with
43 songs played and could be changed when necessary. After deciding to go ahead with animatronic
44 control, he and his team came up with the iconic mouse character, Chuck E. Cheese, whose name
45 was purposefully chosen because it is hard to say without smiling. Originally, Chuck E. Cheese
46 was a rat carrying a cigar, then changed to a mouse in 1993 with a more child-friendly makeover

2
 1 to further boost sales. In 2012, the mouse character was given a rebranded image of a hip,
2 electric-guitar-playing rock star. The iconic mascot is now considered part of the childhood
3 memory by many adults who frequently visited CEC and watched shows there as a kid. Until
4 recently, an animatronics show featuring Chuck E. Cheese and his friends has been a staple
5 repertoire at any CEC store. CEC has registered trademarks for its characters, and the duration of
6 the trademark is unlimited.
7
8 Figure 1. Chuck E. Cheese’s Marketing (below)

9
10
11 Inside CEC Store
12 The typical CEC store is a brick-and-mortar entertainment area that targets kids between the ages
13 of 3 and 12, providing a variety of arcade-type games, and mechanized animal “shows” that
14 include Chuck E. Cheese and his other animatronic friends. CEC has been popular among
15 families with children and is known as a perfect venue to host large group birthday parties for
16 kids; about 20 % of the company’s sales come from these parties. A typical birthday package
17 starts at $14.99 USD per child and includes a few slices of pizzas and drinks along with tokens
18 for games. According to Michael Hartman, Chief Marketing Officer of CEC in 2017, 90% of
19 families with kids from ages 3 to 8 that live within 15 miles of the CEC location, have been to
20 the store. Also, most CEC consumers have an average household income of $50,000 to $75,000,
21 but more families with income below $50,000 come to CEC than those with above $75,000 of
22 household income.
23
24 About half of the store sales derive from entertainment and merchandise. Each Chuck E.
25 Cheese’s store includes a showroom area featuring musical entertainment presented by life-sized
26 animatronic characters and a playroom area offering arcade-style and skill-oriented games, video
27 games, rides, and other forms of entertainment. Tokens are used to activate the games and rides
28 in the playroom area. A number of skill-oriented games dispense tickets that guests can redeem
29 for prize merchandise such as toys and plush items. Guests can also purchase this merchandise
30 directly for cash. In contrast to cutting-edge innovations and fast changes taking place in the
31 home video game industry – where businesses like Atari originated from - many of the old
32 arcade games, including pinball or slightly updated versions of Pong are still popular and in use
33 in CEC today.
34
35 The other half of the store sales come from food and beverages. While the CEC stores focus on
36 pizzas, other food items are also available, including sandwiches, appetizers, a salad bar, and
37 desserts. Drinks are also served, along with beer and wine if permitted by local laws.
38
39 Major costs include labor, rent, food supplies, the fixed costs of the arcade machines, and other
40 store operating costs; in 2016, labor made up the largest share of costs at approximately 35%,
3
 1 while rent made up 13%. Each Chuck E. Cheese’s store typically employs a general manager,
2 one or two managers, an electronic specialist who is responsible for repair and maintenance of
3 the animatronic characters, games and rides, and approximately 20 to 40 food preparation and
4 service employees.
5
6 An early commentator characterized CEC as “a whirling combination of garish lights and
7 nonstop electronic noise that is quite unlike any other pizza parlor or video game arcade. It is
8 part Star Wars, part Disneyland, and part social phenomenon.” Another said, “I think [my kid]
9 has more fun there than he did when we went to Disneyland last year! Not everyone can afford to
10 go to a resort or theme park. But I think just about everyone can go to Chuck-e-Cheese.”
11
12 Figure 2. Games Inside Chuck E. Cheese’s (left)
13 Figure 3. Animatronics Show in Chuck E. Cheese’s (right)
14
15

16 Recent Challenges and actions

17 Despite initial success, CEC has been accumulating debt over time due to the decline in sales.
18 CEC has proactively addressed these challenges by updating games and changing store exterior
19 designs. Most importantly, in 2017, CEC decided to stop the use of animatronic robot band
20 shows on stage (Figure 3), and announced plans to replace the stage performance with a
21 centralized dance floor, where the mascot Chuck E. Cheese will make his live appearance (a
22 person in a costume) every hour to dance and pose for photos with kids (Figure 4). Unlike
23 children in the 1970s, children nowadays grow up watching movies and shows featuring
24 advanced technology. CEO Tom Leverton explained in 2017 to NPR’s Morning Edition by
25 saying, “A child today has high expectations for entertainment that the animatronics can’t live up
26 to those expectations.”
27
28 Figure 4. Centralized dance floor at Chuck E. Cheese (below)
29

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4
Questions

1. What are the key differences between the video game market that Atari was competing in
and the kid-focused arcade/family dining market that CEC is competing in? Focus on two
dimensions from the case and explain how they relate to creating and sustaining
competitive advantage (20 points).

2. During the early days of the CEC, a journalist made the following comment about CEC:
“The business strives to bring a disruptive innovation in family dining by combining
restaurants with games and entertainment.” Evaluate this argument based on what we
know about disruptive innovation (15 points).

3. To mitigate the high turnover of employees, suppose CEC is designing a reward system
for their employees. Employees working in party rooms and game rooms will receive a
bonus based on the number of kids they help or interact with during work hours. Evaluate
whether the incentive system aligns with the strategy of CEC and elaborate on anticipated
challenges in implementing this system (10 points).

4. As CEC continued to accumulate debt and experienced a decline in sales, suppose two
businesses are considering diversifying into the family entertainment/dining industry by
acquiring CEC: Nintendo and Disney.

First, Nintendo CEO is considering entering the brick-and-mortar, kid-based

arcade/entertainment industry by acquiring CEC. His idea is to create a space called
Mario’s Pizza Playhouse, where kids could interact with key Nintendo characters like
Mario, Luigi, Pikachu, and Zelda, while playing Nintendo-based arcade games (and
existing arcade games at CEC) and eating pizza (or other food).

At the same time, a Disney executive, spurred by the high interest in “character dining” at
their theme parks, pitched the idea of acquiring CEC. The idea involved replacing Chuck
E. Cheese with its iconic cast of characters, of which Disney has copyrights – Mickey
Mouse, Jack Sparrow, Cinderella, etc. – in an attempt to “Bring Disneyland closer to
home.” If necessary, Disney can keep the existing arcade games at CEC, and buy or rent
other game machines.

Based on what we know about Nintendo and Disney, which company is better suited to
diversity by acquiring CEC (Disney or Nintendo) and why? (20 points)

(continued)

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5. In 2020, CEC launched a delivery-only premium pizza brand “Pasqually’s Pizza &
Wings (hereafter PP)” that operates from CEC kitchens. Compared to pizzas at CEC, PP
uses a thicker crust, extra sauce, and new blends of cheeses and seasonings (e.g.,
Louisiana honey hot sauce, spicy Korean BBQ, spicy buffalo sauce, etc.). This virtual
brand has been a major source of revenue for CEC in 2020 and provided ways to utilize
CEC kitchens effectively when the demand for in-person dining plummeted during the
COVID-19 pandemic.

a. See below for a statement from CEC describing how the business secured ingredients
for pizzas before they launched PP.

“We use one distribution center operated by a single company to distribute produce
and other ingredients for our pizzas. The number of ingredients needed for pizzas is
relatively small, and we can buy them in bulk because predicting demand for each
ingredient is not too difficult. We are aware of other distributors, but we expect
uncertainties and additional costs if we replace our current distributor. By focusing on
one distributor, we believe we can further save cost.”

Explain which of Porter’s 5 forces is related to the above description and assess the
level of threat from that force. How will the launch of PP change this force? (15
points).

b. Suppose CEC is considering a total replacement of the current selection of pizza

menus at CEC with pizza menus served at PP, once the demand for in-person dining
recovers after the pandemic. The goal of the action is to provide more flavorful,
gourmet pizza at a higher price than before. Based on the source of sales and target
customers at CEC, will this action help to sustain CEC’s competitive advantage, and
why? In your answer, specify which resources and capabilities CEC and PP are
focusing on, respectively (10 points).