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Question
Jack and Diane own Enviromax, a monopolistically competitive firm that recycles paper products. (1.)If Enviromax wants to maximize profit, what price would they charge? (2).What is their profit per unit if they are operating at the profit maximizing output?
Answer / Explanation
(1) First before we continue to answer this question, let us define what a monopoly is: This is a kind of market situation where the sole production or manufacturing of a product have been given to a single entity.
The graph attached below will give us a proper understanding and illustration of the answer.
Where: MR in the graph is defined as the additional revenue obtained when producers produce 1 more unit of good and the AR refers to the total revenue divided by the amount of output produced which is essentially the price of one unit of good.
MC refers to the additional cost incurred by producers when they produce 1 more unit of good and is upwards sloping due to increasing opportunity costs of production.
Noting that since the firm is a monopolistic type, the MR curve is lower than the AR curve because if the firm wants to sell an additional unit of output it will have to lower the successive price. This is unlike the case of a firm operating in a PC where it takes the price as given and hence has no ability to set prices. it should also be noted that profit maximizing for all firms (whether PC or non-PC) occurs at MC=MR. This is because if MC>MR this means the additional cost of producing this unit of good > additional revenue obtained from selling this unit of good and is hence not profit maximizing. If MC<MR, this implies that the firm should not stop at producing this unit of good because it will be forgoing the additional net revenue (profit) should it do so. Hence all firms will produce at the point where MC=MR.
(2) Now referring back to the graph, the profit-maximising point where MC intersects MR hence occurs at output Q. The firm will hence produce Q and hence price at P according to the AR (DD) curve.
In the graph below, since AR > AC at the profit maximizing level, this implies that per unit revenue > per unit costs and the firm makes a supernormal profit (defined as what excess profit above what is needed to keep firms in production which is normal profit) of the shaded area. If the firm was operating in a perfectly competitive market however, then the profit maximizing point would occur at AR =MC (since AR=MR in a PC market) and the firm would be producing at Qpc and Ppc
My answer is: Produce Product C first, then followed by Product A. to maximize contribution margin. Product B will not be produced since the maximum number of pounds has already been used in producing Products C and A.
<span> <span> </span><span><span> PER UNIT
</span> <span> PRODUCT A B C
</span> <span> SELLING PRICE 80 62 81
</span> <span> VARIABLE EXPENSES
</span> <span> DIRECT MATERIALS 24 18 9
</span> <span> OTHER VAR EXP. 24 25.4 43.65
</span> <span> TOTAL VAR EXP 48 43.4 52.65
</span> <span> CONTRIBUTION MARGIN 32 18.6 28.35
</span> <span> <span>CM RATIO </span> 0.4 0.3 0.35
</span> <span> </span> <span>
COMPANY CAN SELL 800 UNITS OF EACH PRODUCT PER MONTH.
</span> <span> SAME RAW MATERIAL IS USED IN EACH PRODUCT.
</span> <span> MATERIAL COSTS 3 PER POUND W/ A MAX OF 5,000 POUNDS EACH MONTH
</span> <span> </span> <span>
PRODUCT DM <span>UNIT COST </span> NO. OF LBS
</span> <span> A 24 3 8
</span> <span> B 18 3 6
</span> <span> C 9 3 3
</span> <span> </span> <span> PRODUCT NO. OF LBS/UNIT MAX UNITS TOTAL NO. OF LBS
</span> <span> A 8 800 6400
</span> <span> B 6 800 4800
</span> <span> C 3 800 2400
</span> <span> TOTAL 13600
</span> <span> LIMITATION: 5,000 POUNDS PER MONTH ONLY.
</span></span></span><span> <span> </span><span><span> <span>required: </span>
</span> <span> <span>1. calculate the contribution margin per pound of the constraining resource for each product. </span>
</span> <span> 2. which orders would you advise the company to accept first, those for a, b, or c? which orders second? third?
</span> <span> </span> <span>
</span></span></span><span>PLS. SEE ATTACHMENTS FOR MY FULL COMPUTATIONS. </span>
<span> <span> </span><span><span> PER UNIT
</span> <span> PRODUCT A B C
</span> <span> SELLING PRICE 80 62 81
</span> <span> VARIABLE EXPENSES
</span> <span> DIRECT MATERIALS 24 18 9
</span> <span> OTHER VAR EXP. 24 25.4 43.65
</span> <span> TOTAL VAR EXP 48 43.4 52.65
</span> <span> CONTRIBUTION MARGIN 32 18.6 28.35
</span> <span> <span>CM RATIO </span> 0.4 0.3 0.35
</span> <span> </span> <span>
COMPANY CAN SELL 800 UNITS OF EACH PRODUCT PER MONTH.
</span> <span> SAME RAW MATERIAL IS USED IN EACH PRODUCT.
</span> <span> MATERIAL COSTS 3 PER POUND W/ A MAX OF 5,000 POUNDS EACH MONTH
</span> <span> </span> <span>
PRODUCT DM <span>UNIT COST </span> NO. OF LBS
</span> <span> A 24 3 8
</span> <span> B 18 3 6
</span> <span> C 9 3 3
</span> <span> </span> <span> PRODUCT NO. OF LBS/UNIT MAX UNITS TOTAL NO. OF LBS
</span> <span> A 8 800 6400
</span> <span> B 6 800 4800
</span> <span> C 3 800 2400
</span> <span> TOTAL 13600
</span> <span> LIMITATION: 5,000 POUNDS PER MONTH ONLY.
</span></span></span><span> <span> </span><span><span> <span>required: </span>
</span> <span> <span>1. calculate the contribution margin per pound of the constraining resource for each product. </span>
</span> <span> 2. which orders would you advise the company to accept first, those for a, b, or c? which orders second? third?
</span> <span> </span> <span>
</span></span></span><span>PLS. SEE ATTACHMENTS FOR MY FULL COMPUTATIONS. </span>