Question

Firm A and firm B both have total revenues of $200,000 and total costs of $250,000; firm A has total fixed costs of $40,000, while firm B has total fixed costs of $70,000. Which of the following statements are true in the short run?

Answer 1

Answer:

Company B is the only who can endure through time.

Explanation:

With this structure of total cost only company B can exist in the short run because company A variable cost are much higher than its revenues, so each unit of sales generate loss instead of profit.  

It's not possible that the company A exist, but company B needs to fix it's Fixed Costs in the short run because it won't be possible to cover those with the actual gross margin.

Answer 2

Answer:

The question is incomplete. The completed question is as follows:

Firm A and firm B both have total revenues of $200,000, and total costs of $250,000; firm A has total fixed costs of $40,000, while firm B has total fixed costs of $70,000. Which of the following statements are true in the short run? (explain and show work)

A. Firm A should operate.

B. Firm B should operate.

C. Firm A should shut down.

D. Firm B should shut down.

E. Both b and c.

The answer is : E

Explanation:

In the short a firm should continue operation if the price of its goods or services exceed the average variable costs of producing these goods or offering these services. The cost and revenue structures for Firm A and B is:

                                            A                                                     B

Total Revenue               $200, 000                                 $200, 000

Total cost                       $250, 000                                  $250, 000

Fixed costs (FC)             $40, 000                                    $70, 000

Variable costs                $210, 000                                  $180, 000

Contribution to FC      -($10,000)                                    $20,000

For every unit company A sells, they make a loss. For every unit that company B sells, they make additional revenue to cover fixed costs. In the short run, a company should continue to operate if it is able to at least cover the costs of production. If the revenue generated cannot cover variable costs associated with production then the company should shut down because there would be no economic incentive to continue operating. Firm A should therefore shut down in  the long run and Firm B should continue operating.