Investments and Pricing Problems

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Running head: Investments and Pricing 1 Activity 2 – Investments and Pricing Student’s Name: Shriya Agarwal Institutional Affiliation: University of Cumberlands Course: 2023 Summer - Managerial Economics (BADM-535-B03) - Second Bi-term Instructor: Craig Hovey Due Date – 7/16/2023

Investments and Pricing 2 Q1 You own a plant that produces 10,000 copiers per year. Your fixed costs are $50,000 per year. The marginal cost per copier is a constant $5. What is your break-even price? What would be your break-even price if you were to sell 70% more copiers? Solution- Given: Number of copiers produced per year: 10,000 Fixed costs per year: $50,000 Marginal cost per copier: $5 Break-even point occurs when the total revenue equals the total cost. The total cost is the sum of the fixed costs and the variable costs. Total cost = Fixed costs + (Marginal cost per copier × Number of copiers) Total cost = $50,000 + ($5 × 10,000) = $50,000 + $50,000 = $100,000 Break-even price = Total cost / Number of copiers Break-even price = $100,000 / 10,000 = $10 Hence, break-even price for selling 10,000 copiers per year = $10. If production increases by 70%, New number of copiers = 10,000 + (70% of 10,000) New number of copiers = 10,000 + 7,000 = 17,000

Investments and Pricing 3 New total cost = Fixed costs + (Marginal cost per copier × New number of copiers) = $50,000 + ($5 × 17,000) = $50,000 + $85,000 = $135,000 New break-even price = New total cost / New number of copiers = $135,000 / 17,000 = $7.94 Hence, the break-even price for selling 17,000 copiers per year would be approximately $7.94 We can conclude that the break even price will decrease due to the increase in production in one financial year. Q2 Suppose you make an initial investment of $70,000 that will return $20,000/year for four years (assume the $20,000 is received each year at the end of the year). Is this a profitable investment if the discount rate is 15% Solution: Given: Initial investment: $70,000 Annual cash inflow: $20,000 Number of years: 4 Discount rate: 15% To determine if the investment is profitable, we need to calculate the net present value (NPV) of the cash flows using the discount rate of 15%

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Investments and Pricing 4 NPV = (Cash inflow year 1 / (1 + Discount rate)^1) + (Cash inflow year 2 / (1 + Discount rate)^2) + ... + (Cash inflow year n / (1 + Discount rate)^n) - Initial investment = ($20,000 / (1 + 0.15)^1) + ($20,000 / (1 + 0.15)^2) + ($20,000 / (1 + 0.15)^3) + ($20,000 / (1 + 0.15)^4) - $70,000 = $17,391.30 + $15,124.51 + $13,137.40 + $11,391.22 - $70,000 = $67,044.43 - $70,000 = -$2,955.57 To conclude, the NPV which we calculated is negative which indicates that the investment is not profitable at a discount rate of 15%. Q3 A US company has revenue of $5.5 million and total costs of $7.5 million, which are or can be broken down into total fixed cost of $3 million and total variable cost of $4.5 million. The net loss on the firm’s income statement is reported as $2,000,000 (ignoring tax implications). In prior periods, the firm had reported profits on its operations. a. What decision should the firm make regarding operations over the short term? b. What decision should the firm make regarding operations over the long term? c. Assume the same business scenario except that revenue is now $5.0 million, and total costs of $7.5 million, which are or can be broken down into total fixed cost of $3 million and total variable cost of $4.5 million, which creates a net loss of $2.5 million. What decision should the firm make regarding operations in this case? Solution a. Given - Revenue: $5.5 million Total costs: $7.5 million ( Fixed cost = $3 million, Variable cost = $4.5 million) Net loss: $2,000,000

Investments and Pricing 5 Short Term Decision: The company should assess its cost structure and look for chances to cut costs in the near future. To boost its financial performance, it can concentrate on reducing fixed costs while also maximizing variable costs. In order to make up for the losses, the company should evaluate its pricing strategy and think about raising prices or looking into other sources of income. Solution b: Long Term Decision: Long term, the company must thoroughly examine both its operations and business model. It should examine the factors that led to the net loss to see if there were any systematic or recurring problems. The company may need to make strategic adjustments, such as reassessing the products it offers, broadening its clientele, enhancing operational effectiveness, or investigating new markets. To maintain future profitability, it should also continuously monitor and control its costs. Solution c: Given - Revenue = $5 million Total costs= $7.5 million Net loss: $2.5 million In this scenario, the net loss has increased compared to before. Decision- The company should carefully assess its operations and financial viability considering the

Investments and Pricing 6 substantial net loss. To deal with the loss, it could be necessary to take quicker and drastic actions. This may entail implementing cost-cutting measures, reassessing its pricing strategy, investigating new revenue sources, or even taking strategic alliances or restructuring possibilities into consideration. To ascertain whether significant adjustments or restructuring is necessary, the company should also perform a detailed examination of its business model and long-term viability. In all cases, it is essential for the business to closely monitor its financial performance, evaluate its cost structure, and make strategic decisions to enhance operations and generate a profit. In order for the business to adapt and make educated decisions, regular financial analysis and forecasts are necessary to detect trends, challenges, and opportunities. Reference Chen, C. (2022). Input price discrimination and allocation efficiency. Review of Industrial Organization, 60 (1), 93–107. https://doi.org/10.1007/s11151-021-09830-1

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