Business Microeconomics

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Use this textbook when needed: Douglas, E. (2012). Managerial Economics (1st ed.) [Electronic version]. Retrieved from https://content.ashford.edu/ and cite!

 

Business Microeconomics Discussion 1

Please complete the following two applied problems. Show all your calculations and explain your results.

Problem 1:

A generous university benefactor has agreed to donate a large amount of money for student scholarships. The money can be provided in one lump sum of $12 million in Year 0 (the current year), or in parts, in which $7 million can be provided at the end of Year 1, and another $7 million can be provided at the end of Year 2.

Describe your answer for each item below in complete sentences, whenever it is necessary. Show all of your calculations and processes for the following points:

  1. Assuming the opportunity interest rate is 8%, what is the present value of the second alternative mentioned above? Which of the two alternatives should be chosen and why?
  2. How would your decision change if the opportunity interest rate is 12%?
  3. Provide a description of a scenario where this kind of decision between two types of payment streams applies in the “real-world” business setting.

Problem 2:

The San Diego LLC is considering a three-year project, Project A, involving an initial investment of $80 million and the following cash inflows and probabilities:

Year 0Year 1Year 2Year 3
ProbabilityCash Flow
($ mil.)
ProbabilityCash Flow
($mil.)
ProbabilityCash Flow
($ mil.)
0.2500.1600.370
0.3400.2500.460
0.4300.3400.150
0.1200.4300.240
Initial Investment
$80 mil.
      
Discount Rate
8%
      

Describe your answer for each question in complete sentences, whenever it is necessary. Show all of your calculations and processes for the following points:

  1. Describe and calculate Project A’s expected net present value (ENPV) and standard deviation (SD), assuming the discount rate (or risk-free interest rate) to be 8%. What is the decision rule in terms of ENPV? What will be San Diego LLC’s decision regarding this project? Describe your answer.
  2. The company is also considering another three-year project, Project B, which has an ENPV of $32 million and standard deviation of $10.5 million. Project A and B are mutually exclusive. Which of the two projects would you prefer if you do not consider the risk factor? Explain.
  3. Describe the coefficient of variation (CV) and the standard deviation (SD) in connection with risk attitudes and decision making. If you now also consider your risk-aversion attitude, as the CEO of the San Diego LLC will you make a different decision between Project A and Project B? Why or why not?

 

Business Microeconomics Discussion 2

Problem 1:

Patricia is researching venues for a restaurant business. She is evaluating three major attributes that she considers important in her choice: taste, location, and price. The value she places on each attribute, however, differs according to what type of restaurant she is going to start. If she opens a restaurant in a suburban area of Los Angeles, then taste is the most important attribute, three times as important as location, and two times as important as price. If she opens a restaurant in the Los Angeles metropolitan area, then location becomes three times as important as taste and two times as important as price. She is considering two venues, respectively, a steak restaurant and a pizza restaurant, both of which are priced the same. She has rated each attribute on a scale of 1 to 100 for each of the two different types of restaurants.

Steak RestaurantPizza Restaurant
Taste
Location
Price
80
55
65
70
80
50

Show all of your calculations and processes. Describe your answer for each question in complete sentences.

  1. Which of the two options should Patricia pursue if she wants to open a restaurant in a suburban area of Los Angeles? Calculate the total expected utility from each restaurant option and compare. Graph is not required. Describe your answer, and show your calculations.
  2. Which of the two options should she pick if she plans to open a restaurant in the Los Angeles metropolitan area? Describe your answer, and show your calculations.
  3. Which option should she pursue if the probability of finding a restaurant venue in a suburban area can be reliably estimated as 0.7 and in a metropolitan area as 0.3? Describe your reasoning and show your calculations.
  4. Provide a description of a scenario in which this kind of decision between two choices, based on weighing their underlying attributes, applies in the “real-world” business setting. Furthermore, what are the benefits and drawbacks, if any, to this method of decision making?

Problem 2:

The demand function for Newton’s Donuts has been estimated as follows:

Qx = -14 – 54Px + 45Py + 0.62Ax

where Qx represents thousands of donuts; Px is the price per donut; Py is the average price per donut of other brands of donuts; and Ax represents thousands of dollars spent on advertising Newton’s Donuts. The current values of the independent variables are Ax=120, Px=0.95, and Py=0.64.

Show all of your calculations and processes. Describe your answer for each question in complete sentences, whenever it is necessary.

  1. Calculate the price elasticity of demand for Newton’s Donuts and describe what it means. Describe your answer and show your calculations.
  2. Derive an expression for the inverse demand curve for Newton’s Donuts. Describe your answer and show your calculations.
  3. If the cost of producing Newton’s Donuts is constant at $0.15 per donut, should they reduce the price and thereafter, sell more donuts (assuming profit maximization is the company’s goal)?
  4. Should Newton’s Donuts spend more on advertising?

 

Discussion 3

Please complete the following two applied problems:

Problem 1:

William is the owner of a small pizza shop and is thinking of increasing products and lowering costs. William’s pizza shop owns four ovens and the cost of the four ovens is $1,000. Each worker is paid $500 per week.

Workers employedQty of pizzas produced per week
0
1
2
3
4
5
6
7
8
0
75
180
360
600
900
1140
1260
1360

Show all of your calculations and processes. Describe your answer for each question in complete sentences, whenever it is necessary.

  1. Which inputs are fixed and which are variable in the production function of William’s pizza shop? Over what ranges do there appear to be increasing, constant, and/or diminishing returns to the number of workers employed?
  2. What number of workers appears to be most efficient in terms of pizza product per worker?
  3. What number of workers appears to minimize the marginal cost of pizza production assuming that each pizza worker is paid $500 per week?
  4. Why would marginal productivity decline when you hire more workers in the short run after a certain level?
  5. How would expanding the business affect the economies of scale? When would you have constant returns to scale or diseconomies of scale? Describe your answer.

Problem 2:

The Paradise Shoes Company has estimated its weekly TVC function from data collected over the past several months, as TVC = 3450 + 20Q + 0.008Q2 where TVC represents the total variable cost and Q represents pairs of shoes produced per week. And its demand equation is Q = 4100 – 25P. The company is currently producing 1,000 pairs of shoes weekly and is considering expanding its output to 1,200 pairs of shoes weekly. To do this, it will have to lease another shoe-making machine ($2,000 per week fixed payment until the lease period ends).

Show all of your calculations and processes. Describe your answer for each item below in complete sentences, whenever it is necessary.

  1. Describe and derive an expression for the marginal cost (MC) curve.
  2. Describe and estimate the incremental costs of the extra 200 pairs per week (from 1,000 pairs to 1,200 pairs of shoes).
  3. What are the profit-maximizing price and output levels for Paradise Shoes? Describe and calculate the profit-maximizing price and output.
  4. Discuss whether or not Paradise Shoes should expand its output further beyond 1,200 pairs per week. State all assumptions and qualifications that underlie your recommendation.

 

Discussion 4

Problem 1: 

Robert’s New Way Vacuum Cleaner Company is a newly started small business that produces vacuum cleaners and belongs to a monopolistically competitive market. Its demand curve for the product is expressed as Q = 5000 – 25P where Q is the number of vacuum cleaners per year and P is in dollars. Cost estimation processes have determined that the firm’s cost function is represented by TC = 1500 + 20Q + 0.02Q2.

Show all of your calculations and processes. Describe your answer for each question in complete sentences, whenever it is necessary.

  1. What are the profit-maximizing price and output levels? Explain them and calculate algebraically for equilibrium P (price) and Q (output). Then, plot the MC (marginal cost), D (demand), and MR (marginal revenue) curves graphically and illustrate the equilibrium point.
  2. How much economic profit do you expect that Robert’s company will make in the first year?
  3. Do you expect this economic profit level to continue in subsequent years? Why or why not?
Problem 2: 

Greener Grass Company (GGC) competes with its main rival, Better Lawns and Gardens (BLG), in the supply and installation of in-ground lawn watering systems in the wealthy western suburbs of a major east-coast city. Last year, GGC’s price for the typical lawn system was $1,900 compared with BLG’s price of $2,100. GGC installed 9,960 systems, or about 60% of total sales and BLG installed the rest. (No doubt many additional systems were installed by do-it-yourself homeowners because the parts are readily available at hardware stores.)

GGC has substantial excess capacity–it could easily install 25,000 systems annually, as it has all the necessary equipment and can easily hire and train installers. Accordingly, GGC is considering expansion into the eastern suburbs, where the homeowners are less wealthy. In past years, both GGC and BLG have installed several hundred systems in the eastern suburbs but generally their sales efforts are met with the response that the systems are too expensive. GGC has hired you to recommend a pricing strategy for both the western and eastern suburb markets for this coming season. You have estimated two distinct demand functions, as follows:

Qw =2100 – 6.25Pgw + 3Pbw + 2100Ag – 1500Ab + 0.2Yw

for the western market and

Qe = 36620 – 25Pge + 7Pbe + 1180Ag – 950Ab + 0.085Ye

for the eastern market, where Q refers to the number of units sold; P refers to price level; A refers to advertising budgets of the firms (in millions); Y refers to average disposable income levels of the potential customers; the subscripts w and e refer to the western and eastern markets, respectively; and the subscripts g and b refer to GGC and BLG, respectively. GGC expects to spend $1.5 million (use Ag = 1.5) on advertising this coming year and expects BLG to spend $1.2 million (use Ab = 1.2) on advertising. The average household disposable income is $60,000 in the western suburbs and $30,000 in the eastern suburbs. GGC does not expect BLG to change its price from last year because it has already distributed its glossy brochures (with the $2,100 price stated) in both suburbs, and its TV commercial has already been produced. GGC’s cost structure has been estimated as TVC = 750Q + 0.005Q2, where Q represents single lawn watering systems.

Show all of your calculations and processes. Describe your answer for each item below in complete sentences, whenever it is necessary.

  1. Derive the demand curves for GGC’s product in each market.
  2. Derive GGC’s marginal revenue (MR) and marginal cost (MC) curves in each market. Show graphically GGC’s demand, MR, and MC curves for each market.
  3. Derive algebraically the quantities that should be produced and sold, and the prices that should be charged, in each market.
  4. Calculate the price elasticities of demand in each market and discuss these in relation to the prices to be charged in each market.
  5. Add a short note to GGC management outlining any reservations and qualifications you may have concerning your price recommendations.

Discussion 5

Problem 1:

Jessica Alba, a famous actress, starts the baby and family products business, The Honest Company, with Christopher Gavigan. Alba and Gavigan set up their site so families can choose what kinds of non-toxic, all-natural products they’d like to use and get them in a bundle. Families can choose all kinds of products from food to hygiene necessities and cleaning supplies. Suppose they are thinking of expanding their business into five domestic markets: Phoenix, Dallas, Chicago, New York, and Atlanta. Assume their primary goal of business is to maximize economic profits, although they want to do business honestly.

Show all your calculations and process. Describe your answer for each question in three- to five-complete sentences.

  1. You are a business adviser for Alba and Gavigan. Describe a skimming price and a penetration price, and advise them whether they should charge a skimming price or a penetration price, with supportive reasoning for and against each pricing alternative.
  2. Are they likely to make economic profits initially? Can they continue to make economic profits in the long term? Why or why not? Discuss.
  3. What advice would you give to Alba and Gavigan to help them make more profit in the long term?
Problem 2:

You operate your own small building company and have decided to bid on a government contract to build a pedestrian walkway in a national park during the coming winter. The walkway is to be of standard government design and should involve no unexpected costs. Your present capacity utilization rate is moderate and allows sufficient scope to understand this contract, if you win it. You calculate your incremental costs to be $268,000 and your fully allocated costs to be $440,000. Your usual practice is to add between 60% and 80% to your incremental costs, depending on capacity utilization rate and other factors. You expect three other firms to also bid on this contract, and you have assembled the following competitor intelligence about those companies.

IssueRival ARival BRival C
Capacity UtilizationAt full capacityModerateVery low
Goodwill ConsiderationsVery concernedModerately concernedNot concerned
Production FacilitiesSmall and inefficient plantMedium sized and efficient plantLarge and very efficient plant
Previous Bidding PatternIncremental cost plus 35-50% Full cost plus 8-12% Full cost plus 10-15%
Cost StructureIncremental costs exceed yours by about 10%Similar cost structure to yoursIncremental costs 20% lower but full costs are similar to yours
Aesthetic FactorsDoes not like winter jobs or dirty jobsDoes not like messy or inconvenient jobsLikes projects where it can show its creativity
Political FactorsDecision maker is a relative of the buyerDecision maker is seeking a new jobDecision maker is looking for a promotion

Show all of your calculations and processes. Describe your answers in three- to five-complete sentences.

  1. What price would you bid if you must win the project?
  2. What price would you bid if you want to maximize the expected value of the contribution from this contract?
  3. Defend your answers with discussion, making any assumptions you feel are reasonable and/or are supported by the information provided.

Last Updated on October 13, 2019