Firm Z Is a U

question 28

Essay

Firm Z is a U.S. based firm that sells farm equipment and faces demand given by P = 3,000 - Q, where P denotes price in dollars and Q is quantity of units sold per month. In its East coast factory, the firm's fixed costs are $250,000 per month, and its marginal cost of manufacturing the equipment is $1,000 per unit.
(a) Find the firm's profit-maximizing output and price. What is its profit?
(b) Over the last year, the US dollar has appreciated (gained value) versus the Japanese yen with the result that Japanese imports of farm equipment to the US have increased. Firm Z’s marketing department judges that it now would have to cut price by $500 per unit in order to sell the same profit-maximizing quantity as estimated earlier (The price equation will shift inward toward the origin). Is the price-cut consistent with a profit-maximizing strategy?
Explain.
(c) Suppose that a new market for the firm's product emerges in South America. Firm Z has begun selling the equipment in several test markets there and has found the elasticity of demand to be EP = –3 for a wide range of prices (between $1,500 and $2,500). The cost of shipping to South America is $200 per unit. One manager argues that the foreign price should be set at $200 above the earlier profit-maximizing price to cover the transportation cost. Do
you agree that this is the optimal foreign price? Justify your answer.
(d) Suppose that the firm has produced the optimal level of output in part (a). But before this quantity is sold, demand unexpectedly falls to: P = 2,800 - 2Q, (equivalently Q = 1,400 - 0.5P). One manager recommends cutting price to sell the entire inventory; another favors maintaining the price in part (a) (selling less than the total inventory). Do you agree with
either manager? What optimal price would you set?

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