Reference no: EM1316444
1. The PURE WHITE CHALK Co. can lease for one period either of two factories. Leasing the small factory costs 5,000, and if the firm leases the small factory its total variable cost of production is given by TVCs (q) = q2/10,000.
This, in turn, means that the marginal cost of production for the small factory is given by MCs (q) = q/5000.
Leasing the large factory costs 18,000, and if the firm leases the large factory its total variable cost of production is given by TVCL (q) = q2/20,000.
This, in turn, means that the marginal cost of production for the large factory is given by MCL (q) = q/10,000.
Assume that the firm can sell as many boxes of chalk as it wishes at a price of 2 per box.
Which factory should the firm lease, and how many boxes of chalk should it produce?
2. Suppose the firm decided to lease the large factory, and has put down a non-refundable deposit of 4,000 for that factory. Suppose further that the firm is worried about its decision and hires you as a consultant. In answering the following questions assume that the small factory is still available, and that if the firm were to switch to the small factory, the only penalty that it faces is that it would lose the deposit of 4,000.
a. Provide a recommendation concerning which factory the firm should lease, and the number of boxes of chalk it should produce.
b. It is sometimes said that the smart business manager ignores sunk costs. Discuss whether your answer to b is consistent or inconsistent with the idea that managers should ignore sunk costs.