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Calculating When a Firm Should Shut Down

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Assume you are the plant manager for Crossroads Sign Company, which produces road signs in a market that approximates perfect competition. Due to a slow economy, business has been slow and the company is losing money every month. The owners have asked you whether to continue operations or to shut down at least until the economy improves. You have the following information available:

Marginal Revenue (MR) = \$130
Total Cost (TC) = \$1,100 + 135Q + 0.6Q2
Marginal Cost (MC) = 135 + 1.2Q

As the plant manager, should you recommend to the owners that the plant be shut down for a while? Justify your answer using at least two techniques and presenting the information graphically.

https://brainmass.com/economics/perfect-competition/calculating-when-a-firm-should-shut-down-412959

Solution Preview

Yes, the plant should shut down because it is not covering its variable costs.

Technique 1: The firm maximizes its profits when ...

Solution Summary

A perfectly competitive firm is taking an economic loss. Given data for the firm's revenue and costs, determine whether or not the firm should shut down production. 98 words of explanation with some calculations and a graph to back them up.

\$2.19

Make cost, revenue, profit and productivity calculations. Decide whether a firm should lay off workers or shut down.

The firm currently uses 50,000 workers to produce 200,000 units of output per day. The daily wage per worker is \$80, and the price of the firm's output is \$25. The cost of other variable inputs is \$400,000 per day.

Assume that total fixed cost equals \$1,000,000. Calculate the values for the following four formulas:
Total Variable Cost = (Number of Workers * Worker"s Daily Wage) + Other Variable Costs
Average Variable Cost = Total Variable Cost / Units of Output per Day
Average Total Cost = (Total Variable Cost +Total Fixed Cost) / Units of Output per Day
Worker Productivity = Units of Output per Day / Number of Workers
Then, assume that total fixed cost equals \$3,000,000, and recalculate the values of the four variables listed above.
For both cases, calculate the firm's profit or loss.

For both sets of calculations, compare the firm's output price and the calculated average variable cost and average total cost. Should the firm shutdown immediately when the total fixed cost equals \$1,000,000? Should the firm shut down immediately when the total fixed cost equals \$3,000,000?

For one of the cases, if the firm can operate at a loss in the short run, how many employees need to be laid off in order for the company to break even? To calculate the number of workers to be laid off, divide the loss for the two situations by the daily wage per worker. Given a lower number of employees now working at the company, what is the change in worker productivity? Is the change in worker too large, and the firm should shut down immediately? Or in your opinion, can the workers increase their productivity, assuming that the units of output per day remain fixed at 200,000 units, so that the firm operates at a breakeven state?

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