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    Production cost analysis

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    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. Although you do not know the firm's fixed cost, you know that it is high enough that the firm's total costs exceed its total revenue.

    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 break even state?

    Provide a two to four page report to management of the firm that discusses what should be done.
    Be sure to show your work to support the decision you outline in your report.

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    Solution Preview

    Solution is attached as MS Word document also.

    In business world, every firm tries to maximize its profit. It will try to minimize its losses in case it is not able to make profits.

    In the given case, let us analyze firm's variable costs.
    Number of workers employed=50000
    Labor costs = Number of workers employed*wage rate= 50000*80=$4,000,000
    Other variable costs=$400,000
    Total Variable Costs=$4000000+$400000=$4400000
    Total output=200000 units
    Average Variable Cost=AVC=Total Variable Costs/Total output
    =$22 per unit

    Worker productivity= Units of Output per Day / Number of Workers=200000/50000=4
    Price of firm's output=$25 per unit
    Contribution margin per unit=Price-AVC=$25-$22=$3

    Theory of firm suggests that shut down point comes at a point where price is just able to cover its ...

    Solution Summary

    Solution provides detailed analysis of costs in the given scenario. Solution contains about 525 words.