Question

MisstheMark INC. has fallen on hard times since 2016. Prices have fallen for their main product, the electric typewriter. At this point, the average fixed costs for their product is $20 while their total cost is $150. The market price is only $140, so the firm is losing $10 on every typewriter sold. In spite of these losses, management has suggested keeping the firm open. As the single largest shareholder of the firm, what is your response to that decision? Why is this your response?

Answer 1

The average variable cost = total cost - average fixed cost = 150-20

The average variable cost = $130

The price is $140 and it is more than the average variable cost, even if it is not able to recover the total cost. In this scenario, as a stakeholder, My response will be to support the decision of the management to continue the operation and keep the firm to be open. It is the decision, based on the rationale that, in short run, if firm is able to recover its average variable cost with its price to be more than AVC, then firm is above the shutdown point and firm should sustain the losses and continue the operation in the short run. It is the response, because fixed cost is spread over a period of time, and it will be recovered with increase in productivity, innovation at work and changing market scenario.

Though, the firm should bring investments of capital in the long term to increase the productivity so that price is able to recover the total cost. If firm is not able to do so in the long run also, then firm should be shut down in the long run.