1. PURE WHITE CHALK Co. can lease for one period either of two factories. Leasing the small factory costs 5,000, and if firm leases small factory its total variable cost of production is given by TVCs(q) = q2/10,000.
This, in turn, means that marginal cost of production for small factory is given by MCs(q) = q/5000.
Leasing large factory costs 18,000, and if firm leases large factory its total variable cost of production is provided by TVCL(q) = q2/20,000.
This, in turn, means that marginal cost of production for large factory is given by MCL(q) = q/10,000.
Suppose that firm can sell as many boxes of chalk as it wishes at a price of 2 per box.
Which factory must firm lease, and how many boxes of chalk must it manufacture?
2. Assume firm decided to lease large factory, and has put down non-refundable deposit of 4,000 for that factory. Assume further that firm is worried about its decision and hires you as consultant. In answering following questions suppose that small factory is still available, and that if firm were to switch to small factory, only penalty that it faces is that it would lose the deposit of 4,000.
a. Give a recommendation concerning which factory firm must lease, and number of boxes of chalk it must manufacture.
b. It is sometimes said that smart business manager ignores sunk costs. Explain whether your answer to b is consistent or inconsistent with idea that managers must ignore sunk costs.