EZ Sharp Industries, Inc., manufactures the Kleen Edge(TM) line of diamond-abrasive cutlery sharpeners for home use. EZ Sharp holds a patent on its unique design and can earn substantial economic profit if it prices its Kleen Edge(TM) products wisely. EZ Sharp sells two models of its Kleen Edge(TM) sharpeners: The Classic, which is the entry-level model, and the Professional, which has a sonic sensor that controls the speed of the sharpening wheels. Short run production of sharpeners is subject to constant costs: AVC = SMC for both models. The constant costs of production at EZ Sharp Industries are estimated to be:
$20.00 = AVCc = SMCc
$30.00 = AVCp = SMCp
Where AVCc and SMCc are constant cost for the classic model and
AVCp and SMCp are constant costs for the professional model
Total fixed costs each month are $10,000. The sole owner of EZ Sharp also manages the firm and makes all pricing decisions. The owner-manager believes in assuring himself a 200% profit margin by using the cost-plus pricing methodology to set prices for his two product lines. At these prices, EZ Sharp is selling 3,750 units of Classic model per month and 2,000 units of the Professional model per month.
1) Find the two marginal revenue functions for the Classic and Professional model sharpeners
2) Set each marginal revenue function in part 1 equal to the appropriate cost and solve for the profit-maximizing quantities.
3) Using the results from part 2, what prices will Andrews Consulting recommend for each model?
4) When the owner-manager sees the prices recommended by Andrews Consulting, he brags about how close his simple cost-plus pricing method had come to their suggested prices. Compute the profit EZ Sharp can earn using the consultants’ prices in part d. Is there any reason for the owner-manager to brag about his cost-plus pricing skills?