Revenue,_Cost_Concepts_and_Market_Structure_Proposal

Revenue, Cost Concepts and Market Structure Proposal Taunya Smith ECO 561 October 4, 2010 Dr. Jerry King Revenue, Cost Concepts and Market Structure Proposal Clear Hear is a manufacturer of cell phones. Development specialist Kendra Sherman secured an order for 100,000 cell phones with a delivery date within 90 days, which will support a promotion that a major chain, Big Box, is planning with a telephone service provider (University of Phoenix, 2010). Kendra has met with production manager Lisa Norman who is interested, but is considering the factory’s total profitability. Currently, Clear Hear runs two production lines at its factory; one line produces the Beta model and the other the Alpha model. The Unit Profitability Report shows that the fixed and variable cost for the Alpha Model are lower than that of the Beta model, and the Beta model yields a higher profit than the Alpha model. Despite the fact unit profits are good and cost controls meet factory standards, the underutilization of capacity deprived Lisa Norman and the factory of profits that could have been earned on an additional 70,000 units, which presents concern for Kendra on whether or not to accept the order (University of Phoenix, 2010). The decision for Clear Hear is profit maximization in the short run, being Big Box needs this order within 90 days. Clear Hear is considered a monopolistic competitive firm, which means they produce the quantity of output that maximizes profit, which is the difference between total revenue and total cost. In regard to production alternatives, even though monopoly is slightly more likely to earn economic profit than a perfectly competitive firm, it is not guaranteed an economic profit. Should demand conditions change, it might also incur an economic loss or be forced to shut down in the short run. Comparable to any firm, a monopolistically competitive firm faces three short-run production alternatives based on a comparison of price, average total cost, and average variable cost (AmosWeb, 2010). The total revenue received by a monopolistically competitive firm is divided among total fixed cost, total variable cost, and economic profit. This division can be illustrated using the marginal approach to analyzing the profit-maximization production decision (AmosWeb, 2010). Recommendations for Increasing Revenue In an effort to increase the revenue for Clear Hear with the order Kendra secured, Lisa must consider several options as to how they will affect the company and choose the best option to increase its revenue. The following options are recommended to Clear Hear: Option 1- Clear Hear accept the order and produce the units themselves being they have an excess capacity of 70,000 cell phone units over the next three months; and the remainder of the order be outsourced to Original Equipment Manufacturer. Option 2- Outsource the entire order to Original Equipment Manufacturer to save on overhead and fixed and variable cost and still make a profit. Option 3- Clear Hear can produce the entire order in their factory by using the excess capacity and switch production of the additional 30,000 units from the Beta model to the Alpha model in an effort to complete the order. Achieving Idea Production Levels Clear Hear runs two production lines at its factory. If they were to accept the order and produce the 70,000 phones by utilizing their excess capacity and outsource the remainder to Original Equipment Manufacturer could have an effect on the factory’s total profitability. The Unit Profitability Report reflects that the Alpha model has a variable cost per unit of $8 and fixed overhead of $9, which is a total cost of $17 per unit, which is more than the $15 Big Box is willing to pay, which would not be the best option for the Clear Hear. If Clear Hear were to choose the second option by outsourcing the entire order to Original Equipment Manufacturer, then by allowing them to fill the order for Clear Hear they would be able to make a profit and keep their fixed and variable cost in line. Should Clear Hear choose this option they would have to be sure that Original Equipment Manufacturer maintained the quality of the product they are known for producing. Clear Hear could produce the entire order in their factory by using the excess capacity and substituting the Beta for the additional units needed. The cost of the Beta is much higher than the Alpha model; even though the Unit of Profitability Report shows a higher profit for the Beta compared to the Alpha, which will keep the plant in production and at capacity. Clear Hear faces several risks in trying to decide which option they should choose. The recommendations that have been presented must be carefully analyzed in an effort to make the best decision. In the first option Clear Hear faces a risk of losses if they cannot determine how they will lower their fixed and variable costs; if the second option is considered, it means that Clear Hear and Original Equipment Manufacturer will both be producing phones which could result in quality issues for the Clear Hear and possibly tarnish their reputation if Original Equipment Manufacturer does not produce at the same quality that Clear Hear is known for; and considering the third option is where cost becomes a factor despite the fact of a higher profit with the Beta model. Maximizing Profits In an effort for Clear Hear to maximize their profit, they should outsource to Original Equipment Manufacturer to save on overhead cost and reduce their fixed and variable cost. In allowing Original Equipment Manufacturer to produce the order it would put Clear Hear in a position to capture a profit. Although Clear Hear may have some quality concerns they can monitor the production of the order. In choosing Original Equipment Manufacturer to produce the order, they position themselves to produce the entire order next time should the opportunity present itself. All recommendations provided are to aid Clear Hear in making the best decisions, before they determine whether or not to accept such a large order. Choosing to outsource the order not only gives Clear Hear a nice profit but provides a learning experience for the future of the company. The best option for Clear Hear will be the one that will produce a large profit at a reduced cost, which will lead to the plant operating at capacity and earning a profit. References AmosWEB.Retrieved from http://www.amosweb.com/cgibin/awb_nav.pl's=wpd&c=dsp&k=monopolistic+competition,+shortrun+production+analysis University of Phoenix (2010). University of Phoenix Material, Clear Hear Scenario. Retrieved from https://ecampus.phoenix.edu/classroom/ic/classroom.aspx