A textbook publishing company is publishing 10,000 books. Average total costs are $38/book. Average variable costs are $30/book. Marginal cost is $30/book. Sales price of the book is $35. What advice do you have for the company?
A couple of ideas below:
First off, let's define a few terms:
- Average Total Cost
This is the amount of money, per book, that is spent to produce a product (such as the textbooks). We add up all the Fixed Costs (ex. rent, executive salaries, etc) and all the Variable Costs (ex. paper, machine depreciation, etc) and then divide that by the number produced.
In this case, $380,000 has been spent to produce the 10,000 textbooks ($38 per textbook X 10,000 textbooks).
- Average Variable Cost
This is the amount of Variable Costs, per book, that has been spent to produce a product.
In this case, $300,000 has been spent on variable costs to produce the 10,000 textbooks.
- Marginal Cost
This is the cost of the next textbook that is produced. Since our Average Variable Cost = Marginal Cost, there is no further Fixed Costs that will be incurred to make more textbooks.
We know that the textbook sells for $35 and for 10,000 copies of our textbook it's costing us $38 per book, meaning we're losing $3/book sale. Not good.
What can the firm do?
- If the firm can sell the needed number of textbooks to get it's Average Total Cost below $35/book (and hopefully well below...), that's a good thing. How many would need to be produced and sold?
We want the Average Total Cost to be $35/book. To get there, we start with what we've spent and made so far, then add an additional number of books at $30/book (the marginal cost). Let's have
- If there isn't the demand for the additional 6000 books, the firm will have to find other ways to cut costs or should exit the business altogether.