THE FIRM’S BASIC PROFIT
MAXIMIZATION PROBLEM
What Quantity of Output should the Firm
Produce and Sell and at What Price?
The Answer depends on Revenue and
Cost Predictions.
The Solution is Found using Marginal Analysis.
Expand an Activity if and only if
the Extra Benefit exceeds the Extra Cost.
Chapter 2
slide 1
MAXIMIZING PROFIT
FROM MICROCHIPS
Write profit as  = R - C
Price
($ 000)
2.2
A1. Focus on a single Product,
A2. whose Revenues and Costs
can be predicted with Certainty.
Revenue can be predicted
using the Demand Curve.
170
P = 170 - 20Q
130
or equivalently,
Q = 8.5 - .05P
90
50
0
2
4
6
8
Quantity
in Lots
THE FIRM’S OPTIMAL
OUTPUT DECISION
R, C
2.3
The Firm determines Output
where MR = MC.

C = 100 + 38Q
300
R = 170Q - Q2
200
M = 0
100

0
-100
0
2
3.3
4
6
8
Q
MAXIMIZING PROFIT
ALGEBRAIC SOLUTIONS
Start with Demand and Cost Information
P = 170 - 20Q and C = 100 + 38Q
Therefore, R = 170Q - 20Q2
so MR = 170 - 40Q
and MC = 38
Setting MR = MC implies 170- 40Q = 38
or
132 = 40Q
Q* = 132/40 = 3.3 lots
P* = 170 - (20)(3.3) = $104 K
* = 343.2 - 225.4 = 117.8
2.4
2.5
MAXIMIZING PROFIT
USING MARGINAL GRAPHS
There is always
a tradeoff.
Set MR = MC.
170
P*
Demand
Maximum
Contribution
MC
38
MR
Q*
2.6
SENSITIVITY ANALYSIS
Considers changes in: Fixed Costs, Marginal costs,
or Demand Conditions
170
A change in fixed cost has no
effect on Q* or P* (because
MR and MC are not affected).
P*
Demand
MC
38
Q*
2.7
SENSITIVITY ANALYSIS
Considers changes in: Marginal costs
An increase in MC
implies a fall in Q
and an increase in P.
170
Demand
MC’
MC
38
Q’ Q*
SENSITIVITY ANALYSIS
2.8
Finally, consider a change
in Demand Conditions.
170
P
P*
Shift in
Demand
38
MC
Q*
Q