MANAGEMENT SCIENCE & ENTREPRENEURSHIP GROUP

Question No. 1

(a) What is the equation for demand? What is the equation for supply?

Elasticity of demand

Elasticity for Supply

(b) At a price of $9, what is the price elasticity of demand? What is it at a price of $12?

Price elasticity of demand

Let’s assume that price increases from $6 to $9

Price Elasticity of Demand = Percentage change in quantity / Percentage change in price.

Initial Price (PI) = 6, New Price (PN) = 9,

Initial Quantity (QI) = 28, New Quantity (QN) = 22.

PED = ((QN − QI) / (QN + QI) / 2 ) / ( (PN - PI) / (PN + PI) / 2 )

PED = ((22 − 28) / (22 + 28) / 2) / ( (9 - 6) / (9 + 6) / 2)

PED = -0.06 / 0.1

PED = -0.6

let’s assume that price increases from $9 to $12

Initial Price (PI) = 9, New Price (PN) = 12,

Initial Quantity (QI) = 22, New Quantity (QN) = 16.

PED = ((QN − QI) / (QN + QI) / 2) / ((PN - PI) / (PN + PI) / 2 )

PED = ((16 − 22) / (16 + 22) / 2) / ((12 - 9) / (12 + 9) / 2)

PED = -0.0789 / 0.0714

PED = -1.1053

(c) Do you think the product demand is elastic or inelastic at $9 and $12 respectively?

PED = -0.6 when p=$9

|PED| < 1 it is inelastic

PED = 1.1053 when p=$12

|PED| > 1 it means it is elastic.
Question No. 2

a)

Given the demand curve equation for the general public, the vertical intercept is calculated by
keeping the demand as zero:

The horizontal intercept is calculated by keeping P=0. Thus:

Qgp = 500 - 5P
= 500 - 5(0)
= 500
The quantity demanded when P=35 is calculated below:
Qgp = 500 - 5(35)
= 325
Therefore, the quantity of tickets demanded by the general public would be 325 at a price of
$35.
Given the demand curve equation for students, the vertical intercept will be calculated by
keeping demand as zero:
And the horizontal intercept will be calculated by keeping P=0.
Qs = 200 - 4P
= 200 - 4(0)
= 200
Now, at P=35, demand is calculated below:
Qs = 200 - 4(35)
= 60
Therefore, the quantity of tickets demanded at the price of $35 would be 60.
b)

The price elasticity is equal to:

E= ΔQ/Δp * Q/P
Therefore; the price elasticity for the general public would be:
Eg= (-5*35/325)= 0.54
The price elasticity for students would be:
Es= (-4*35/60)= 2.33

c)

No, the director is not maximizing the revenue. It is because the general public’s demand for
tickets is inelastic, and the demand of students is elastic; therefore, whatever revenue he
makes from the general public would be compensated for the revenue he loses from
students. Therefore, his revenue is not maximized.

d)

The elasticities are given as:

The formula for the elasticity of demand is:
E= ΔQ/Δp * Q/P
Therefore, for the general public:
Eg= -5P/Q=-1
5P=Q=500-5P
P=50
Q=250

For students;
Es= -4P/Q=-1
4P=Q=200-4P
P=25
Q=100

The elasticities will determine if a change in price will increase the revenue or not. Therefore,
based on elasticities, the director charges $50 from the general public and $25 from students;
he will maximize revenue:
(Pgp x Qgp) + (Ps x Qs)
= (50 x 250) + (25 x 100)
= 15000
This is more than the revenue that is generated by charging $35.
35(Qgp+Qs )
= 35(325 + 60)
=13,475
Therefore, the director must charge $50 and $25 from the general public and students,
respectively, to maximize profits.
e)

Profit equals net earnings while revenues are the gross profits; therefore it stands to reason
that vendors will aim to increase profits wherever possible. Earnings are the profit after
deducting expenses. Since this is the case, business owners typically prioritize increasing both.

Due to the fact that the marginal cost on the total cost function, (Total Cost), is unknown in this
instance. Maximizing revenue is the same as maximizing net profit.

Question No. 3
In order to ensure optimality, the consumer will always be on the budget line:
Treating s, size as the x-variable and q, quantity as the y-variable, we get the price ratio as:
(Note that, -2 is the slope of the budget constraint)

The first step is to obtain the price ratio. This is also equivalent to finding the slope of the
budget constraint. This is essential to understand the relative price of quantity in terms of size
in the market (ie. for the builder)
Now, consumer's utility will be maximized at the point where the absolute value of the
marginal rate of substitution is equal to the price ratio.

(Note that we assume the consumer's utility function from which the MRS is obtained is quasi
concave, to ensure convex indifference curves and an optimal solution).

So, solving for optimal s and q:

Now, recall that the consumer will be on the budget constraint, so
Combining equations we get q=5 and s=2.5.
That is, in the optimal the consumer chooses 5 units of quantity and 2.5 units of size.

When the marginal rate of substitution is greater than the slope of the budget line (negative of
price ratio), the consumer values an additional unit of size more than the builder (market),
relative to quantity. So, he will choose additional units of size by sacrificing some units of
quantity, to remain on the budget line.

A similar argument follows for quantity when the marginal rate of substitution is less than the
slope of the budget line.

The following plot shows us the budget constraint and the optimal point of consumption. At
this point, the marginal rate of substitution is equal to the price ratio, that is, the budget line is
tangential to the highest indifference curve.
Budget constraint
Here we plot the budget constraint in python as the function y=10-2x (or q=10-2s). The point
(2.5, 5) is the optimal point of consumption where the indifference curve would intersect the
budget constraint.
The optimal consumption bundle for the consumer is found at the point where the price ratio
(or alternatively, negative of slope of budget constraint) is equal to the marginal rate of
substitution.
On equating the price ratio with the MRS, and using the budget constraint as a binding
constraint, we get the solution that q=5 and s=2.5 in the optimal.

Question No. 4
Promotion price of pizza = 1
Cost of producing pizza = 1.1
Royalty paid = 4.5% of the revenue

Increase in restaurant visits = 20%

But as the spending would be half according to the analysts.
Net increase in sales would = 0.5 of 20% = 10%

a)
To support or disdain this idea we need to analyze net profits of above promotion.
Loss on sale of promotional pizza = Price of Pizza - Cost of pizza
= > 1 - 1.1 = 0.1
Loss percent = 0.1/1 = 10%
Increase in total revenues due to this promotional pizza = 10% (As mentioned in step 1)
As, Loss percent = Increase in total revenue (10%). This promotion is feasible as the franchise is
facing loss on the front of one menu item by (10%) but also gets (10%) of increase in total sales.
So, the franchise will benefit from and lawsuit is not correct as they have not considered that
the promotional pizza would be small portion of their total sales.

b)
Relevant Costs to Franchise -

=> Raw Material Costs - Meat, pizza base etc.

=> Rent, wages, royalties

c)
Yes, the Pizza Company and the franchise are working toward distinct objectives since the Pizza
Company receives a royalty on the overall sales, whereas the franchise is primarily concerned
with the net profits it generates.
Adding adjustable royalty plans to the franchise, in which varying proportions are to be charged
on net sales brackets, is one way to settle this dispute. A franchise that brings in fewer
customers each month should pay a fee that is proportionately lower, and vice versa. This
would serve as an incentive for the Pizza Company as well as the franchise to perform at a
higher level.