Free Case Study About Deli Case

Analysis of pricing

Price Meals sold
P1=$6 7,000
P2=$5 8,000

Price elasticity of demand

Price elasticity of demand (PED) = Proportionate change in the number of meals soldProportionate change in price
Percentage change in quantity demanded = 8,000-7,0007,000 × 100% = 14.286%
Percentage change in price = 5-66 × 100% = -16.67%
PED = 14.286-16.67
= -0.8570

Is elasticity elastic, inelastic or neither?

What does it mean and why does it matter?
This implies that the quantity of meals sold is not responsive to changes in price. The above figure indicates that a 1% fall in the price per meal will only cause a 0.857% increase in the number of meals. Therefore, a decrease in price leads lead to a less than proportionate increase in the number of meals demanded (McEachern, 2012).
This information matters since it helps in determining whether the proposed changes in price will lead to an increase in revenue or not (McEachern, 2012). It helps in assessing the effectiveness of price reduction in increasing sales.

Effect on revenues

Since the PED is less than one in absolute terms, the reduction in price will lead to a decline in total revenue.
Initial total revenue = Price per meal × Number of meals
= $6 × 7,000
$42,000
New total revenue = $5 × 8,000
= $40,000
Change in total revenue = 40,000 – 42,000
= -$2,000

If the price per meal is reduced to $5, total revenue will fall by $2,000.

Effect of price cut on profit
Profit at the initial price
Total revenue = Price per meal × Number of meals
Initial total revenue = $6 × 7,000 = $42,000
Total cost = Fixed cost + Total variable cost
= Fixed cost + (Variable cost per meal × Total number of meals)
= 14,000 + (2.50 × 7,000)
= 14,000 + 17,500
= $31,500
Total profit = $42,000 - $31,500 = $10,500

Profit at the new price

Total revenue = $5 × 8,000 = $40,000
Total cost = 14,000 + (2.50 × 8,000)
= 14,000 + 20,000
= $34,000
Total profit = 40,000 – 34,000 = $6,000
Change in profit = 10,500 – 6,000 = $4,500

A price cut to $5 per meal will lead to a reduction in monthly total profit by $4,500.

Warren’s suggestion
Price elasticity of demand
PED = Change in QDChange in P × Initial PriceInitial Quantity
= 9,000-7,0005-6 × 67,000
= -1.714
Is elasticity elastic, inelastic or neither?
What does it mean and why does it matter?
This implies that the quantity of meals sold is responsive to changes in price (McEachern, 2012). It indicates that a 1% fall in the price per meal will only cause a 1.714% increase in the number of meals. Therefore, a decrease in price leads lead to a more than proportionate increase in the number of meals demanded.
It helps in assessing the effectiveness of price reduction in increasing sales (McEachern, 2012). In this, MBA Deli will gain if the price is lowered to $5 per meal.

Effect on revenues

Since the PED is more than one in absolute terms, the reduction in price will lead to an increase in total revenue.
Initial total revenue = Price per meal × Number of meals
= $6 × 7,000
$42,000
New total revenue = $5 × 9,000
= $45,000
Change in total revenue = 45,000 – 42,000
= $5,000

If the price per meal is reduced to $5, total revenue will increase by $5,000.

Effect of price cut on profit
Profit at the initial price = $10,500

Profit at the new price

Total revenue = $5 × 9,000 = $45,000
Total cost = 14,000 + (2.50 × 9,000)
= 14,000 + 22,500
= $36,500
Total profit = 45,000 – 36,500 = $8,500
Change in profit = 8,500 – 6,000 = $2,500

A price cut to $5 per meal will result in a decline in monthly total profit by $2,500.

Elasticity of supply
PES = Change in Quantity suppliedChange in Price × Initial PriceInitial Quantity
= 10,000-7,0007-6 × 67,000
= 2.571

The PES above is elastic since it is more than 1.

How many meals will MBA Deli sell at $7 each?
PED = Change in QDChange in P × Initial PriceInitial Quantity
Change in quantity demanded = PED × initial quantity × change in price Initial price
= -0.857 ×7-6×7,0006
= -999.83 = -1,000
= 6,000 meals
New revenue = $7 × 6,000 meals = $42,000

New profit

Total revenue = $42,000
Total cost = 14,000 + (2.5 × 6,000) = 14,000 + 15,000 = $29,000
Total profit = 42,000 – 29,000
= $11,000

MBA Deli should raise the price to $7 since it will increase total profit from $10,500 to $11,000.

Management is willing to supply more at higher prices since the law of supply states that producers supply more at higher prices than at lower prices (Mankiw, 2014). If other factors are held constant, profits will increase if the price is raised.
Consumers buy more at lower prices since the law of demand states that more is demanded at lower prices than at higher prices (Mankiw, 2014). A lower price increases consumers’ real income hence they can buy more.

References

Mankiw, N. (2014). Principles of macroeconomics. Mason, Ohio: South-Western.
McEachern, W. (2012). Microeconomic principles. Australia: South-Western Cengage Learning.