Question

immaculate heart school is considering introducing a discount program for children of faculty that would reduce tuition by 80% or 90% of the full $10,000 amount. For each new student this program attracts, the incremental cost to the school is $1,500 per student. A. assuming this is an extent problem, are either of these proposals (80% off or 90% off tuition) a wise choice for the school financially? explain in detail, including appropriate calculations. B. what is the tuition per incremental child that would maximize profits for the school, assuming there is available capacity toads these faculty students? C. shouldn't we be using average total cost ( not marginal costs) to make this decision? why or why not?

Answer 1

Current fee = $10,000

Discount of either 80% or 90% on total fee.

Incremental cost = MC = $1,500

a) If discount of 80% is given, total fee payable would be $2,000 where Marginal cost is less than it. As Marginal revenue ($2,000) > MC, the decision is financially wise.

For discount of 90%, payable fee is $1,000 which makes Marginal revenue($1,000) < MC, It makes financially decision unwise.

b) Profit is maximized at MR = MC as Marginal cost keeps on falling with rising output level. As MC = $1,500, discount of 15% would give maximum profit making marginal revenue equal to $1,500.

c) Average total cost is total cost of producing / output. Assume 10 units are produced where cost of producing 1st unit is very high due to high operational / raw material cost. Total cost falls with the number of units rises. If we calculate average variable cost, it would include the cost where unit production were very high while marginal cost helps in finding additional cost per extra unit produced. This is the reason we take MC into account rather than average total cost.