Question

A newly formed firm must decide on a plant location. There are two alternatives under consideration: locate near the major raw materials or locate near the major customers. Locating near the raw materials will result in lower fixed and variable costs than locating near the market, but the owners believe there would be a loss in sales volume because customers tend to favor local suppliers. Revenue per unit will be $173 in either case.

	Omaha		Kansas City
Annual fixed costs ($ millions)	$	1.2	$	1.3
Variable cost per unit	$	23	$	38
Expected annual demand (units)		9,550		10,150

Using the above information, determine which location would produce the greater profit. (Omit the "$" sign in your response.)

Omaha or Kansas City would produce the greater gross profit of $  .

Answer 1

For either case Revenue (R) = $173

For Omaha

• Fixed cost (FC) = $1.2 million = $1200000
• Variable cost(VC) = $23
• Expected annual demand(Q) = 9550 units

So profit for Omaha = Q(R-VC) - FC = 9550(173-23) - 1200000 = (9550 × 150) - 1200000 = 1432500-1200000 = $232500

For Kansas City

• Fixed cost (FC) = $1.3 million = $1300000
• Variable cost(VC) = $38
• Expected annual demand(Q) = 10150 units

So profit for Kansas City = Q(R-VC) - FC = 10150(173-38) - 1300000 = (10150 × 135) - 1300000 = 1370250-1300000 = $70250

So Omaha would produce the greater profit of $232500