In 1996, the drug Prilosec became the best-selling anti-ulcer drug in the world.
ID: 1203642 • Letter: I
Question
In 1996, the drug Prilosec became the best-selling anti-ulcer drug in the world. Given the fact that the drug was the most effective among all other competing drugs, managers at Prilosec initially set price at a 400 percent markup over cost in order to boost profits. Prilosec’s marginal cost (production and packaging) was only about $0.60 per daily dose.
A. What price did the managers set in order to maintain the 400 percent markup on cost? Show your calculations. (2+4 points)
B. If price elasticity of Prilosec drug was around -1.5, did the markup of 400 percent follow the profit maximizing rule? Explain with calculations.
Explanation / Answer
Given information:
Markup = 400%
MC = $0.60
a)
Use the following formula to calculate the price:
Price = MC+400% of MC
Price = 0.60 + 400% of 0.60
Price = $3
b)
At the profit maximizing point, (P-MC)/P = 1/e
Check for calculations as follows:
(3-0.60)/0.60 = 1/1.5
4 not equal to 0.667
Since (P-MC)/P does not equal 1/e, profit is not maximized.
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