Pepperdine University

FINC 655

Chapter 7

Multiple Choice Questions

1)Microsoft found that instead of producing a DVD player and a gaming system separately, it is cheaper to incorporate DVD playing capabilities in its new version of the gaming system. Microsoft is taking advantage of

1. 1. economies of scale [economies of scale mean average costs decline with output. There is no indication here that this is happening.]
   2. learning curve [learning curves mean that current production lowers future costs for the same product; that does not apply here]
   3. economies of scope [the cost to produce the two products together is less than the sum of the costs of producing them separately]
   4. decreasing marginal costs [there is no indication that marginal costs are decreasing for either individual product]

2. As a golf club production company produces more clubs, the average total cost of each club produced decreases. This is because:
   1. total fixed costs are decreasing as more clubs are produced [fixed costs by definition do not change with volume].
   2. average variable cost is decreasing as more clubs are produced [there is no information to indicate that variable costs are declining].
   3. there are scale economies. [declining average total costs are indicative of economies of scale]
   4. total variable cost is decreasing as more clubs are produced [because variable cost will not be less than zero, total variable cost would not decrease as more units are produced]

3. Average costs curves initially fall .l

1. 1. due to declining average fixed costs [as output increases and fixed costs are distributed over more units, average fixed costs per unit fall]
   2. due to rising average fixed costs [average costs curves would increase if average fixed cost is increasing]
   3. due to declining accounting costs [accounting costs are not relevant here]
   4. due to rising marginal costs [rising marginal costs would cause the average costs curve to rise, not fall]

4. What might you reasonably expect of an industry in which firms tend to have economies of scale?
   1. Exceptional competition among firms [economies of scale means average cost falls with output; it does not necessarily imply a high level of competition]
   2. A large number of firms [given the importance of volume in gaining economies of scale, we would expect few firms, each with a large volume]
   3. Highly diversified firms [given the importance of volume in gaining economies of scale, we would expect a few firms that concentrate on building volume of individual products and concentrate less on diversifying into other product areas]

2

1. 4. A small number of firms [a few firms with large volume could be expected to capture the economies of scale]

5. A security system company’s total production costs depend on the number of systems produced according to the following equation: Total Costs = $20,000,000 + $4000*quantity produced. Given these data, which of the following is a false statement?
   1. There are economies of scale. [this statement is true; average costs fall with output]
   2. There are fixed costs associated with this business. [this statement is true; the $20,000,000 is a fixed cost]
   3. There are diseconomies of scale [if average costs increased with output, there would be diseconomies. That is not the case here]
   4. A firm that produces a larger output has a cost advantage over a smaller firm. [this statement is true; because average costs decrease with output(economies of scale), firms producing more will have lower average costs]

6. Following are the costs to produce Product A, Product B, and Products A and B together. Which of the following exhibits economies of scope?
   1. 100, 150, 240 [the cost of producing both products together (240) is less than the sum of the cost of producing them separately (250)]
   2. 100, 150, 250 [the cost of producing both products together (250) is NOT less than the sum of the cost of producing them separately (250)]
   3. 100, 150, 260 [the cost to produce the two products together (260) is NOT less than the sum of the costs of producing them separately(250)]
   4. All of the above [only one of the choices exhibits economies of scope]

7. According to the law of diminishing marginal returns, marginal returns:
   1. diminish always prior to increasing. [marginal returns do not always diminish prior to increasing]
   2. diminish constantly. [there are cases where marginal returns increase]
   3. diminish never. [the law of diminishing marginal returns suggests some cases where returns will diminish]diminish eventually. [The law of diminishing marginal returns states that as you try to expand output, your marginal productivity (the extra output associated with extra inputs) eventually declines.]

8. It costs a firm $90 per unit to produce product A and $70 per unit to produce product B individually. If the firm can produce both products together at $175 per unit of product A and B, this exhibits signs of
   1. economies of scale [economies of scale are not relevant here because the question refers to the cost of producing two separate products, not more of the same product]
   2. economies of scope [economies of scope indicate that the cost of producing the two products together is less than the sum of the cost of producing them separately. This is not the case here.]
   3. diseconomies of scale [economies of scale are not relevant here because the question refers to the cost of producing two separate products, not more of the same product]
   4. diseconomies of scope [the cost to produce the two products together (175) is more than the sum of the costs of producing them separately(160)]