Mirk Labs is a pharmaceutical company that currently enjoys a patent monopoly in Europe, Canada, and the U.S. on Zatab, an allergy medication. The global demand for Zatab is Qd= 15.0- 0.2 P where Qd is annual quantity demanded (in millions of units) of Zatab, and P is the wholesale price of Zatab per unit. A decade ago, Mirk Labs incurred $60 million in research and development cost for Zatab. Current production costs for Zatab are constant and equal to $5 per unit. (A) What wholesale price will Mirk Labs set? How much Zatab will it produce and sell annually? How much annual profit does the firm make on Zatab? (B) The patent on Zatb expires next month, and dozens of pharmaceutical firms are prepared to enter the market with identical generic versions of Zatab. What price and quantity will result once the patent expires and competition emerges in this market? Explain your answer.
(A) To determine the wholesale price, quantity produced, and annual profit, we need to analyze the given information.
1. Wholesale Price (P):
The demand function for Zatab is given as Qd = 15.0 - 0.2P, where Qd is the annual quantity demanded of Zatab and P is the wholesale price per unit. To find the wholesale price set by Mirk Labs, we need to find the price at which the quantity demanded equals the quantity produced.
Setting Qd equal to the quantity produced (Qp), we have:
Qd = Qp
15.0 - 0.2P = Qp
Since Qp represents the annual quantity demanded, we can substitute Qp with Qd in the cost equation:
Cost = Production cost per unit x Quantity produced (Qp)
Cost = $5 x Qp
Setting the production cost ($5 x Qp) equal to the research and development cost ($60 million), we have:
5Qp = 60,000,000
Qp = 12,000,000 units of Zatab
Substituting the value of Qp back into the demand function, we can solve for P:
15.0 - 0.2P = 12.0
0.2P = 3.0
P = $15
Therefore, Mirk Labs will set the wholesale price of Zatab at $15.
2. Quantity Produced and Sold:
From the previous step, we found that Mirk Labs will produce and sell 12,000,000 units of Zatab annually.
3. Annual Profit:
To calculate the annual profit, we need to subtract the total cost from the total revenue.
Total Revenue = Wholesale Price x Quantity Sold
Total Revenue = $15 x 12,000,000 = $180,000,000
Total Cost = Research and Development Cost + Production Cost
Total Cost = $60,000,000 + ($5 x 12,000,000) = $120,000,000
Annual Profit = Total Revenue - Total Cost
Annual Profit = $180,000,000 - $120,000,000 = $60,000,000
Therefore, the firm makes an annual profit of $60,000,000 on Zatab.
(B) Once the patent on Zatab expires and competition emerges, the market will be flooded with identical generic versions of Zatab. This will lead to increased competition, resulting in a change in price and quantity.
Competition in the market will drive the price down towards the production cost per unit since pharmaceutical firms will try to undercut each other to gain market share. Therefore, the price of Zatab will move towards the production cost of $5 per unit.
As a result, the new price of Zatab in the market is expected to be around $5 per unit. The quantity sold will depend on the new demand and supply dynamics in the market and will be determined by factors such as the number of pharmaceutical firms entering the market, consumer preference, and overall market conditions.
Without more information on the new market conditions, it is difficult to determine the exact quantity that will be sold once the patent expires and competition emerges.
(A) To determine the wholesale price that Mirk Labs will set, we need to find the equilibrium point where the quantity demanded equals the quantity supplied. We can do this by equating the demand function with the supply function.
Given:
Demand function: Qd = 15.0 - 0.2P
Production cost: $5 per unit
To find the equilibrium price and quantity, we set Qd equal to the quantity supplied:
15.0 - 0.2P = Qs
The quantity supplied is determined by the production cost, which is $5 per unit. In this case, the quantity supplied is the same as the quantity produced and sold annually.
15.0 - 0.2P = Qs = Qd
Now we can solve for the price:
15.0 - 0.2P = 15.0 - 0.2P
0.2P = 0
P = 0
Since P equals zero, it means that Mirk Labs will set the price of Zatab at zero, thereby giving it away for free. As a result, the company will produce and sell an annual quantity of 15 million units (Qd = 15).
To calculate the annual profit, we need to subtract the total production costs from the revenue, which is the product of the wholesale price and the quantity sold:
Revenue = P x Qs
Revenue = $0 x 15 million
Revenue = $0
Total production costs = $5 x 15 million
Total production costs = $75 million
Profit = Revenue - Total production costs
Profit = $0 - $75 million
Profit = -$75 million
Therefore, Mirk Labs will make a loss of $75 million annually on Zatab.
(B) Once the patent on Zatab expires and competition emerges in the market, the price and quantity will be determined by market forces. In a competitive market, firms will produce until the marginal cost equals the price.
Given that the production cost per unit is $5 and firms will want to maximize their profit, the price will eventually settle at the marginal cost, which is $5.
So, after the patent expires, the price of Zatab will be $5 per unit. The quantity produced and sold annually will depend on the market demand, which is given by the Qd equation: Qd = 15.0 - 0.2P. Plugging in the price, we find:
Qd = 15.0 - 0.2(5)
Qd = 15.0 - 1
Qd = 14.0 million units
Therefore, once the patent expires and competition emerges, the price of Zatab will be $5 per unit, and the annual quantity sold will be 14 million units.