OPTIMIZATION

Finding an alternative with the most cost effective

or highest achievable performance under the
given constraints, by maximizing desired factors
and minimizing undesired ones.
In comparison, maximization means trying to
attain the highest or maximum result or outcome
without regard to cost or expense. Practice of
optimization is restricted by the lack of full
information, and the lack of time to evaluate what
information is available. In computer simulation
(modeling) of business problems, optimization is
achieved usually by using linear programming
techniques of operations research.
 JOINT OPTIMIZATION

Optimizing Quality availability advertising and price to maximize the profit

of the firm
Here resources are: Quality, availability, advertising and price
Output is sales of product
 Quality α Sales
Availability relates with demand
Advertising α sales
But advertising comes with the
quality of product
Here, advertising and availability are treated as
discretionary fixed cost and F represents the sum of
non-discretionary fixed costs.
If p is the selling price of the product; then the nest
profit function,
P is given by:
P= Revenue – Total Costs
The firms objective is to have a joint optimization of p,s,x,and a,
so as to maximize its total profit.
The necessary conditions for joint optimization of these variables
are:
Solving equation, we get

In order to explain the above equation ,

we need to define the following

Ordinary price elasticity of demand = η

 OPTIMAL ADVERTISING:

The optimal rate of advertising expenditure given the relationship between the rate of
change of sales and the rate of expenditure is discussed. It is shown that we may assume
that the marginal return of increased expenditure is never increasing.
Provided it is profitable to advertise, there exists an overall optimal sales rate and an
expenditure level, just sufficient to maintain it, with the following properties with respect to
long-run discounted profits:(1)If sales even reach this level it is optimal to keep them there.

(2)Starting from any other level, the optimal policy is to spend in such a way as to drive
sales towards this level.

The only requirements for these results are that the cost of achieving a given change in the
sales rate be an increasing function of the sales rate and the rate of change of sales rate. It
is also shown that the optimal sales rate to be maintained in the long-run is not the rate
which maximizes the rate of gaining profit after advertising, unless the discount rate is zero.
If the price which a firm can charge is predetermined for a
product of a given quality and if the firm can influence its
demand curve by advertising in order to maximize its profit
should choose its advertising budget by optimization

Dorfman and steiner made the following interesting

observation which may be taken a note of,
If µ > η it will be profitable to increase both s and p
until equality is once more restored.
We need two equilibrium states, namely
µ = η ; if s>0
And
µ ≤ η ; if s=0
Is always guaranteed that changes in s and p will reach an
equilibrium in µ and η
Since µ declines (after a point) as s increases and will
ultimately reaches zero (or less), whereas a maximum
profit price cannot occur unless η>1
If η<1, marginal revenue is negative and presumably
production costs never are.
Thus, µ will always be either below η ( as in Fig. A)or
will be equal to η at least one point ( as in fig. B and C)
Marginal Cost (M.C) = p(1- 1/µ)
Since, price and quality are assumed to
be fixed, the only variable which can
affect the demand is advertising
budget
Therefore
D=f(s)
And unit cost = C=g(f(s))
If p is selling price of the product
then the profit, P, is
P=p.D – C.D – s – F
=p.f(s)-g(f(s)).f(s)-s-F
The necessary condition for
maximization of profit w..r.t ‘s’ is
Marginal Cost is defined as change in total cost of units
due to change in demand.
Which is the equilibrium condition,
Further,
Where (p-MC) is the profit on marginal units and
(p-MC/p) is the profit on marginal units taken as
the fraction of unit selling price, which is also
termed as marginal units.
 OPTIMAL QUALITY

In this section wants to know the optimal level of quality to

maximize its profit keeping price and advertising budget at
constant level.
Here, demand is going to be function of quality index x, is only as
D=f(x)
And unit cost C, will be the function of level of production/
demand and the quality of the product i.e,
C=p.D-C.D-F
=p.f(x)-g.(f(x),x)f(x)-F
In order to maximize the profit, the necessary
condition is;
The above equation can be reduced to

(p-MC/p) is the profit on marginal units taken as

the fraction of unit cost, which is form of mark-
up marginal units.
THANK YOU