Marginal Revenue and Marginal Cost

 

  • Marginal Analysis:

Is an exercise that helps a company make decisions to maximize their profits by comparing the additional benefits and the additional costs generated by increasing their output of the same activity.  

  • When Marginal Benefit > Marginal Costs, the company should increase the activity output. 
  • When Marginal Benefit < Marginal Costs, the company should cut down on the output. 

 

  • Marginal Revenue (MR): 

It measures the increase/decrease in revenue for producing and selling one more unit of item. 

  • MR = ΔTR/ΔQ 

Where TR= Total Revenue 

 

  • Marginal Cost (MC): 

It measures the increase/decrease in total cost of producing one more unit of an item.
The formula used to calculate marginal cost is as follow: 

  • MC = ΔTC/ΔQ 

Where TC= Total Cost and Q= Quantity. 

 

  • Profit Maximization (Marginal Profit): 

It occurs when Marginal revenue = Marginal costs. Any points after ‘Profit Maximization’, will cause the prices to rise and gradually diminish the profit (Marginal Loss). 

Note: company should always target to increase its profitsnot its revenue. 

 

  • Marginal Cost (MC) and Average Total Cost (ATC): 
    • Total Cost of production (TC) = Fixed Costs (FC) + Variable Costs (VC). 
    • Average Total Costs (ATC)= Total cost/Q 
      • Average Fixed Costs (AFC)= fixed cost/Q 
      • Average Variable Costs (AVC) = variable cost/Q 

When an increase occurs in relation to Fixed cost, the: 

  1. FC and AFC increases. 
  2. TC and ATC increases. 
  3. VC and AVC will have no effect. 
ATC

ATC

 

 

MC always interconnect with ATC & AVC at their lowest points for the short run. 

 Why companies do these Analysis: 

  • When Marginal Revenue < Marginal cost= the company is over producing so it should decrease the quantity supplied. 
  • When Marginal Revenue > Marginal cost= the company is not producing enough so it should increase the quantity supplied. 

 

 

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