3.1, 3.2,3.3 Business Objectives, Costs And Economies Of Scale, And Revenue And Profit Flashcards
What are business objectives ?
The reasons behind the decisions a firm takes
What are the maximisation objectives ?
Profit Sales Revenue Sales volume Growth Utility
What is profit maximisation ?
Main assumption for firms to achieve the highest level of profits possible: where MR=MC
When a business aims to have the most difference between total costs and total revenues = highest proft
What are the positives of profit maximisation?
To re-invest Lower costs and lower prices Bonuses Dividends Reward for entrepreneurship
What are the negatives of profit maximisation?
Do businesses know where MC=MR
Greater scrutiny
Key stakeholders may be harmed
Other objectives may be more appropriate
What is Sales revenue maximisation ?
Producing where MR=0, keep producing more output as long as it adds to revenue
make as much revenue from sales as possible - likely to be a objective for a business launching a new product or trying to build up customer loyalty
Why use sales revenue maximisation ?
Economies of scale
Predatory pricing
Principle agent problem
What is the principle agent problem ?
This arises from conflict / disagreement between the objectives of the principals (managers) and their agents (owners), who take decisions on their behalf
What is sales volume maximisation ?
Producing at a point where TR=TC, to maximise the volume of sales
Why use sales volume maximisation ?
Economies of scale
Limit pricing
Principle agent problem
Flood the market
What is growth maximisation ?
Aim to grow as large as possible, often to achieve a higher market share
What is utility maximisation ?
Firms/managers aim to produce where they gain the maximum satisfaction
What is profit satisficing
Managing a firm to make a level of profits to satisfy the main stakeholders
What is social welfare ?
Non-profit-making firms that aim to improve social welfare, the well being of a community or country - e.g. charities
What is corporate Social responsibility
Actions that a firm takes in order to demonstrate its commitment to behaving in the public interest
What is fixed costs ?
Name 2 FC’s ?
Costs that do not vary with the level of output
Rent and Marketing costs
Calculated by Total FC divide by Output
What are variable costs ?
Name 2 VC’s
Costs that vary with the level of output
2 VC’s - wages and transport
Calculated by Total VC divide by Output
What are total costs ?
The sum of all costs that are incurred in producing a given level of output ( including opportunity cost)
Total VC + FC = TC
What are average costs ?
Total cost divided by the quantity produced, sometimes known as unit cost
What are marginal costs?
The cost of producing an additional unit of output
What is the short run ?
The period in which at least one factor of production is fixed in supply
What is the long run ?
The period over which the firm is able to vary the inputs of all its factors of production
What is the law of diminishing returns ?
Theory that in the short run when at least one factor of production is fixed, the average return from a factor of production decreases
A law stating that if a firm increases its inputs of one factor of production while holding inputs of the other factor(s) fixed, eventually the firm will get diminishing marginal returns from the variable factor
What are economies of scale ?
These occur for a firm when an increase in the scale of production leads to production at lower long-run average cost
What are internal economies of scale?
Reduction in average costs that can occur from the growth of a BUSINESS
Purchasing - negotiate a lower cost of purchasing raw materials - “bulk buying”
Technical - buy better technology that can reduce average cost
Marketing - if producing a lot they can afford mass marketing
Management - larger businesses can afford to employ specialist managers - Legal, HR, Procurement - who are efficient whereas smaller business can’t afford this
Financial - a larger business can negotiate a lower cost
What are external economies of scale?
Reductions in average costs that can occur from the growth of a INDUSTRY
Concentration - as an industry increases in size the businesses within that industry may benefit from being close to one another - e.g. a new restaurant may locate near other restaurants as it saves money on marketing
Infrastructure - as the industry in a particular area increases there is likely to better transport (roads) and comms (internet links) which benefit all businesses in the area and reduce costs
Technology and skill -as an industry increases in size more people are likely to train to work in that industry and other businesses are likely to develop better technology for that industry - both will decrease the average costs of the business
What are diseconomies of scale ?
Why might a business encounter them ?
Increases in average costs that can occur from the growth of a business
(The benefits of growing are overtaken by limitations called diseconomies of scale )
Communication - as a business increases output communication may become more difficult - need to ensure everyone receives the same message
Coordination - as a business increases output organizing a complicated production process may be more difficult and incur costs to overcome this
Motivation - as a business increases output not every manager is likely to be able to motivate all employees which is likely to increase avg costs of production
What is the minimum efficient scale ?
The level of output at which long run average cost stops falling as output increases
What is total revenue ?
The revenue received by a firm from its sales of a good or service — it is the quantity sold, multiplied by the price
What is average revenue ?
The average revenue received by the firm per unit of output — it is total revenue divided by the quantity sold
What is marginal revenue ?
The additional revenue received by the firm if it sells an additional unit of output -“the price of the last unit sold”
What is profit ?
The difference between the total revenue received by a firm and the total costs that it incurs in production:
Profit = total revenue − total cost
What is loss?
When total revenue is smaller than total costs
What is accounting profit ?
Profit made by a business after it has taken away total costs but excluding opportunity cost
What is normal profit ?
The level of profit required to cover total costs and the opportunity cost
“In other words its the minimum profit needed for a firm to stay in a market in the long run
What is supernormal profit ?
The profit above normal profits — also known as abnormal or economic profit
What is CSR ?
CSR requires a firm to be responsible to the major stakeholders of the business
e.g. a responsibility to make a profit for the owners, a responsibility to do what is right for society and a responsibility to the environment
What factors determine the business objectives ?
What stage the business is at ? ….new business unlikely to set profit maximisation as its objective
Owners / Founders wishes - some businesses deliberately set up to be non profit making or to help society
Timescale - many businesses have profit maximisation as long term objective but change objectives depending on circumstances - e.g. business might aim to drive competitors out of the market so focus on sales volume maximisation
State of the macro economy - e.g. if recession focus on survival
The extent to which businesses benefit from or are limited by economies and diseconomies of scale depend on a number of factors ?
What are they ?
Demand for the product or service - economies and diseconomies of scale are based on increases in output however the market may no demand this output
The nature of production - a car manufacturer benefits from technical economies of scale but this is less likely for a hairdresser
Technological advancement - e.g. now small business can now access low cost mass marketing on line whereas previously Marketing was only affordable to large companies
The importance of price - economies of scale allow a business to charge a lower price
The nature of the product or service - some products and services tend to benefit from economies of scale more than others - e.g. taxi drivers operate on their own as there are few economies of scale to be gained through growth
What’s the difference between accounting profit and normal profit
Accounting profit excludes opportunity cost
What is utility maximisation ?
When the managers of a business aim to increase their own happiness a much as possible
