3.3- Revenues, costs and profits

Question 1

What is revenue?

Answer 1

The money earned from the sale of goods and services.

Question 2

How do you calculate total revenue?

Answer 2

Quantity x price

Question 3

How do you calculate average revnue?

Answer 3

AR= demand
total revenue/ output

Question 4

What is marginal revenue?

Answer 4

The extra revenue that the firm earns from selling one more unit of production.
change in total revenue/ change in output
OR:
total revenue from N goods- total revenue from (N-1) goods

Question 5

Why do some firms experience a perfectly elastic demand curve?

Answer 5

• perfect competition.
• no price setting power.
• the price received by the firm for the good is constant so MR=AR=D. (horizontal)
• The TR curve is upward sloping because prices are constant and so more goods sold, higher revenue made.

Question 6

Why do most firms have a downward sloping demand curve?

Answer 6

• price decreases as output increases and therefore downward AR curve.
• Firms with a downward sloping demand curve are firms that are in imperfect competition and have price setting power.
• AR curve indicates the price that consumers are willing to pay for each quantity sold.

Question 7

How is the elasticity of the demand curve linked with marginal revenue?

Answer 7

• If MR is positive, when the firm sells the product at a lower price, total revenue still grows and so the demand curve is elastic.
• If MR is negative, TR decreases as price decreases and so demand curve is inelastic.
  -When MR=0 , TR is maximised and the demand curve is unitary elastic.
• TR curve is a U shape, rises with output( when MR is positive) but then declines (when MR is negative.

Question 8

What is the economic cost of production?

Answer 8

• the opportunity cost.

Question 9

Why are some costs fixed and some variable?

Answer 9

• short run at least one factor of production is fixed, therefore some costs are fixed.
• In the long run, all costs are variable

Question 10

How do you work out total cost?

Answer 10

fixed + variable costs

Question 11

What is a total fixed cost?

Answer 11

Costs that do not change with output and remain constant.
Example= rent, machinery

Question 12

What is a total variable cost?

Answer 12

costs that change directly with output.
Example= materials.

Question 13

How do you work out average total cost?

Answer 13

total costs/ output

Question 14

How do you work out average fixed cost?

Answer 14

total fixed cost/ output

Question 15

How do you work out average variable cost?

Answer 15

total variable cost/ output

Question 16

How do you work out marginal cost?

Answer 16

• The extra cost of producing one extra unit.

change in total cost/ change in output.

Question 17

What is diminishing marginal productivity/ law of diminishing returns?

Answer 17

• More workers can be added relatively easily and this will see an increase in production as machinery is used more efficiently.
• However, adding more labour will mean they have less and less impact on the amount produced as they get in the way and have no machines left to use.
• If a variable factor is increased when another factor is fixed, there will come to a point when each extra unit of the variable factor will produce less extra output than the previous.

Question 18

How is a cost curve diagram drawn?

Answer 18

• AFC starts high because the whole fixed costs are being divided by a small output.
• ATC is a U shape due to law of diminishing marginal productivity.
• AVC also a U shape
• MC is also a U shape due to diminishing marginal productivity.

Question 19

Where does the MC curve cut the AC/ ATC curve?

Answer 19

• MC will cut the AC line at the lowest point on AC curve.

Question 20

Why are SRAC and LRAC both U shaped?

Answer 20

• SRAC because of diminishing marginal returns.
• LRAC because of economies of scale.

Question 21

What are economies of scale?

Answer 21

• the advantages of large scale production that enable a large business to produce at a lower average cost.

Question 22

What are diseconomies of scale?

Answer 22

the disadvantages that arise in large businesses that reduce efficiency and cause average costs to rise.

Question 23

What is the minimum efficient scale?

Answer 23

The minimum level of output needed for a business to fully exploit economies of scale.

Question 24

What is an internal economy of scale? NAME 6

Answer 24

An advantage that a firm is able to enjoy because of a growth in the firm.
Risk bearing
Financial
Managerial
Technical
Marketing
Purchasing

Question 25

What is risk bearing economies?

Answer 25

• Large companies are able to operate in a range of different markets.
• if one area of the business fails, their whole business will not collapse.

Question 26

What is financial economies?

Answer 26

• Larger firms have greater security because thy have more assets.
• Easier for them to obtain finance and interest rates will be lower due to lower risk.
• makes investment more accessible.

Question 27

What is managerial economies?

Answer 27

• Large companies can afford to appoint specialist managers in every field.
• This can increase productivity and efficiency.

Question 28

What is technical economies?

Answer 28

• able to buy specialist machines which will be able to do jobs quickly.
• large firms can buy a number of every kind of machine for each stage of production.
• only large firms can afford to carry out large scale research and development (gain advantage over competitor)

Question 29

What is marketing economies of scale?

Answer 29

• reduce advertising and branding costs as it will be distributed over a larger firm.
• transporting in large batches and so is cheaper.

Question 30

What is purchasing economies of scale?

Answer 30

Larger firms are able to buy in large numbers so may be able to buy their raw materials at a cheaper price than competitors.

Question 31

What is an external economy of scale?

Answer 31

An advantage which arises from the growth of the industry within which the firms operates.

Question 32

Examples of external economies of scale?

Answer 32

• local education and training providers are more likely to develop courses to prepare people to take up jobs in these businesses.
• local roads might be improved, so transport costs for the local industries might be improved.

Question 33

Examples of diseconomies of scale?

Answer 33

• In a large business, people can think their efforts go unnoticed and so lose motivation and work less hard.
• Parts of the business may be miles away.
• It takes longer for a large firm to respond to change.
  coordination and control can be difficult, this can lead to poorer quality to work.
  communication can b slow and lose accuracy because of the number of people it ha to be passed through.

Question 34

When is profit maximised?

Answer 34

when TR and TC are furthest apart.
When MC=MR

Question 35

What is normal profit?

Answer 35

The return that is sufficient to keep the factors of production commited to the business. The level of profit needed to keep the producer in the market and to cover opportunity cost.

Question 36

What point is normal profit?

Answer 36

AC=AR
TC=AR

Question 37

When does supernormal profit occur?

Answer 37

AR>AC or TR>TC.

Question 38

When does a loss occur?

Answer 38

firm fails to cover its costs.
AR<AC OR TR<TC

Question 39

When should a firm shut down?

Answer 39

• depends on average variable costs.
• If AVC<AR then firms should continue production.
• if AVC>AR then producing more goods will increase the loss. Firms should leave the industry immediately.
• In the long run, firm needs to make at least normal profit to stay in the industry.
• However, in the short run they should produce as long as their revenue covers their variable costs.
• Short run shut down point is where AVC=AR.