MEANING OF REVENUE AND PROFIT

MEANING OF REVENUE AND PROFIT. Revenue may be defined as all the money income accruing to a firm from the sale of goods and services, assets or investment.

 The profit of a firm is defined as difference between the total revenue and 1 cost. It is expressed mathematically as:

Profit   =          TR – TC where

R         =          Total Revenue

TC       =          Total Cost

The profits earned by a firm depend on the relationship between its cost and revenue. If the firm’s total revenue exceeds its total cost, the makes profits but when its total cost the firm’s total revenue, the firm makes losses.

Just as the firm incurs different kinds of in its production activities, so also does it different kinds of revenues from its sales activities

            TYPES OF REVENUE

Three main types of revenue can be distinguished economics. These are:

  1. Total revenue,
  2.    Average revenue, and
  3.    Marginal revenue

Total revenue

Total revenue (TR) is the total amount revenue generated from the sale of a firm’s products. It is represented by a formula TR = Price x Quantity sold or AR x Quantity sold.

It is £ dependent on the quantity of goods sold and selling the higher the quantity sold, the higher the total revenue.

 Mathematically, the total revenue is the product of the quantity of the commodity sold and the selling price per unit. For example, if a firm sells 60 units of a commodity at a selling price of 6 40 each, then total revenue = 6C x 6 40 = 62,400.00

What is Average Revenue?

Average revenue (AR) is the revenue per unit of product sold. It is also equal to the price of the firm’s product. It represented by a formula:

AR = TR or AR = P

           Q

It is obtained by dividing total revenue from a given number of units sold by that number of units. In the short run, the average revenue may be inversely related to the quantity sold. Thus, the average revenue may fall as the quantity sold increases.

What is Marginal Revenue?

Marginal Revenue (MR) is the addition to total revenue as an additional unit of the product is sold. It is represented by a formula:

MR        =          DTR    OR      TR,      –           TR,

                       DQ                  Q2                    Q,

It is the change in total revenue as a result of selling one more unit of a commodity. For example, if total revenue is 6 90 from the sale of 9units and 6 95 from the sale of 10 units,

the marginal revenue from the 10th unit sold is 6 95 – 6 90 = 6 5. In the short-run, the marginal revenue may fall as the quantity sold increases.

            RELATIONSHIP BETWEEN AVERAGE REVENUE AND MARGINAL REVENUE

The relationship between the marginal revenue and the average revenue of a firm in the short- run is that both may fall as the quantity sold increases, but the marginal revenue falls faster than the average revenue.

Worked Example of marginal revenue

Study the diagram below carefully and use the given information to answer the questions that follow:

  • Determine:
  • the profit maximizing output;
  • the firm’s profit if it produces of output.
  • the total cost if the firm produces 400 units
  • Calculate the: (i) total revenue
  • profit of the firm at the output level of 900 units
  • What will happen if a firm’s falls below its average variable

Solution

  • (i)           Profit-maximizing output level is 900 because at this output level MC = MR

(ii)          TR       =          $10 x 600        =          $6,000

                          TC       =          $6 x 600                      =          $3,600

                          Profit   =          TR – TC          =          $2,400

  • TC                   =          ATC x Q

$10 x 400        =          $4,000

  • (i)           TR       =          P x Q

                                      =          $10 x 900

                                      =          $9,000

(ii)          At 900 units TR – TC, TC

                                                  =          $8 x 900

                                                  =          $7,200

                                      Profit   =          $9,000  – $7,200

                                                  =          $1,800

  • At any time price (AR) is below the average variable cost, TR will be less than TVC and operating profit will be negative, that is, there will be loss on operation. The firm will eventually close down.

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