Dynamics of Markets:

Effects of cost and revenue

Objectives of businesses
Introduction
The Business has more than one objective. How the goals or objectives of the
business are determined depends on the vision of the business.
SMART GOALS: Each element of the SMART framework works together to create
a goal that is carefully planned, clear and trackable.

Whatever the goals are, they need to be SMART meaning:

i. Specific: Be as clear and specific as possible with what you want to achieve.
ii. Measurable: It must be possible to test or measure whether the goal has been
achieved.
iii. Agreed: Stakeholders in a large business are many and varied but they should
agree on the objectives.
iv. Realistic: the goal must not be out of reach for the business
v. Time Specific: there must be a time limit on achieving the goal.
Briefly discuss the SMART principle in designing the objectives of business.
• Specific: ✓
• • The idea must be identified and understood, ✓✓ e.g. the business must become the
most profitable in the country✓
• Measurable: ✓
• • It must be possible to test or measure whether the goal has been reached✓✓. e.g. in
order for a business to reach its goal it must make a profit of R5 000 a month✓
• Attainable: ✓
• • All stakeholders must agree to the set goal✓✓
• Realistic: ✓
• • The goal must be within reach for the business e.g. the business must be capable of
reaching the required profit ✓✓
• Time specific: ✓
• • There must be a time limit on achieving a goal. e.g. the business must be the most
profitable within a period of five years✓✓
• (Accept any correct relevant response) (4 x 2) (8)
Different objectives
All businesses aim to make money. Businesses aim to achieve the
following objectives:
i. Profit maximisation – making as much profit as possible
ii. Business growth – to grow to its maximum size as quickly as possible
iii. Increased market share – to have the maximum share of the total
market.
iv. Improved efficiency of production – to reduce the costs of
production by producing efficiently
v. Improved worker satisfaction – by providing favourable conditions of
employment, higher wagers and better environments.
vi. Survival – to merely survive
vii. Revenue and Sales maximising – to increase revenue and sales.
What is Profit?
Profit is the difference between the cost of production and the selling price.
Profit = total revenue (TR) – total costs (TC)
Revenue is the amount of income the business makes from selling goods or
services.

Total Revenue (TR) = price x quantity sold.

Total Costs (TC) – total cost of production.

Explicit and Implicit Costs
Businesses incur explicit and implicit costs.
Explicit costs are business expenses that are easily accounted for, e.g. cost of
material, wages, rent, interest and taxes.
Implicit costs are intangible costs, such as time and effort that an owner puts into
business.
Types of Profit:
a. Accounting Profit – is the amount left over after all the explicit costs incurred
by the business have been paid.

b. Normal Profit – is the minimum level of profit needed for a company to remain
competitive in the market.

-Different to accounting profit because opportunity cost is considered.

c. Economic Profit (or loss) – is profit above normal profit.

It is the difference between the revenue (income) received from sale of output
and the opportunity cost of the inputs used plus the explicit costs.
Short-run Costs
The cost of production is calculated in the short and long run.
Short-run is the period of time during which the business is faced with at least one
of its production factors being fixed (at least one of the inputs are unable to be
increased).
The input that is most commonly fixed in the short-run is land or capital – namely
the machinery and equipment.
Total Costs – the sum of the total variable costs and the total fixed costs of
production.
Total Costs (TC) – total fixed costs (TFC) + total variable costs (TVC)
Variable Costs – costs that change (vary) directly according to output
(production)
E.g. costs of raw materials, wages of part-time workers, costs of electricity & water
Average variable cost (AVC) –is the total variable cost (TVC) divided by output (Q)
of production.

𝑡𝑜𝑡𝑎𝑙 𝑣𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝑐𝑜𝑠𝑡𝑠 (𝑇𝑉𝐶) 𝑇𝑜𝑡𝑎𝑙 𝐶𝑜𝑠𝑡 (𝑇𝐶)

AVC = Average Total Cost (ATC) =
𝑜𝑢𝑡𝑝𝑢𝑡 (𝑄) 𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦 (𝑄)

𝐹𝑖𝑥𝑒𝑑 𝐶𝑜𝑠𝑡 (𝐹𝐶)

Average Fixed Cost (AFC) =
𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦 (𝑄)

The Cost Schedule is the table containing cost data.

Law of diminishing marginal returns – increasing variable inputs results in slowly

increasing costs originally followed by rapidly increasing costs per unit.
Cost Schedule: Calculate the missing values
Quantity Fixed Costs Variable Total Costs Average Average
Costs Total Cost Variable Cost
0 0 250 0
1 30 280
2 300 150
3 65 315
4 75 81
5 105 355
6 145 66
7 440 63
Marginal Costs
It is the cost of producing each additional unit.
𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑇𝑜𝑡𝑎𝑙 𝐶𝑜𝑠𝑡𝑠 (∆𝑇𝐶)
Marginal Cost (MC) =
𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑜𝑢𝑡𝑝𝑢𝑡 (∆𝑄)

The marginal cost of production decreases as output increases.

Cost curves – the curves that visually show how the cost in the schedule look.
The marginal cost shows the effect the rising variable costs has on total costs in the
short-run. When MC intersects ATC at its lowest point and pulls up ATC it means
business is now experiencing marginal returns.

When marginal costs exceed average costs no profit is being made and production
should no longer continue to increase.
1. Fill in the missing values:
Quantity Fixed Variable Total Costs Average Marginal
Costs Costs Total Costs Cost (MC)
0 80 0
1 80 10 90
2 80 18 98
3 80 23 103
4 80 35 115
5 80 50 130
6 80 80 160
7 80 120 200
Long-run Costs
The long run is the period of time when all the inputs become variable (increase)
to increase output.
It increases all the inputs as the firm has time to:
• Adapt their production methods
• Expand the premises they occupy or buy larger premises
• Buy more capital equipment such as machines.
Scale of production
-increasing the production capacity of the business to enable it to produce more.
e.g. a small bakery producing 60 loaves to a factory providing supermarkets with
bread.
The cost per unit falls as production increases – this is called economies of scale –
meaning savings achieved by producing large quantities.
Economies of scale
-Are the cost advantages that a business can use by increasing their scale of
production in the long run.

-By producing more units, the average cost of each unit becomes less so the firm
benefits from lower costs as result of increasing its output.

Example: If the airline only ever flies one passenger, then the average cost of that
passenger will be huge. However, if it carries hundreds of passengers per day, the
average cost of flying each passenger falls quite dramatically.
Factors that lead to economies of scale
• The use of modern technology
• Better production methods
• Improved production organisation
• Lower costs of raw materials for bulk buying.

Advantages of economies of scale

• Greater efficiency in production
• Average cost of production decreases
• Consumer gain as prices drop
• Greater competitive advantage over the other suppliers
• Sales increase as profits rise.
Diseconomies of scale
It is the situation where the AC per unit rises as output increases.

Characteristics of diseconomies of scale

• Returns to scale decrease
• Long run average cost per unit rises with an
increase in output
• The unit costs of production increases as the
output increases
• It is no longer worth increasing the outputs
Diseconomies of scale can be avoided by
dividing the firm into more manageable
sections.
Application of economies of scale
Advantages of economies of scale for large scale businesses
• Large scale businesses can afford to apply more efficient technology to their
operation.
• A large firm can spread its advertising and marketing budget over a large output
• It can purchase its inputs in bulk usually at discounted prices.
• Larger firms can get lower rates when they borrow money as they are considered
to be more credit worthy.
Disadvantages of economies of scale for consumers
• Goods become very similar and limit consumer choice
• Monopolies could develop leading to consumer exploitation and preventing new
producers from entering the market.
• Consumer demand may not be sufficient in smaller or poorer countries to have
economies of scale.
Revenue calculations
Revenue (turnover or Sales) – is the amount of income generated from selling the
goods or services.
Costs – are the payments made for items such as raw materials and labour.
Profit (or loss) is the difference between revenue and costs.

Total revenue – the amount of income that a business receives as a result of selling
its goods and services within a period of time.

Total revenue (TR) = Price X Quantity sold (Q)

Average Revenue – is the amount the business earns for every unit that it sells.
𝑻𝒐𝒕𝒂𝒍 𝑹𝒆𝒗𝒆𝒏𝒖𝒆 (𝑻𝑹)
Average Revenue (AR) =
𝑸𝒖𝒂𝒏𝒕𝒊𝒕𝒚 (𝑸)
Marginal Revenue – is the additional revenue earned when selling one extra unit.
𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑇𝑜𝑡𝑎𝑙 𝑅𝑒𝑣𝑒𝑛𝑢𝑒 𝑇𝐶
Marginal Revenue = =
𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑄
The relationship between Average, Marginal and Total Revenue
• Price = AR
• TR increases as output increases but at a slower rate
• MR drops as output increases
• TR drops when marginal revenue is negative.
Changes in Revenue
Revenue changes if the demand or the price (or both) changes.
Factors causing the changes in revenue:
• An increase in the income of consumers
• An increase in the size of population
• An increase in the price of substitute good
• A successful advertising campaign by firm.
Profit and Losses
-are calculated by subtracting TC from TR
✓In a profit situation, revenue exceeds cost.
✓In a loss situation, costs exceed revenue.

Marginal Revenue Production

Marginal Revenue Production (MRP) of labour is the value of the output produced
by each additional worker.

Marginal revenue production (MRP) of labour = marginal product (MP) of labour

X price of the product