3.

7 Firms' costs, revenue and

objectives
COST

1.MEANING OF COST
2.TOTAL COST
3.AVERAGE COST
4.FIXED COST
5.AVERAGE FIXED COST
6.VARIABLE COST
7.AVERAGE VARIABLE COST
 DEFINITION OF COST
cost is the amount of money that is spent to produce
a good or a product.
INPUTS WILL GET TRANSFORMED
INTO OUTPUT
12

10

8
Column 1
6
Column 2
4 Column 3

0
Row 1 Row 2 Row 3 Row 4
Types of cost
Variable and fixed
factors
 Fixed factor: A fixed factor of production is one
whose quantity cannot readily be changed. Examples
include major pieces of equipment, suitable factory
space, salaries of permanent employees, rent paid on
non-cancelable lease, etc.
 Variable factor: A variable factor of production is one
whose usage rate can be changed easily. Examples
include electrical power consumption, transportation
services and most raw material inputs.
 COST CURVES

SHORT RUN : Short run is a time period where

output can be increased by increasing the variable
factor. Based on short run we have short run cost
curves.[TFC,TVC,AFC,AVC]

LONG RUN: Long run is the time period in which

output can be increased by increasing both
variable and fixed factor. Based on long run we
have long run cost curves.
TOTAL FIXED COST
Cost which will not
vary along with the
output is total fixed
cost.
TFC remains the
same at all levels of
output.
Also called as
over head cost or
indirect cost.
Average fixed cost
Average fixed cost is a per-unit-of-output
measure of fixed costs.
Average fixed cost is the fixed cost per unit of
output.
AFC= TFC/Q
DERIVE AVERAGE FIXED COST FROM
TOTAL FIXED COST

output Total fixed Average fixed

cost cost=TFC/Q

0 10 -

1 10 10

2 10

3 10

4 10

5 10
 VARIABLE COST
Cost which varies along with the output is
variable cost.
TVC
AVC
 VARIABLE COST
Variable cost are some time called as direct cost.
They vary directly as the output varies.

VARIABLE COST
 TOTAL VARIABLE
COST
As output increases TVC increases.
It raises slowly and then rise very fastly.
 AVERAGE VARIABLE
COST
Average variable cost is the total variable cost
divided by output.
As output increases in the short run AVC tends
to fall and then rise.
Average variable cost

Average variable cost initially falls with more

efficient use of factors of production. When
the resources are combined less well, they
start to rise again.
AVC=TVC/Q

output Total variable cost Average variable cost

1 40

2 70

3 90

4 120

5 175
Fixed and variable cost
TC=TFC +TVC
AVERAGE COST
AC=AFC+AVC or AC=TC/Q
The shape of AVC IS “U'' .
It is the same in the short run and the long
run.
The shape of the curve in the long run is
due to economies and dis economies of
scale.
Key points
1.Fixed costs are the same whatever quantity is
produced.
2.Variable cost increases as output increases.
3.AVC falls as they are spread over larger quantities
of output.
4.Average variable cost initially falls with more
efficient use of factors of production the resources
are combined less well,they start to rise again
Complete the table.
outputs TC TFC TVC AC AFC AVC

0 60

1 110

2 150

3 180

4 200

5 230

6 300
 Questions
1.Illustrate the average variable cost curve on a
graph.
2.Explain why it has shape that it does.
3.Calculate the AFC at each level of output.
4.Draw and explain the shape of average fixed
cost curve
 MEANING OF REVENUE

Revenue is the sum of money that a
business receive from making sales.
Revenue is the money coming into the firm.
 Revenue
Revenue will rise as more units are sold.
Assume a car dealer sells cars at 180000$
each.
Draw diagram to show how revenue
increases with the amount of sale of cars.
 Total revenue
12

10

Column 1
6
Column 2
Column 3

0
 TOTAL REVENUE

Total revenue is defined as the total
proceeds to the firm from the sale of
a commodity.

TR=P*Q [Price into quantity sold]

To calculate TR from selling tea,
multiply the no of packets into the
price charged.150*10=1500 is TR.
 AVERAGE REVENUE
(AR)
Average revenue is the average receipts per
unit sold.
AR=TR/Q
Quantity sold Average revenue(price Total revenue
per unit)

100 1000

200 2000

300 3000

400 4000

500 5000
 REVENUES CURVES UNDER
DIFFERENT MARKET
CONDITIONS.
Perfectly competitive market:
1.Large number of buyers and sellers

2. Homogenous product is produced by every firm

3. Free entry and exit of firms.

 Revenue curves under
imperfect market
Imperfect competition is a competitive market
situation where there are many sellers, but they
are selling heterogeneous (dissimilar) goods as
opposed to the perfect competitive market
scenario. As the name suggests, competitive
markets that are imperfect in nature.
.
Imperfect market
Quantity Average revenue(price Total revenue $
sold per unit) $

1 10

2 9

3 8

4 7

5 6

6 5

7 4
Imperfect market
 Profit

Profit=revenue-cost

Calculation
 Effects of profit change
If there is increase in profit:

Incentive for the producer to produce more.

Increase more competition.

Availability of finance will get increased.

Shareholders will buy more share of this
company.

It can recruit more efficient managers and
directors.
If there is decrease in profit:

If they are expecting that decrease in
profit is for short run, there will be little
impact in the firm's behavioral
changes.

If it remains low, some firms may
reduce production and others will stop
production.
Ways of increasing profit
Way to reduce cost of production

By reducing wastage and inefficiency.

By increasing productivity:Giving training to
workers and replacing old machines with an
advanced one.
In short run, it will increase the cost.
But in long run, average cost will get decreased.
Quality of the product and
revenue will also get increased.

By increasing size of the firm
through mergers and takeovers.
 Ways to increase revenue

If the good is having inelastic demand, firm
can increase the price. So revenue will get
increased.

If the good is having elastic demand, firm
can decrease the price. So revenue will get
increased.

Demand can be increased by improving
quality, changing the features according to
the consumer etc.

It can be done through good advertisement
also.
 OBJECTIVES OF THE FIRM
1.Sales maximization
2.Growth
3.Profit satisfaction
4.Improvement of the environment
5.Social responsibility
6.Profit maximisation