Firm's cost structure
CONTENTS
Profit
Fixed costs and variable costs
Marginal cost and Marginal
revenue
Average costs
Economies of scale
Marginal cost and average
costs
Profit
Profit is a very simple concept: it's bringing in more money than you spend.
In order for a business to continue to exist, the total revenue it collects must
exceed the total expenses it accumulates at some point in the foreseeable
future.
Profit is important because it allows businesses to stay in operation.
Without profit, firms will struggle to survive in the long run.
Profit provides an incentive for entrepreneurs to take risks.
Without generating Profits, a business can't compensate its owners, who
may be investing considerable time, money, and energy into the operation. If
the owners don't find their investment worthwhile, they'll close the business.
A firm earns profit if its total revenues exceed its total costs of
production.
Profit is calculated by using the formula :
Profit = total revenue - total costs
To understand how costs and revenues interact to determine economic
profits or losses, economists like to break up a firm’s total costs into two
subcategories:
fixed costs
variable costs.
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Fixed costs and variable costs
Fixed costs:
A fixed cost is a cost that tends to be unaffected by increases or decreases in the volume of
output.
No matter what a business does in any given month, it still has to pay salaried employees
and the lease on its office space.
Some firms operate in a situation where the fixed cost represents a large proportion of the
total. In this case, it would be wise to produce a large output in order to reduce unit costs
and so make the firm more efficient.
Variable costs:
A variable cost is a cost that tends to vary directly with the volume of output.
If you're in the business of creating cotton T-shirts, the more T-shirts you produce, the
Example!
more cotton fabric you'll need. Raw materials, usage-based utilities, and hourly workers
are all variable costs.
Total cost (TC) = total fixed cost (TFC) + total variable cost (TVC)
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