Rule for maximising profit1. The condition for profit maximisation is that the firm produces where Marginal Cost (MC) equals Marginal Revenue (MR)2. Producing less than this means the firm is missing out on revenue which is could gain.3. Producing more than this means the extra production costs the firm more than it is receiving in revenue.
Maximising profits – rememberthe rule! Price, Cost MC AC AR MR Output (Q)
Output where MR=MCPrice, Cost MC AC P1 C1 AR MR Output (Q)
Supernormal profit when P>ACPrice, Cost Supernormal profit MC AC P1 C1 AR MR Output (Q)
Alternatives to profit maximisation • When marginal revenue = zero Sales revenue • This is at a higher output which maximisation maximises profits • The break-even output Normal profits • Enough profit to justify staying in market • Output where AR = AC • Constrained sales revenue maximisation Satisficing • Making enough profit to satisfy different demands of stakeholders
Maximising revenue where MR = 0...means lower profit & lower prices Price, Cost MC AC P1 C1 AR Q1 Output (Q) MR
Output (Q2) – where AC=AR - normalprofits made and output is higher Price, Cost MC AC P1 P2 C1 AR Q2 Output (Q) Q1 MR
Satisficing SocialGovernment Enterprise New Rivals Recession State Ownership
Satisficing rather than Maximising Satisficing = Satisfy + Suffice Imperfect information among managers + complex markets Managerial motives may differ from those of business owners Can lead to rules of thumb approach to pricing
Social Enterprises – IncreasinglyImportant in many countries Wider aims Social than simply Business with Profits are stakeholders – driving broader social reinvested for including the shareholder / objectives social projects local stock market community value
Not For Profit Businesses Network Rail • Stated purpose is to deliver a safe, reliable and efficient railway for Britain • Train operating companies pay them for track use • Profits are invested in the railway network • A state-owned business (formerly called Railtrack) Charities • Revenue objectives – affects pricing decisions • Charitable status / social objectives • Many charities are businesses limited by degree – this gives them legal protection
Evaluation PointsBusiness pricing affects economic efficiency• High prices – loss of allocative efficiency• High profits – opportunity to reinvest and innovateBusiness strategies affect consumer welfare• Consumer surplus from market activity• Affordability for consumers with different incomesMost businesses are profit seeking but arenot profit-maximizers – they satisfice
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