ANALYSIS OF COST,

PROFIT AND TOTAL

REVENUE
Chapter 7

Cost is the most important consideration in production.

Revenue may be substantial but the producer will
think twice because of the implication on the pricing of
the commodity
In efficiency in the production process has a direct
impact on cost, because it takes away the incentives
being rewarded by the market for producers that are
not wasteful.

Accounting vs Economic Cost

Economic costs are forward looking costs, meaning,
economist are in tune with future costs because these
costs have major repercussions on the potential
profitability of the firm.
Economist are also giving emphasis on the so called
opportunity costs, or cost that are incurred by not
putting the resources to optimum use.

Sunk costs are costs that are irretrievable due to the

fact that these are already incurred and do not affect
a firms decision.
Accounting costs tend to be retrospective; they
recognize costs only when these are made and
properly recorded.

Economic costs are in tune with future costs that

have major repercussions on potential profitability of
the firm. They give emphasis on the cost that are
incurred by not putting the resources to optimum use.
Whereas the accounting costs are costs that are
properly recorded on a journal or ledger.

Implicit vs Explicit Costs

Explicit costs refers to the actual expenses of the
firm in purchasing or hiring the inputs it needs.
Implicit costs refers to the value of inputs being
owned by the firm and used in its own production
process.

Short-run Cost Analysis

Short-run is a time horizon during which one input is
held constant. Short-run cost includes:
a) Total cost the sum of fixed cost and variable cost
b) Fixed cost cost that does not vary with output
c) Variable cost cost that varies with output
d) Average fixed cost total fixed costs divided by
the number of output produced

e) Average variable cost total variable cost

divided by the number of output produced
f) Average total cost total cost divided by the
number of output produced
g) Marginal cost refers to changes in total cost
divided by the change in output produced

Long-run Cost Analysis

Long-run is a time period wherein all fixed factors can
be variable.
The long-run average total cost (LAC) of producing
a given level of output is always the lowest point of the
short-run average total cost of producing that output.
The LAC is the curve tangent to each short-run average
cost SAC representing different plant sizes that a firm
can build in the long run.

Long-run Marginal Cost

The long-run marginal cost LMC measures the
change in long-run total cost from a given change in
output.

Business Profit vs Economic

Profit
Business profit refers to the difference between
total revenue and explicit cost.
Economic profit is the difference between total
revenue and both explicit and implicit costs.

Point of Maximum Profit

Useful rules to remember:

Total Revenue (TR) = Price (P) x quantity (Q)
Profit (
= TR TC
If,