Business Costs, Revenues, and Profit
Firms incur expenses when producing goods and services; these expenses are called costs.
Costs are classified by economists according to their behavior when output changes:
Some costs increase with rising output.
TOTAL FIXED COSTS
SUBJECT VOCABULARY
Costs: Expenses to be met when operating a business.
Fixed Costs (Overheads): Costs that do not change with the level of output.
Key Points:
Fixed costs remain constant regardless of output level:
Examples include rent, business rates, advertising, insurance, R&D costs.
Fixed costs must be covered even if the business has zero output.
Graphical Representation: Fixed costs can be illustrated graphically as a horizontal line, showing constant costs at all production levels.
TOTAL VARIABLE COSTS
SUBJECT VOCABULARY
Variable Costs: Costs that change with varying output levels.
Key Points:
Variable costs increase when production rises and decrease with lower production levels:
Examples: raw materials, packaging, fuel, and labor.
Formula to calculate total variable cost:
TVC = VC \times Q
Where $VC$ = variable cost per unit and $Q$ = quantity produced.
Example Graph: In the case of Frampton Training, variable costs were US$500 per course, leading to various total variable costs based on the number of courses provided:
100 courses: 100 \times 500 = US$50,000
150 courses: 150 \times 500 = US$75,000
TOTAL COSTS
SUBJECT VOCABULARY
Total Cost (TC): Total costs incurred in producing output.
Key Points:
Total costs can be calculated by combining total fixed costs and total variable costs:
TC = TFC + TVC
Example Calculation:
For 100 training courses:
TC = US$40,000 + (100 \times US$500) = US$90,000
Graph shows the total cost rises as the quantity of courses provided increases from 100 to 150.
AVERAGE COSTS
Key Points:
Average Cost (AC): The cost per unit of output, calculated as:
AC = \frac{TC}{Q}
Example Calculation for Frampton Training:
AC = \frac{US$90,000}{100} = US$900
Each course costs US$900 to provide.
The typical shape of the average cost curve is U-shaped, showing declining average costs with increased output until a minimum point is reached, after which costs may rise.
TOTAL REVENUE
Key Points:
Total Revenue (TR): Income received from sales, calculated as:
TR = Price \times Quantity
Example Calculation for Frampton Training with a course price of US$1,500 for 100 courses:
TR = US$1,500 \times 100 = US$150,000
Profit Calculation:
Profit = Total Revenue - Total Costs
Profit = US$150,000 - US$90,000 = US$60,000
If total revenue is lower than total costs, a loss occurs.
ACTIVITY 2: CASE STUDY - JENKINS LTD
Jenkins Ltd: Manufacturer of electronic systems for swing gates.
Selling price: £250 per unit
Sold 4,500 units in 2015.
Fixed costs: £160,000
Variable costs: £120 per unit
Questions:
Calculate total cost:
Total Cost = Fixed Costs + Variable Costs \times Quantity = £160,000 + (£120 \times 4,500)
Calculate total revenue:
Total Revenue = 4,500 \times £250
Calculate profit:
Profit = Total Revenue - Total Costs
2016 Adjustments:
If variable costs increase to £140 per system with sales of 5,200 units, calculate profit for 2016 using the same method.