Profitability

PROFIT

TYPES OF PROFIT:

Accounting Profit
-is simply total revenue - total costs.  Accountants only count direct or explicit costs like rent, wages, capital purchase, and depreciation. 

Economic Profit:includes all of the accounting costs listed above PLUS the implicit or opportunity cost of time and money on the next best alternative. 

Normal profit:  A normal profit is equal to 0 economic profit.  It is equal to the opportunity cost of the alternative choice and includes revenue that is equal to economic costs.





Accounting vs. Economic Costs



 




PROFIT MAXIMIZATION:  MR=MC

To figure out optimal output look for the maximum output where MR is as close to MC as possible.  This is true for ALL market structures.

Order of operation:

1.  MR=MC
2.  The level of output where MR=MC
3.  The price at the MR=MC output compared to the ATC
        a.  If P>ATC--Economic Profit
        b.  If P=ATC--Normal Profit
        c.  If P < ATC but greater than AVC--Loss Minimizing
        d.  If P < AVC the firm will shut down



MR=MC--Profit Maximization


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