Marginal revenue (MR) is the additional revenue generated by selling one more unit of a product or service. It is a crucial concept in microeconomics and business management, providing insights into the relationship between revenue and output.
Key Facts
- Definition: Marginal revenue (MR) is the additional revenue generated by selling one more unit of a product or service.
- Calculation: Marginal revenue can be calculated by dividing the change in total revenue by the change in quantity sold.
- Marginal Revenue Formula: MR = Change in Revenue / Change in Quantity.
- Example: Let’s consider a company that sells 100 items for a total of $1,000. If the company sells the 101st item for $8, the marginal revenue of the 101st item would be $8.
- Relationship with Marginal Cost: Marginal revenue is closely related to marginal cost (MC). When marginal revenue is greater than marginal cost, producing or selling more units is profitable. However, when marginal revenue is less than marginal cost, it may not be economically viable to produce or sell additional units.
- Profit Maximization: Businesses aim to maximize profit by producing output until marginal revenue equals marginal cost. Beyond this point, producing or selling more units would not result in additional profit.
- Market Types: Marginal revenue behaves differently in different market types. In perfectly competitive markets, marginal revenue equals the product price at all output levels. However, in monopolistic, monopoly, and oligopoly markets, marginal revenue may decrease with increased production, requiring price reductions to stimulate additional sales.
Calculation
Marginal revenue can be calculated using the following formula:
Marginal Revenue (MR) = Change in Total Revenue / Change in Quantity Sold
This formula measures the revenue increment resulting from selling an additional unit.
Example
Consider a company that sells 100 items for a total of $1,000. If the company sells the 101st item for $8, the marginal revenue of the 101st item would be $8. This represents the additional revenue generated by selling one more unit.
Relationship with Marginal Cost
Marginal revenue is closely related to marginal cost (MC), which is the additional cost incurred by producing one more unit. When marginal revenue is greater than marginal cost, producing or selling more units is profitable. However, when marginal revenue is less than marginal cost, it may not be economically viable to produce or sell additional units.
Profit Maximization
Businesses aim to maximize profit by producing output until marginal revenue equals marginal cost. Beyond this point, producing or selling more units would not result in additional profit. This principle is known as the “marginal revenue equals marginal cost” rule.
Market Types
Marginal revenue behaves differently in different market types. In perfectly competitive markets, marginal revenue equals the product price at all output levels. However, in monopolistic, monopoly, and oligopoly markets, marginal revenue may decrease with increased production, requiring price reductions to stimulate additional sales.
Conclusion
Marginal revenue is a key metric in business decision-making, providing valuable insights into the relationship between revenue, output, and profit. By understanding marginal revenue, businesses can optimize their production and pricing strategies to maximize profitability.
References
- Marginal Revenue Explained, With Formula and Example (https://www.investopedia.com/terms/m/marginal-revenue-mr.asp)
- How to calculate marginal revenue & maximize your profits (+ formula) (https://www.paddle.com/resources/marginal-revenue)
- Marginal Revenue: What It Is & How to Calculate It? (https://www.freshbooks.com/hub/accounting/marginal-revenue)
FAQs
What is marginal revenue?
Marginal revenue (MR) is the additional revenue generated by selling one more unit of a product or service. It measures the change in total revenue resulting from a one-unit increase in quantity sold.
How do you calculate marginal revenue?
Marginal revenue can be calculated using the following formula:
Marginal Revenue (MR) = Change in Total Revenue / Change in Quantity Sold
What is the relationship between marginal revenue and marginal cost?
Marginal revenue and marginal cost are closely related. When marginal revenue is greater than marginal cost, producing or selling more units is profitable. However, when marginal revenue is less than marginal cost, it may not be economically viable to produce or sell additional units.
How does marginal revenue affect profit maximization?
Businesses aim to maximize profit by producing output until marginal revenue equals marginal cost. Beyond this point, producing or selling more units would not result in additional profit. This principle is known as the “marginal revenue equals marginal cost” rule.
How does marginal revenue behave in different market types?
Marginal revenue behaves differently in different market types. In perfectly competitive markets, marginal revenue equals the product price at all output levels. However, in monopolistic, monopoly, and oligopoly markets, marginal revenue may decrease with increased production, requiring price reductions to stimulate additional sales.
How can businesses use marginal revenue to make better decisions?
By understanding marginal revenue, businesses can optimize their production and pricing strategies to maximize profitability. Marginal revenue analysis helps businesses determine the optimal quantity to produce and sell, set prices that maximize revenue, and make informed decisions about product mix and marketing strategies.
What are some examples of marginal revenue in real-world scenarios?
Consider a company that sells handmade jewelry. If the company sells one more necklace for $20, the marginal revenue is $20. In another example, a software company offers a subscription service. If one more customer signs up for the service, generating $10 monthly revenue, the marginal revenue is $10.
Why is marginal revenue important for businesses to understand?
Understanding marginal revenue is crucial for businesses because it provides valuable insights into the relationship between revenue, output, and profit. By analyzing marginal revenue, businesses can make informed decisions about production levels, pricing, and marketing strategies to optimize profitability and achieve long-term success.