Marginal revenue is an increase in income resulting from the sale of an additional unit of product. The marginal increase equation is a division of the change in total revenue by change in the total quantity of units produced and sold. It is actively used for determining product pricing, scheduling production processes, and customer demand analysis.
Explanation:
This financial indicator is very useful because often when a company produces more goods, demand for them decreases, and the revenue for each new unit may decrease in its turn. Thus, companies may decide to raise or lower the price of a product, and may also change some production and manufacturing processes depending on the situation.
For example, there is a company that creates high-tech computers. The first 50 computers the company managed to sell for $500,000 and all the computers were equally priced. At this stage, the marginal revenue would be $10,000.
However, if the next computer is sold for $9,500, its margin income will be exactly $9,500, regardless of the previous average price, as this financial indicator takes into account only incremental changes. The change of this indicator will allow the company to analyze pricing policy, production schedule, and other business decisions.
In economics, it is presumed that the company aims to increase its income. For this purpose, they can use the marginal revenue and marginal cost indicators. According to microeconomic theory, in order to maximize profits, producers should expand or reduce production until the marginal revenue is equal to the marginal cost.
Marginal cost is an extra cost for the production of an additional unit of product. These calculations allow the company to find out what maximum quantity of the product they can produce for sale on the market without incurring a loss.