What is marginal revenue?   

Marginal revenue is generated by selling one additional unit of a product or service. It is the difference between the revenue generated by the sale of an additional unit and the revenue generated by the sale of the previous unit. In other words, marginal revenue is the change in total revenue that occurs because of producing one more output unit. 

To calculate marginal revenue, you need to know the total revenue generated by a certain number of units and the total revenue generated by selling one more unit.  

How to calculate marginal revenue  

Marginal revenue refers to the additional revenue generated by selling one more unit of a product or service. It is calculated by dividing the change in total revenue by the change in the quantity sold.   

Here are the steps to calculate marginal revenue:  

Determine the total revenue

To calculate marginal revenue, you need to know the total revenue earned by the company. This is calculated by multiplying the price of each unit by the quantity sold. Suppose a company sells 100 units of a product at $10 each, the total revenue would be 100 x $10 = $1,000.  

Calculate the revenue from selling one additional unit

To calculate the marginal revenue, you need to know how much additional revenue is earned by selling one more product unit. This is calculated by finding the revenue earned from selling n+1 units and subtracting the revenue earned from selling n units. For example, if the company sells 100 units of a product at $10 each and then sells 101 units at $9 each, the revenue from selling the 101st unit would be $9, and the revenue from selling the first 100 units would be $1,000. Therefore, the marginal revenue for selling the 101st unit would be $9 – $10 = -$1.  

Interpret the marginal revenue

If the marginal revenue is positive, selling one more unit will increase total revenue. If it is negative, selling one more unit will decrease total revenue. If the marginal revenue is zero, the company sells the optimal quantity where the revenue is maximized.  

For example, a company sells widgets for $5 each. If they sell 100 widgets, they earn $500 in total revenue. If they sell 101 widgets, they earn $505 in total revenue. The marginal revenue for selling the 101st widget would be:  

($505 – $500) / (101 – 100) = $5  

Since the marginal revenue is positive, the company can increase its total revenue by selling one more widget.  

What is the marginal revenue curve?  

The marginal revenue curve represents a company’s total revenue change from selling one additional product unit. In other words, it shows the additional revenue generated when a company sells one more unit of a product.  

Marginal revenue is closely related to the marginal cost, which is the cost incurred by a company to produce one more product unit. To maximize profits, a company must produce at a level where marginal revenue equals marginal cost.  

The marginal revenue curve is sloping downward because as a company produces more units, it needs to lower the product’s price to sell the additional units. Each additional unit sold generates less revenue than the last, diminishing marginal revenue.  

Why is marginal revenue important?  

Marginal revenue (MR) is the revenue earned from selling one additional product unit. It is calculated by dividing the total revenue change by the quantity sold. Marginal revenue is important for businesses because it helps them determine the optimal price and quantity of goods to produce and sell.  

Marginal revenue is especially important in competitive markets where businesses have little control over the price of their products. In these markets, businesses need to set their prices based on the market price, and their profit margins are largely determined by their ability to produce goods efficiently. In such markets, understanding marginal revenue helps businesses determine their optimal output level, which maximizes their profit.  

Moreover, marginal revenue can help businesses decide whether to expand or reduce production. Expanding production is profitable if marginal revenue is greater than marginal cost. Conversely, if marginal revenue is less than marginal cost, reducing production is better.  

Marginal revenue vs. marginal cost  

Marginal revenue (MR) and marginal cost (MC) are important economic concepts. Understanding the relationship between the two is crucial for businesses to make informed decisions about pricing and production.  

Marginal revenue is the revenue earned from selling one additional product unit. In comparison, marginal cost is the cost of producing one additional product unit. If marginal revenue exceeds marginal cost, the business should produce more units to increase profit. If the marginal cost exceeds marginal revenue, the business should produce fewer units to reduce costs and increase profits.  

However, in real-world situations, it can be difficult to determine marginal costs accurately, and businesses may have to estimate it based on historical data and other factors. This can lead to errors in decision-making and suboptimal outcomes. Therefore, it is important for businesses to continuously monitor their costs and revenues to ensure that they are making the most profitable decisions.  

Conclusion

In conclusion, understanding marginal revenue is essential for businesses to make informed decisions about pricing and production levels. Companies can determine the optimal price point for their products and services by calculating marginal revenue and making strategic decisions about expanding or reducing production. Marginal revenue analysis can also provide valuable insights into consumer behavior and market trends, helping businesses stay competitive and profitable. 

Also Read: Why Revenue And Profit Aren’t The Same: A Comprehensive Guide

Farwah Jafri

Farwah Jafri is a financial management expert and Product Owner at Monily, where she leads financial services for small and medium businesses. With over a decade of experience, including a directorial role at Arthur Lawrence UK Ltd., she specializes in bookkeeping, payroll, and financial analytics. Farwah holds an MBA from Alliance Manchester Business School and a BS in Computer Software Engineering. Based in Houston, Texas, she is dedicated to helping businesses better their financial operations.