In the supply and demand graph, the output of Q* is the intersection point of MR and MC. The firm produces at this output level can maximize profits. (MR=MC) When produced less than Output of equilibrium quantity (Q*), as the red part showed, MR is greater than MC. The firm produce extra output because the revenue of gaining is more than the cost to pay. So, total profit will increase. However, if the output level is greater than Q*, MR<MC as the blue part showed. The firm profit will decrease because the extra unit level increase the cost which is greater than the revenue. So, total profit will decrease.
The limitations of the concept of profit maximization are low, and any behavior will not only bring a certain level of profit. On the contrary, there can produce many different profit levels, and each profit level can happen.
Revenue is the amount of money that a company receives from its normal business activities, usually from the sale of goods and services (as opposed to monies from security sales such as equity shares or debt issuances).
In the accompanying diagram, the linear total revenue curve represents the case in which the firm is a perfect competitor in the goods market, and thus cannot set its own selling price. The profit-maximizing output level is represented as the one at which total revenue is the height of C and total cost is the height of B; the maximal profit is measured as the length of the segment CB. This output level is also the one at which the total profit curve is at its maximum.
A generic derivation of the profit maximisation level of output is given by the following steps. Firstly, suppose a representative firm i has perfect information about its profit, given by:
where TR denotes total revenue and TC denotes total costs. The above expression can be re-written as:
π_i=p_i q_i-c_i q_i where p denotes price (marginal revenue); q quantity; and c marginal cost. The firm maximises their profit with respect to quantity to yield the profit maximisation level of output:
As such, the profit maximisation level of output is marginal revenue p_i equating to marginal cost c_i.
In the real world, it is not easy to achieve profit maximization. The company must accurately know the marginal income and the marginal cost of the last commodity sold because of MR. The price elasticity of demand for goods depends on the response of other companies. When it is the only company raising prices, demand will be elastic. If one family raises prices and others follow, demand may be inelastic. However, companies can seek to maximize profits through estimation. When the price increase leads to a small decline in demand, the company can increase the price as much as possible before the demand becomes elastic. Generally, it is difficult to change the impact of the price according to the demand, because the demand may occur due to many other factors besides the price. Variety. The company may also have other goals and considerations. For example, companies may choose to earn less than the maximum profit in pursuit of higher market share. Because price increases maximize profits in the short term, they will attract more companies to enter the market. Habitually record and analyze the business costs of all your products/services sold. When you can know all the costs of each successful sale, accurate costs are conducive to profit analysis. However, there are many miscellaneous items in the cost including labor, materials, transportation, advertising, storage, etc. These miscellaneous items often become small expenses of the enterprise and are related to any goods or services sold.
Business intelligence tools may be needed to integrate all financial information to record expense reports so that the business can clearly understand all costs related to operations and their accuracy Check monthly or quarterly, write down any changes and their reasons, or if possible, record problems and vulnerabilities for improvement. This information can help you improve business optimization and thereby increase profits. Forecasting demand to optimize sales, many large companies will minimize costs by shifting production to foreign locations with cheap labor (e.g. NIKE). However, moving the production line to a foreign location may cause unnecessary transportation costs. On the other hand, close market locations for producing and selling products can improve demand optimization, but when the production cost is much higher, it is not a good choice. Carry out operation management forecasts and use sales data to predict demand increase, stagnation or decline, in order to increase or decrease the production of a specific product series. Use standardized demand optimization functions to enhance the demand planning process to determine the direction of the organization's needs to maximize profits. Planning and actual execution, when implementing a "what if" solution to help you in the sales and operation planning process, you need to be familiar with the company's operations, including the supply chain, inventory management and sales process. Use constraints to prevent corporate plans from becoming unfeasible. Use the above information to better predict possible solutions for financial and supply chain management plans.Marginal product of labor, marginal revenue product of labor, and profit maximization
Oftentimes, businesses will attempt to maximize their profits even though their optimization strategy typically leads to a sub-optimal quantity of goods produced for the consumers. When deciding a given quantity to produce, a firm will often try to maximize its own producer surplus, at the expense of decreasing the overall social surplus. As a result of this decrease in social surplus, consumer surplus is also minimized, as compared to if the firm did not elect to maximize their own producer surplus.