Marginal Revenue (MR)

Definition

Marginal Revenue (MR) refers to the additional income generated from selling one more unit of a product or service. It is an important concept in microeconomics, as it helps businesses optimize production levels and determine pricing strategies. To calculate MR, one must measure the change in total revenue resulting from the sale of an additional unit, essentially finding the slope of the revenue curve.

Phonetic

The phonetics for the keyword “Marginal Revenue (MR)” is:- Marginal: [mahr-juh-nl]- Revenue: [rev-uh-nyoo]- (MR): [em ar]

Key Takeaways

1. Definition: Marginal Revenue (MR) is the additional revenue generated by selling one more unit of a product or service.
2. Relationship with Demand: MR is derived from the demand curve. It shows how much additional revenue is generated by selling more units and is affected by the law of diminishing returns, meaning as more units are sold, the additional revenue generated from each sale tends to decline.
3. Role in Profit Maximization: To maximize profits, firms should produce goods or services until MR equals Marginal Cost (MC). This is because, at this point, the cost of producing an additional unit is just equal to the revenue generated by selling that unit, and any further production would result in lower profits.

Importance

Marginal Revenue (MR) is an essential concept in business and finance as it represents the additional revenue generated from selling one more unit of a product or service. This information is vital for decision-making processes concerning production and pricing strategies, as it indicates a firm’s profit maximization point. By comparing MR with the corresponding marginal cost (MC), a company can find the optimal production level where profits are maximized. When MR exceeds MC, it is profitable for the business to increase production, whereas if MR is lower than MC, the company should decrease production to avoid losses. Therefore, analyzing marginal revenue helps businesses efficiently allocate resources and optimize their pricing strategies to maximize profitability.

Explanation

In the world of finance and business, Marginal Revenue (MR) serves as an essential tool that aids decision-makers in maximizing profits and optimizing production levels. The purpose of MR lies in its ability to inform businesses about the additional revenue generated from selling one more unit of a product or service. In other words, it helps organizations determine the financial impact of increasing output incrementally. As businesses commonly pursue profit maximization, knowing the value of Marginal Revenue helps them make critical production decisions, ensuring a balance between the production costs and the revenue generated, while avoiding any potential financial missteps. MR is predominantly used in the context of price-setting strategies and identifying the optimal quantity of production, proving beneficial to the competitive landscape of industries. When a company observes a decline in its Marginal Revenue, it signals that the business may have reached a point of saturation and that expanding output beyond that level could potentially result in diminishing financial returns or even losses. On the other hand, an increase in MR indicates that there is still room for growth and further profitability. Moreover, Marginal Revenue analysis can also be applied in tandem with marginal cost data to establish the most efficient production level, where the balance between the two optimizes a firm’s profit-making capacity. Ultimately, MR serves as an invaluable metric, providing insights that drive strategic, data-driven decisions in the intricate world of finance and business.

Examples

Example 1: Smartphone Manufacturing Company – A smartphone manufacturing company currently sells 1000 units of their latest model at a price of $600 per unit, generating a total revenue of $600,000. They decide to increase production and lower the price to $590. The new strategy results in sales of 1050 units, resulting in a total revenue of $619,500. The marginal revenue (MR) from selling 50 additional smartphones is: MR = (New Total Revenue – Old Total Revenue) / Change in Quantity SoldMR = ($619,500 – $600,000) / (1050 – 1000)MR = $19,500 / 50MR = $390 Example 2: Coffee Shop – A coffee shop owner sells 200 cups of coffee per day at a price of $4 per cup, generating a daily revenue of $800. They decide to offer a new promotion and lower the price of coffee to $3.50 per cup. As a result, they now sell 250 cups a day, bringing the daily revenue to $875. The marginal revenue (MR) from selling 50 additional cups per day is: MR = (New Total Revenue – Old Total Revenue)/ Change in Quantity SoldMR = ($875 – $800) / (250 – 200)MR = $75 / 50MR = $1.50 Example 3: Subscription-based Software Service – A software company offers a subscription service with a monthly fee of $50, and currently has 500 subscribers, generating a monthly revenue of $25,000. They decide to increase their market share by reducing the price to $45 per month. As a result, they attract 650 subscribers, generating a new monthly revenue of $29,250. The marginal revenue (MR) from acquiring 150 new subscribers is: MR = (New Total Revenue – Old Total Revenue) / Change in Quantity SoldMR = ($29,250 – $25,000) / (650 – 500)MR = $4,250 / 150 MR = $28.33

Frequently Asked Questions(FAQ)

Related Finance Terms

• Total Revenue (TR)
• Marginal Cost (MC)
• Price Elasticity of Demand
• Profit Maximization
• Average Revenue (AR)

Sources for More Information

• Investopedia
• FreshBooks
• Wikipedia
• Corporate Finance Insitute