Revenue

Revenue

Revenue is the amount of money a firm receives from the product it has sold. There are three types of revenue, namely total revenue, average revenue and marginal revenue.


Figure 1:  Revenue types in a perfect market

Revenue types in a perfect market


Table 1: Numerical example of revenue types in a  perfectly competitive market

QuantityPrice ($)Total Revenue ($)Average Revenue ($)Marginal Revenue ($)
1202020
220402020
320602020
420802020
5201002020

 

Total revenue
This is the amount received by a firm from the quantity of the product sold. Multiplying the quantity sold by the price charged for each unit gives the total revenue. The total revenue from selling 1 unit is  $20 (1 times $20) in Table 2 above.

The total revenue curve slopes upwards in a perfectly competitive market in which the price remains unchanged (Figure 1 above). However, the total revenue rises first and then falls in an imperfect market since a firm has the opportunity to continue to lower its price in order to induce more consumers to buy (Figure 2 below).


Table 2: Numerical example of revenue types in an  imperfect market

QuantityPrice ($)Total Revenue ($)Average Revenue ($)Marginal Revenue ($)
1101010
281686
372175
44164-5
52102-6

 

Average revenue
Average revenue is the amount received from the sale of one unit of a product. It can be obtained by dividing the total revenue by the number of units sold. Average revenue will be equal to price in a perfectly competitive industry because every unit is sold at the same price (Table 1 above). The average revenue curve, therefore, will be a horizontal line (Figure 1 above). The average revenue curve in a non-competitive market slopes downwards since prices are not the same for all the units sold (Figure 2 below).

The average revenue curve is the demand curve because it graphically represents the average price and the quantity sold. The demand curve shows the relationship between price and quantity.


Figure 2:  Revenue types in an imperfect market

Revenue types in an imperfect market


Marginal revenue

The change in total revenue as a result of selling one more unit of the product is known as marginal revenue. When a change in total revenue is divided by a change in the quantity sold, we arrive at the marginal revenue. The marginal revenue for the 2nd unit in Table 2 is 6 (16-10/2-1). The marginal revenue curve is the same as the average revenue curve and the price in a competitive market since every extra unit of the product is sold at the fixed price ( Figure 1 above). However, it is a downward sloping line in a non-competitive market (Figure 2 above). 


Relationship between the marginal revenue and total revenue in an imperfect market

As more units are sold total revenue rises first, then it will get to a maximum point where marginal revenue is zero. If more units are sold after this point, marginal revenue will be negative and total revenue will start to decline (Figure 2 above).


Total revenue and the price elasticity of demand

Price elasticity of demand helps to measure by how much quantity demanded changes in response to a change in price. If a fall in price leads to a greater percentage rise in quantity, demand is said to be elastic. A fall in price will cause the quantity demanded to increase by a smaller percentage if a product has an inelastic demand. Unitary elasticity is one in which the change in price is equal to the change in quantity demanded. 

If demand is elastic, total sales revenue will rise because quantity sold increases faster than a price reduction. The portion of the average revenue curve where total revenue is rising has an elastic demand (Figure 2 above). If demand is inelastic,  total revenue falls as quantity rises at a lesser percentage than price fall. The portion of the average revenue curve where the total revenue is decreasing has an inelastic demand. Demand is unitary at the point where total revenue is at its peak and marginal revenue is zero (Figure 2 above).