Economies and Diseconomies of Scales
Economies of Scale Economies of scale refer to the cost advantage brought about by an increase in the output of a product. Economies of scale arise due to the inverse relationship between the per-unit fixed cost and the quantity produced…
Break-even and Shut-down Points of Production
Break-even Point of Production The break-even point can be defined as the production and sales levels of a given product at which the revenue generated from the sales is perfectly equal to the production cost. At this point, the company…
Law of Diminishing Marginal Returns
The law of diminishing marginal returns states that the marginal return from an increased input, say labor, will decrease when this input is added continually to a fixed capital base. Example: Law of Diminishing Marginal Returns A good example is…
Normal and Inferior Goods
Normal Goods Normal goods are goods whose demand increases with an increase in consumers’ income. Note that the rate at which demand increases is lower than the rate at which income increases. The rate eventually slows down with further increments…
Income and Substitution Effects
Substitution Effect A substitute is a good that satisfies the same need as another good, e.g., broccoli and cauliflower. The substitution effect states that a good becomes more of a bargain relative to other goods as its price declines; therefore,…
Income Elasticity, Price Elasticity, and Cross Elasticity
Elasticity measures the sensitivity or responsiveness of one variable to another. There are three main forms of elasticity – price elasticity, income elasticity, and cross-price elasticity. Price Elasticity Price elasticity of demand is a measure of how a product’s demand…
Operating, Business, Sales, and Financial Risks
Risk can be defined in several ways. However, one fairly simple definition is that “risk refers to the uncertainty of a return and the potential for financial loss.” Risk can arise from financing and operating activities and can be classified…
Competing Stakeholder Interests
Shareholder vs. Stakeholder Theory Shareholder theory posits that the most important responsibility of a company’s managers is to maximize shareholder returns. Stakeholder theory, on the other hand, emphasizes the need for a company to consider the needs of all its…
Factors Affecting Capital Structure Decisions
The ideal capital structure is a mix of stock and debt that reduces the firm’s weighted average cost of capital. The following factors affect the capital structure and the use of leverage by management: Capital Structure Policies and Target Capital…
Modigliani–Miller Propositions
A firm’s capital structure is the mix of debt and equity the company uses to finance its investments. A capital structure decision aims to determine the financial leverage that will maximize the company’s value by minimizing the weighted average cost of capital…
