This document provides an overview of business concepts including: - The main reasons people start businesses are to make a profit and there are different types of business ownership structures like proprietorships, partnerships, and corporations. - Corporations are created to raise capital, limit liability, and expand operations. - Businesses must manage costs like fixed costs, variable costs, and total costs to earn a profit since profit is revenue minus costs. - Understanding costs, revenues, and factors like economies and diseconomies of scale is essential for business success.

1. Business Unit
Economics

2. Why go into a business?
• In economics, we assume the profit motive.
People generally go into business to make a
profit.
• There are additional reasons, including social
activism, but for now we are focused on the
profit motive.

3. Types of Businesses
Proprietorship Partnership Corporation Franchise
Ownership and
Control
1 owner (full
control)
2 or more
owners (Shared
Control)
Many owners
and owners
can have
limited control
Central
company plus
multiple
franchise
owners
Formation and
paper work
required
Easy, less
paperwork
Relatively Easy,
some
paperwork
Difficult, a lot
of paperwork
Built-in
reputation and
structure,
some paper
work
Resources Limited access More access Better access
through shared
sales
Franchises
independently
owned
Oversight Virtually none Some Lots of
oversight,
double taxation
High fees and
strict rules
Liability 100% unlimited
personal
liability
100% unlimited
liability
Limited
personal
liability
Can either be
corporate or
not

4. Why Create a Corporation?
• Corporations are harder to manage, have
more government regulations and reporting
requirements and are costly to start-up.
• So why create a corporation?
– To raise capital for expanding or improving the
company
– To limit liability

5. In business, costs matter
• Businesses must manage themselves well in
order to make a profit. One of the primary ways
they do this is to manage their costs.
• Costs are what a business needs to spend in
order to acquire what they need to run the
business.
• The lower the costs relative to your revenue, the
greater the profit you earn. You gain revenue
through sales.
• Remember that businesses are started primary to
make profit.

6. Understanding your supply curve
• You, as a business owner, need to think
about when you will enter the market.
• That is, at what price will you begin to sell
your goods and services?
• Why? Because if it costs you too much to
produce it, and you were to sell it at too
low a price, you will lose money.
• We all want to sell at a high price, but if it
is too high, customers will go in search of a
lower priced alternative.

7. Production Costs
• The amount paid by the
Producer/Supplier to make products,
bring them to the market and sell them
to buyers.
• Production costs include the acquiring of
raw materials, hiring workers and
purchasing of equipment and tools (the
factors of production).
• It also includes things like marketing,
distribution, management costs, etc.

8. Total Costs
• Total Costs = Fixed Costs + Variable Costs

9. Fixed Costs
• Costs that do not change as a result of a change
in the quantity produced.
• If you produce one or a million units, you still pay
the same fixed costs.
• Fixed costs can change, but not as a result of an
increase or decrease in production, it changes as
a result of the some outside reason.
– Your landlord increases your rent so he can pay his
bills is an example of how fixed costs can be raised,
but not as a result of how well your business is
doing.

10. Fixed Costs Graph
• Notice how the
graph shows
Fixed costs not
changing at
all, whether
you sell zero,
some or all of
your products.

11. “Sunk” Costs
• Another way to think about this is these costs are
usually paid up front and are “sunk”.
• You don’t actually sell these things but they do
help you sell what you are producing.
• For example: the land your business sits on is a
fixed cost. You aren’t going to sell the land to
any one, but you certainly need to place your
business there to help you sell your product.

12. Variable Costs
• Costs that do change as a result of a change in
production.
• As you sell more, your variable costs increase.
• As you sell less, your variable costs decrease.
• Variable costs can change for other reasons as well,
say for example the coffee crop was decimated by
a hurricane, this will cause those costs to rise,
regardless of how many cups of coffee you sell.

13. Variable Costs Graph • Notice
how the
costs rise
as the
number of
products
you sell,
and
therefore
need to
replace,
increases
as well.

14. Variable Costs = Sales costs
• Variable costs are directly related to what
you sell.
• Variable costs are proportional to the amount
of business you do. The more sales, the more
costs and vice versa.
• Variable costs can also be thought of as total
marginal costs. (Add up all of the increments
together)

15. So,
• Total Costs = Fixed Costs + Variable Costs
• TC=FC+VC
• Understanding total costs are important since
you need to know how much money you need to
spend to keep your business going.

16. Total Costs Curve
• Notice
how the
Total
Costs
curve is
the same
as the
Variable
Costs
curve,
just
shifted by
the
amount
of the
Fixed
Costs.

17. In Summary:
• Fixed Costs are Overhead or Sunk
Costs
• Variable Costs are Sales Costs or
the cost of replaceables

18. High Variable Cost Businesses
• High Variable Cost businesses mean that you
typically have a lot of products being sold and
you need to replace those often.
• Examples include department stores, restaurants,
and businesses that fill niche markets.
• The problem with these businesses is that you
have to be good at knowing what your customers
want and being able to manage inventory and
costs well.
• The advantage is that these businesses are easier
to start and are less risky.

19. High Fixed-Cost Businesses
• A high fixed-cost business is one that is difficult
to get started given the high start-up costs, but
can be great in the long run as you have little to
worry about with regards to variable costs.
• Examples include parking lots, utility
companies, recycling centers and some online
companies.
• However, high fixed cost businesses are very
risky because if the business isn’t successful, you
stand to lose more money.
• A company called WebVan, which delivered
groceries from online ordering, spent too much
money on infrastructure and never generated
enough sales to pay off those fixed costs.

20. Comparing the two types:
High Fixed Cost
• Harder to get started
• Higher upfront costs
• Better long-term
profits
• Easier to manage day-
to-day
High Variable Cost
• Easier to get started
• Lower up front costs
• Long-term profits
more in doubt
• Harder to manage
day-to-day
Not all businesses are high fixed or variable
costs, some are more balanced between fixed
and variable costs.

21. Revenue
• Revenue is the money earned from the sale of
your products.
• Revenue is equal to Price times Quantity sold.
• R = P x Q
• This is why revenue is 0 when the price is too
low (at 0$) and too high (where no one wants
buy).

22. Revenue Curve
• Remember
that at a
certain
point, your
prices
become to
high and
therefore
fewer
people will
buy,
leading to
less
revenue.

23. Selling equal revenue
• So, typically the more you sell (Q) the
more money you make.
• The money you make is called
revenue.
• The more revenue you have, the
more likely you are to be successful
in business.

24. Revenue does not always equal profit
• High revenue can still lead to economic
losses if your production costs are too
high.
• So the key isn’t just high revenues . . .
• It is also low costs!
• Low costs plus high revenues lead to
economic profits.

25. Economics of Scale
• Economics of Scale means that you are more efficient
because of large size.
– Mass production = more efficient because the
way/method of production is faster and cheaper per item.
– Scaled companies are able to utilize Quantity to lower
costs and increase their profits
– However, often Quality is sacrificed in the process
• The large size creates a form of protection known as
“Barrier to Entry” which is that the costs to scale up to
a large company is often so prohibitive that it limits the
number of businesses able to do so.
– Risky, and high up-front costs involved in scaling

26. Diseconomies of Scale
• The Opposite of Economies of Scale: where firms
see increasing costs per unit as a result of
increasing size.
• Typically things like mismanagement,
maintenance issues, etc, create increasing costs.

27. Diminishing returns
• Too many cooks in the kitchen spoil the soup
. . .
• It is the decrease in the marginal output as
the amount of a single factor of production
is increased, while others remain the same.