What Is Total Revenue-Total Cost Approach?

According to finance author and expert Tiffany C. Wright for AZ Central, total revenue-total cost is an accounting method often used by companies to maximize profits. This method assumes perfect competitive conditions and comprises all costs, including production and accounting-recognized costs.

Wright explains that to calculate total revenue-total cost, a business takes profit as total revenue and subtracts total costs at each output level. Output, in this case, is the quantity of goods produced. Economists articulate the calculations by creating two different graphs. A demand and revenue graph demonstrates the relationship between total revenue and price and quantity increases. On the same graph, a cost curve is added to demonstrate the relationship between cost and quantity. Initially, costs per item produced decrease when the quantity increases and over time, price per item begins to increase as well.

Profits are maximized when total revenues are greater than total costs. A company records a loss when total costs are greater than total revenue. A company can anticipate whether profits will be maximized or lost. The point of profit maximization is identified on a graph at the point where the total revenue line and the cost curve meet. The highest level of intersection indicates the point at which the highest profits are achieved, notes Wright.