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Distribution Theory - Profit

The document discusses the concepts of profit, gross profit, net profit, accounting profit, and economic profit. It states that gross profit is the surplus a firm earns after deducting total costs from total revenue. Net profit rewards the entrepreneur for organizing the business and undertaking risk. The document also distinguishes between accounting profit, which ignores implicit costs, and economic profit, which includes both explicit and implicit costs. Finally, it discusses the types of risks businesses face, distinguishing between insurable risks that can be calculated, and non-insurable risks that cannot be insured against.

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196 views16 pages

Distribution Theory - Profit

The document discusses the concepts of profit, gross profit, net profit, accounting profit, and economic profit. It states that gross profit is the surplus a firm earns after deducting total costs from total revenue. Net profit rewards the entrepreneur for organizing the business and undertaking risk. The document also distinguishes between accounting profit, which ignores implicit costs, and economic profit, which includes both explicit and implicit costs. Finally, it discusses the types of risks businesses face, distinguishing between insurable risks that can be calculated, and non-insurable risks that cannot be insured against.

Uploaded by

sangeetagoele
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Distribution Theory:

Profit

Dr. Sangeeta
Assistant Professor (Management)
Maharaja Agrasen University, Bddi
Profit
Profit acts as an incentive mechanism for
business investment. Higher profits
provide incentives for business growth.
Profit also acts as an automatic signal for
the allocation and reallocation of scarce
resources.
Concept of Profit:
Gross profit is the surplus which accrues to a firm when it deducts its total costs in
producing products from its total income received from the sale of goods. In producing
goods, a firm incurs explicit costs and implicit costs. In the ordinary language, the term
profit is used in the sense of gross profit. The main elements of gross profit of a firm are
as under:
•Elements and Example of Gross Profit:
•(i) Explicit costs: A firm's explicit costs are the actual cash payments it makes to those
who provide resources. For example, rent is paid on land hired, wages are paid to the
employees, interest is paid on capita!. In addition to this, a firm also pays insurance
premium, and taxes and sets aside depreciation charges.
•(ii) Implicit costs: Implicit costs are the opportunity costs of using resources owned by
the firm or provided by the firm's owners.
Concept of Profit:
•Net profit is the profit which accrues to an entrepreneur for
his functions as an entrepreneur. These functions include risk
bearing ability, innovating spirit, bargaining ability etc. Net
profit is the reward of an entrepreneur for (i) organizing a
business and undertaking risk (ii) his bargaining ability with
the customers (iii) adopting new techniques of production (iv)
monopoly gains if any (v) windfall gains due to sudden rise in
the prices of goods.
•Net Profit = Total Revenue - (Total Explicit Costs + Total
Implicit Costs)
Accounting & Economic Profit
•Accounting Profit = Total Revenue - Explicit Costs
• Economic profit is different from accounting profit.
Accounting profit ignores the opportunity cost of the firm's
own resources used in the production of goods. The economist
include these costs named as implicit costs while determining
the total cost of production.
•"If a firm's total revenue exceeds all its economic costs both
explicit and Implicit, the residual which goes to the
entrepreneur is called an economic or pure profit".
•
Criticism:
1. It ignores the element of uncertainty.
2. In addition to innovations, there are many other
factors which give rise to profits.
3. In modern enterprises, it is the enterpreneur who
bears the risk, not the capitalist as Professor
Schumpeter believes.
Types of Risk
Insurable Risks
Certain risks are measurable or calculable. Some of the examples of these
risks are the risk of fire, theft and natural disasters. Hence, they are
insurable.

Non-Insurable Risks
There are some risks which are immeasurable or incalculable.Some of the
examples of these risks are competition, market condition, technology
change and public policy. No Insurance Company can undertake these
risks. Hence, they are non-insurable.

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