Business Economics

Case Study: “The Early Bird – Electric Power Load Dispatching”

Group Members:
1. Suman Mondal,27A
2. Kumar Sachin 19A
3. Mohd Faiz 32A
4. Sahil Jain 25A

Q. How are marginal cost functions of Southern company used for

taking Buy or Sell decisions? Explain the necessary conditions of the
marginal cost functions at plant level.

Ans. Marginal cost is the change in Total cost associated with an additional unit
produced.

Marginal cost is an important element in making business decisions i.e.

Production decision, Profit Maximization

Southern company uses “Early Bird” system which gives an automated and
computerized control of power production and transmission. It calculates the
marginal cost of generating additional kilowatts of electricity to its customers.

Observations from “The Early Bird” case

1. Each Power generating unit has different operating efficiency and hence
different production Function i.e. Varying Average cost (ATC).
2. Hence every unit has varying Marginal Cost (MC) as Variable input i.e. fuel,
labor, etc quantities and cost vary for each unit.
3. The production function equation and the variable inputs information is
fed to the “Early Bird” system which calculates and keeps a track of the MC
for each unit on automated basis.
4. Transmission Loss occurs in the course of shipping due to various factors
like distance, varying load characteristics of the system and changes in
transmission grid.
5. As the demand picks up, Early bird system is programmed to compare the
marginal cost of generation at each unit on-line and then send impulses to
raise the electricity output of the unit where MC is lowest. Similarly when
demand starts to fall, the system send impulses to reduce the power
generation at those units where MC is highest.
6. The decision of choosing the generating unit is taken on the basis of the
Marginal Cost and the coefficients of transmission loss.
7. Southern Company also decides to “Buy” a block of electricity from
adjoining firms than to generate electricity if it is economical i.e. their
Marginal cost is lower than Southern company OR decides to “Sell” a block
of electricity to adjoining firms if Southern company Marginal Cost is lower
the other firms.

Analysis

1. Southern Company will continue to generate electricity as long as the Price

charged per kilowatt or Marginal Revenue is more than or equal to
Marginal cost plus the transmission losses. As soon as the Marginal cost
becomes greater than the Price charged per kilowatt or Marginal Revenue,
Southern company stops generating electricity itself and instead “Buy”
from adjoining firm with lesser Marginal Cost.
2. The “Buy” & “Sell” decision of Electricity is on the basis of below condition;
a. Price charged per kilowatt or Marginal Revenue > Marginal cost, then
Southern company will decide to “Sell” the block of electricity. And the
adjoining firm will “Buy” the block if their Marginal Cost is higher than
the Southern Company’s MC.
b. Price charged per kilowatt or Marginal Revenue < Marginal cost, then
Southern company will decide to “Buy” the block of electricity if the
Marginal Cost of the adjoining firm is less than the Marginal Cost of
Southern Company.

Necessary Conditions of Marginal Cost Functions at Plant Level

1. A plant must continue to produce as long as Marginal Revenue (MR) >

Marginal Cost (MC) to increase profits.
2. If a firm chooses to maximize its profits, it must choose that level of output
where Marginal Cost (MC) is equal to Marginal Revenue (MR) and the
Marginal Cost curve is rising. In other words, it must produce at a level
where MC = MR.
3. If Marginal Cost < Marginal Revenue< Average Cost then the plant should
focus on minimizing losses and continue operations until Marginal
Revenue> Average Variable Cost.