CHAPTER ONE: LINEAR EQUATIONS AND THEIR INTERPRETATIVE

APPLICATIONS IN BUSINESS

1.1 Introduction
Mathematics, old and newly created, coupled with innovative applications of the rapidly evolving
electronic computer and directed toward management problems, resulted in a new field of study called
quantitative methods, which has become part of the curriculum of colleges of business. The importance
of quantitative approaches to management problems is now widely accepted and a course in
mathematics, with management applications is included in the core of subjects studied by almost all
management students.

1.2 Linear Equations

Equation: - A mathematical statement which indicates two algebraic expressions are equal.
Example: Y = 2X + 3

Algebraic expressions: - A mathematical statement which indicates that numerical quantities

are linked by mathematical operations.
Example: X+2

Linear equations: - are equations with a variable & a constant with degree one.
Linear equation is an equation whose graphs form a straight line. It is also a linear function. A linear
equation’s main benefit is that it allows multiple correct answers, allowing those who solve problems
differently to arrive at a unique solution.
- Are equations whose terms (the parts separated by +, -, = signs)
- Are a constant, or a constant times one variable to the first power
Example: 2X – 3Y = 7
- the degree (the power) of the variables is 1
- the constant or the fixed value is 7
- the terms of the equation are 2X and 3Y separated by – sign
However 2X + 3XY = 7 isn’t a linear equation, because 3XY is a constant times the product of 2
variables.
* No X2 terms, No X/Y terms, and no XY terms are allowed.
- Linear equations are equations whose slope is constant throughout the line.

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 - The general notion of a linear equation is expressed in a form Y = mx + b where m = slope, b
= the Y- intercept, Y = dependent variable and X = independent variable.

If Y represents total cost, the cost is increased by the rate of the amount of the slope m.
ΔY rise ( fall ) Y − Y1
= = 2
Slope (m) = ΔX run X 2 − X 1 if X  X
1 2

Slope measures the steepness of a line. The larger the slope the more steep (steeper) the line is, both in
value and in absolute value.

Y Y m = undefined
+ive slope
m=0
-ve slope
X X

- A line that is parallel to the X-axis is the gentlest of all lines i.e. m = 0
- A line that is parallel to the Y-axis is the steepest of all lines i.e. m = undefined or infinite.

The slope of a line is defined as the change-taking place along the vertical axis relative to the
corresponding change taking place along the horizontal axis, or the change in the value of Y relative to a
one-unit change in the value of X.

1.2.1 Developing equation of a line

There are at least three ways of developing the equation of a line. These are:
1. The slope-intercept form
2. The slope-point form
3. Two-point form

1. The slope-intercept form

This way of developing the equation of a line involves the use of the slope & the intercept to formulate
the equation.

Often the slope & the Y-intercept for a specific linear function are obtained directly from the description
of the situation we wish to model.

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Example # 1

Given: Slope = 10
Y-intercept = +20, then
Slope-intercept form: the equation of a line with slope = m and Y-intercept b is:
Y = mx + b
Y = 10X + 20
Consider the following linear equation: y=1.25x +0.75, expressed the fare paid for taxi cab ride ,y, in
terms of x, the number of miles driven, and the constant 0.75 which is fixed charge. The fare paid for
one mile ride and five mile ride is given below.
y=1.25((1) +0.75 =2
y=1.25(5) +0.75 =7, giving rise to the two (x, y) points.
(1, 2) and (5, 7) now slope = Y2-Y1 = 7-2 = 5/4 = 1.25
X2-X1 5-1

EXERCISE
1. If y=0.8x +2 (a) write the coordinates of the points where x=o and x=5
(b) Compute the slope from the points found in (a)
Slope intercept form: if the equation the line is written in the form y=mx+b: m=slope and b is y-
intercept.
Example1: write 2y+3x=26
2y=-3x+26
Y=-3/2x+13, slope=m=-3/2 and y-intercept (at x=0)=13
Exercise
a. Write 3y-2x=24 in slope intercept form.
b. What is the slope of the line
c. What is y- intercept
d. What is x- intercept
e. Write the coordinates of the points found in C and d
Example2: it costs the company $2,500 to setup the presses and the machinery needed to print and bind
a book. After setup, it costs $2per book printed. Let x represents the number of books made and y the
total cost of making this number of books.
a. Write the equation for y in terms of x
b. State the slope of line and interpret this number
c. State the y intercept of the line and interpret this number
Solution: (a) y=2x+2500
(b) Slope=2, $2 print. $2 cost will be incurred for one extra book prints
(c) y-intercept (at x=0) =2500: $2,500 cost will be incurred even at zero books.

Linear equation in a form as ax +cy =d where a, c, d are constant are naturally in many applications.

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 Example: suppose we have $31.5 to spend on pork and chicken. If we buy p pounds of pork as $2.25
per pound and c pounds of chicken as $1.8 per pound, our expenditure would be 2.25p+1.8c dollars
must equal $31.5
2.25p+1.8c=31.5
P=1.8c/2.25+31.5/2.25
P=-0.8c+14
The intercept tell us that we can buy 14 pounds of pork if we buy no chicken. The slope,-0.8, means that
if we increase our purchase of chicken by one pound, we must decrease purchase of pork by 0.8 pounds.
Thus, the substitution rate is 0.8 pounds of pork per pounds of chicken.
The above equation for c in terms of p in slope intercept form and the slope is given below.
C = -2.25/1.8 +31.5/1.8
C = -1.25p + 17.5
If we buy no pork, we can buy 17.5 pounds of chicken. The substitution rate is1.25 pounds of chicken
for one pounds of pork.

EXERCISE
An agency rents cars for one day and charges $22 plus 20 cents per mile the car is driven.
a. Write the equation for one day’s rental, y, in terms of x, the number of miles driven.
b. Interpret the slope and the y- intercept
c. What is the renters cost per mile if a car is driven 100 miles, 200 miles?
Solution: (a) y= 0.2x+22
(b) Slope =0.2, means that ach additional mile driven adds 20 cents to total cost. The intercept
22, is fixed charge which would be incurred even if the renter not used car.
(c) i- y=0.2(100) +22 =42/100 mile =$0.42
Ii- y=0.2(200)+22 =62/200 miles =$0.31/mile

Interpretative Exercises
#2 suppose the Fixed cost (setup cost) for producing product X be br. 2000. After setup it costs br. 10
per X produced. If the total cost is represented by Y:
1. Write the equation of this relationship in slope-intercept form.
2. State the slope of the line & interpret the number
3. State the Y-intercept of the line & interpret the number

#3. A sales man has a fixed salary of br. 200 a week In addition; he receives a sales commission that is
20% of his total volume of sales. State the relationship between the sales man’s total weekly salary &
his sales for the week.
Answer Y = 0.20X + 200

2. The slope point form

We have seen that the straight line equation can be written directly if the slope, m, and a particular point,
the y intercept b, are given. Then is: y= mx +b.

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If the given point is not the y intercept, we can easily determine this intercept from the above slope
intercept form.
The equation of a non-vertical line, L, of slope, m, that passes through the point (X 1, Y1) is: defined by
the formula Y – Y1 = m (X – X1)
Y – Y1 = m (X – X1)
Example #1  Y – 2 = 4 (X – 1)
Given, slop = 4 and Y – 2 = 4X - 4
Point = (1, 2) Y = 4X – 2
Example; find the equation of the line with slope 0.75 that passes through the point (8,10).
Y= 0.75x +b
(8, 10), hence in this coordinate x=8 and y=10
Y=0.75x+b
10=0.75(8) +b
10= 6+b
4=b
Y=0.75x+4

EXERCISE
1. Find the equation of the line that has slope of -0.5 and passes through the point (4,3)

#2 A sales man earns a weekly basic salary plus a sales commission of 20% of his total sales. When his
total weekly sales total br. 1000, his total salary for the week is 400. derive the formula describing the
relationship between total salary and sales.
Answer Y = 0.2X + 200

#3 If the relationship between Total Cost and the number of units made is linear, & if costs increases by
br. 7.00 for each additional unit made, and if the Total Cost of 10 units is br. 180.00. Find the equation
of the relationship between Total Cost (Y) & number of units made (X)
Answer: Y = 7X + 110
3. Two-point form (Straight Line Equation from Two Points)
Two points completely determine a straight line & of course, they determine the slope of the line. Hence
we can first compute the slope, then use this value of m together with either point in the point-slope
form Y – Y1 = m (X – X1) to generate the equation of a line.
 By having two coordinate of a line we can determine the equation of the line.

Two point form of linear equation: (Y – Y1) =

( Y2 − Y1
X2 − X 1 )( X − X 1)

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 Example #1 given (1, 10) & (6, 0)
0 − 10 −10
= = −2
First slope = 6 − 1 5 , then
Y – Y1 = m (X – X1)  Y – 10 = -2 (X – 1)
Y – 10 = -2X + 2
Y = -2X + 12
Example1: the total cost, y, of producing x units in a linear function. Records show that on one occasion
100units were made at a total cost of $200 and on the other occasion 150 units were made at a total cost
of $275. Write the linear equation for total cost in terms of the number of units produced.
Information given consists of two coordinates (x, y) in the order of (units made, total cost) are:
(100,200) and (150,275)
Slope, m=: Y2-Y1 = 275-200 = 1.5
X2-X1 150-100

Taking either coordinate we can substitute in the slope intercept form:

Y-y1=m(x-x1) or y-y2=m(x-x2)
Y-200=1.5(x-100) y-275=1.5(x-150)
Y-200=1.5x-150 y-275=1.5x-225
y=1.5x+50 y=1.5x+50

EXERCISE: a publisher asks a printer for quotations on the cost of printing 1000 and 2000 copies of a
book. The printer quotes $4,500 for 1000 copies and $7,500 for 2000 copies. Assume that cost, y, I
linearly related to x, the number of books printed.
a. Write the coordinates of the given points
b. Write the equation of the line
Operations in the Linear System
When a system of linear equation has a single solution, the solution is a point whose coordinates satisfy
all the equations of the system. We start with a system of two equations:
1st the line that passes through the points (2, 5) and (8, 3). The equation of this line determined as:
e1: x+3y=17
e1=2+3(5) =17
17=17
2nd line passes through the points (2,5) and (4,2) and has equation
e2: 3x+2y=16
3(2) + 2(5) =16 or 3(4) +2(2) =16
6+10=16 12+4 =16
16=16 16=16

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Definition, m by n system
The designation m by n means that the number of equations in a system is m and the number of
variables is n. The number of variables in a system is the total number appearing in the equations of the
system. It is not required that all variables appear in each of the equations.
Example: 2x+y-z=4
X+2z=7: it has two equations and three variables. It is a 2 by 3 system.
We know that the linear system will have zero, one or an unlimited number of solutions; the elimination
procedure is an important method to solve problems with m by n system.

The procedure for solving a 3 by 3 system is to reduce it to a 2 by 2 system, which is then solved in the
usual way to obtain values for two of the three variables. The 3 rd variable is then evaluated by
substituting these two values in to any of the three original equations, eliminating the same variable each
time and using every equation at least once.
Example: solve the following system of linear equation
e1: 2x+y –z =2
x+2y +z =1
3x –y +2z =9
Hence, 2x +y –z =2 -3 {x+2y +z =1 (i) + (ii) and substitute -1for y
-2{X +2y +z =1 3x-y +2z =9 -3y -3z = 0 -7(-1) -z =6
2x +y –z = 2 -3x -6y -3z =-3 -3 {-7y –z =6 7-z =6
+ {-2x -4y -2z =-2 + {3x-y+2z =9 -3y -3z =0 7-6 =z, z=1
(i) -3y -3z = 0 (ii) -7y –z =6 21y +3z =-18 2x+ (-1) – (1)

18y =-18 2X-2 =2

Y = -1 x=2

Example: Solve the system of linear equations-prove that the system has no solution for just that zero
cannot be equal to -15 or 25. Hence the equation is inconsistent.

Exercise; prove that the following system is inconsistent

2x +3y =17
9x +13.5y =25
The elimination procedure will also tell us when a system of equations has an unlimited (infinite)
number of solutions.
Example: solve the system;
e1: 2x+5y=15 then, -3.2{2x+5y=15 equals, -6.4x -16y = -48
e2: 3.2x+8y =24 2{3.2x+8y =24 6.4x +16y =48
0=0
Exercise: Prove that the following system has an unlimited number of solutions
2x+3y=17
9x+13.5y=76.5

#2 A salesman has a basic salary &, in addition, receives a commission which is a fixed percentage of
his sales volume. When his weekly sales are Br. 1000, his total salary is br. 400. When his weekly sales

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are 500.00, his total salary is br. 300. Determine his basic salary & his commission percentage &
express the relationship between sales & salary in equation form.
Answer: Y = 0.2X + 200

#3 A printer costs a price of birr 1,400 for printing 100 copies of a report & br. 3000 for printing 500
copies. Assuming a linear relationship what would be the price for printing 300 copies?
Answer: Y = 4X + 1000
Cost = 4.0 (300) + 1000 = br. 2200

1.2.2 Special formats

a) Horizontal & vertical lines
When the equation of a line is to be determined from two given points, it is a good idea to compare
corresponding coordinates because if the Y values are the same the line is horizontal & if the X values
are the same the line is vertical

Example: 1 given the points (3, 6) & (8, 6) the line through them is horizontal because
both Y-coordinates are the same i.e. 6
The equation of the line becomes Y = 6, which is different from the form Y = mx + b

If the X-coordinates of the two different points are equal

Example (5, 2) & (5, 12) the line through them is vertical, & its equations is X = 5 i.e. X is equal to a
constant. If we proceed to apply the point slope procedure, we would obtain.
12 − 10 2
= =∞
Slope (M) = 5 − 5 0 & if m =  infinite the line is vertical & the form of the equation is: X
= constant

b) Parallel & perpendicular lines ( and )

Two lines are parallel if the two lines have the same slope, & two lines are perpendicular if the product
of their slope is –1 or the slope of one is the negative reciprocal of the slope of the other.

Example: Y = 2X – 10 & Y = 2X + 14 are parallel because their slope are equal i.e. 2
Y = 3/2X + 10 & Y = -2/3X + 100 are perpendicular to each other because the multiplication
3 −2
x = −1
result of the two slope are –1 i.e. 2 3

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c) Lines through the origin
Any equation in the variables X & Y that has no constant term other than zero will have a graph that
passes through the origin. Or, a line which passes through the origin has an X-intercept of (0, 0) i.e. both
X and Y intercepts are zero.

1.3 Application of linear equations

1.3.1 Linear Cost Output Relationships – VC, FC, TC, AC, MC, TR, :

TR/TC profit TR TC = TVC + TFC

Or TP region TR = PQ
TC TP = TR - TC
Loss T
region E BEP = PQ – (VC + FC)
TVC H
A F G FC = PQ – Q.VC - TFC
TC
TFC = Q (P – VC) - FC
B C D G(No of units)
Where Q = units
Product & units
sold in revenue
TC = Total Cost
FC = Fixed Cost
VC = Unit variable Cost

Interpretation of the graph:

1. The vertical distance between AB, FC, GD is the same because Fixed Cost is the same at any
levels of output.
2. There is no revenue without sales (because Total Revenue function passes through the origin),
but there is cost without production (because of Fixed Cost) & the TC function starts from A &
doesn’t pass through the origin

3. Up to point T, Total Cost is greater than Total Revenue  results in loss. While at point T,
(Total Revenue = Total Cost) i.e. Breakeven. (0 profit), & above point T, TR > TC  +ve
profit.

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 4. TFC remains constant regardless of the number of units produced. Given that there is no any
difference in scale of production.
5. As production increases, Total Variable Cost increases at the same rate and Marginal cost is
equal with Unit Variable Cost (MC = VC) only in linear equations.
6. As production increases TC increases by the rate equal to the AVC = MC (average cost equal to
marginal cost)
7. AVC is the same through out any level of production, however Average Fixed Cost (AFC)
decreases when Quantity increases & ultimately ATC decreases when Q increases because of the
effect of the decrease in AFC.
8. As Quantity increases TR increases at a rate of P. and average revenue remains constant.
TR P. Q
=
AR = Q Q = P  AR = P in linear functions
Linear Cost, Revenue and Profit Functions
Linear cost function expresses costs as a linear function of the number of items produced and sold. That
is, c= mx +b: m= slope =marginal cost, and b= fixed cost
Example 1: Mega Printing Press costs the following to print a book.
C(x) = 3.5x +70: hence, m=marginal cost=$3.5 and fixed cost =$70

Linear Revenue and Profit Functions

The revenue resulting from one or more business transactions is the total payment received, sometimes
called gross proceeds. If R(X) is the revenue from selling x items at a price of m each, then, R will be
the linear function R(X)=mx, and the selling price m can also be called the marginal revenue.
Example: ABC Publishing Company sells books to a large retailer for $4.75 per book. The revenue
function R(X) = 4.75x. The marginal revenue is m =$4.75 per book.
The profit is the net proceeds, or what remains of the revenue when costs are subtracted. If the profit
depends linearly on the number of items, the slope m is called marginal profit.

Profit= Revenue- Cost

When Revenue=Cost, then, profit=0. The situation is called ‘break even’.
Breakeven point (BEP) is a point, number of items produced and sold at which revenue equals cost.

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 Total Revenue
Profit Total cost
Y BEP
Loss

The profit earned for one extra output sold after the breakeven point is called marginal profit.
The slope of the line segment often interpreted as the amount of change in the vertical for a unit change
(change of one) in the horizontal.
Slope = Vertical Increase Change in Y = Y2-Y1
Horizontal Increase Change in X X2-X1
Example 1: A company has a fixed cost of $7,000 for plant (and equipment) and variable cost of
$16,000 for each unit of output.
Required: What is total cost, C, of varying, x, levels of output?
Let X = Units of Output X C
C= Total Cost= Variable Cost+ Fixed Cost 10 $ 13,000 7,000
C=600x+ 7000 20 19,000
25 22,000
Example 2: A company receives $45 for each unit of output sold. It has a
variable cost of $25 per item and fixed cost of $1,600.
Required: What is its profit if it sells are: (a) 75 items (b) 200 items?
Let X=Items Produced and Sold
R(X) =Revenue Function=Selling Price X Quantity Sold
C(X) = Cost Function= Variable Cost +Fixed Cost
P(X) =Profit Function=Sales-Costs
Hence, R(X) = Selling Price X Quantity Sold = 45x
C(X) = Variable Cost + Fixed Cost = 25x +1600
P(x) =45x-(25x +1600)
A) For 75 items sold: p(x) =45(75) –( 25(75) +1600) =3375-3475=(100)= $100 loss
B) For 200 items sold: p(x) =45(200) –( 25(200) +1600) =9,000-6,600 = $2,400 profit

Example: The Disposable Income (DI), personal consumption expenditure and savings in a line
segment fitted to points whose coordinates are in the order (DI, Consumption Expenditure) in USA in
billions of Dollars given below passes through (312, 295 ) and (575, 537).
The slope, M = Y2-Y1 = 537-295 = 0.92
X2-X1 575-312
The slope the line when written with the denominator 1 represents the change in consumption
expenditure per one dollar additional income. For one extra DI, 92 cents will be used for consumption
purpose, while 8 cents will be saved.
In economics, 0.92 is called the marginal propensity to consume (MPC) and 0.08 is called the marginal
propensity to save (MPS).

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Example2: a small business spends $20,000 on new computer equipment, and for tax purposes, choose
to depreciate it to $0 at a constant rate over a 5 years period.
a. Make a table and a graph showing the value of equipment over the 5 years period
b. Give the formula for value as a function of time
Solution: (a) after 5 years the equipment valued at $0. If ‘x’ is the value in dollars and ‘t ’is the number
of years:
Rate of change of value = change in value -$20,000 = -$4,000 per year
From t=o to t=5 change in time 5 years

The value drops at a constant rate of $4,000 per year. Since value (v) changes at a constant rate, v=f(t),
is a linear function and its graph is a straight line. The rate of change -$4,000per year is negative
because the function is decreasing and the graph slopes down.

Value of equipment depreciated each year value, v

T, years v, value

0 $20,000
1 16,000
2 12,000
3 8,000
4 4,000
5 0
Time, t
(b) After t, years elapsed, decrease in value of equipment is $4,000 and with number of year’s loss of
value would be 4000t. The initial value of equipment is $20,000
Hence, value, v=20,000-4000t
Example3: the cost in dollars of renting a car for a day from 3 rental agencies and driving it d miles is
given by the functions:
C1: 50+0.1d C2: 30+0.2d C3: 0.5d
Required: (a) describe in words the daily rental arrangements made by the 3 agencies
(b) Which agency is cheaper?
Solution: (a) agency one (C1) charges $50plus $0.5 per mile driven. Agency two (C2) charges $30 plus
$0.2 per mile and Agency three (C3) charges $0.5 per mile driven.
(b) The answer depends on how far we want to drive. If we are not driving far, agency 3 may be
cheapest, because it only charges for miles driven and has no other fees. If we want to drive long way,
agency 1 may be cheapest (even though it charges$50 up front) because it has the lowest per mile rate.
To know the exact number of miles to select as to which agency is cheapest, the following equations be
made:
C1=C2 C2= C3 C1= C3
50+0.1d = 30+0.2d 30+0.2d = 0.5d 50+0.1d = 0.5d
20=0.1d 30=0.3d 50=0.4d
200=d 100=d 125=d

cost C3: 0.5d C2: 30+0.2d

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 C1: 50+0.1d
50

30

100 125 200 miles driven

Thus, agency 3 is the cheapest up to 100 miles. Agency 1 is the cheapest for more than 200 miles.
Agency 2 is cheapest between 100 miles and 200 miles.
Revenue and Profit Functions
Consider the following events
Example1: a firm has a weekly fixed cost of $80,000 associated with the manufacturing of dresses that
cost $25 per dress to produce. The firm sells all the dresses it produces at $75 per dress..
Required ;( a) find the cost, revenue, and profit equation if x is the number of dresses produced per
week.
(b) Make a table of values for cost, revenue and profit for production levels of 1, 000, 1,500 and 2,000
dresses and discuss what the table of numbers telling you.
Solution: (a) the fixed cost (FC) is $80,000 and the variable cost (VC) is 25x
C= FC+ VC, in mx+b form= 25x+80,000
R =price per dress x number dress sold= 75x
Profit, p = R-C
75x-(25x+80,000) =50x-80,000

Units cost revenue profit

1,000 25(1,000) +80,000=$105,000 75(1,000) = $75,000 50(1,000)-80,000=-$30,000
1,500 25(1,500) +80,000=117,500 75(1,500) = 112,500 50(1,500)-80,000=-5,000
2,000 25(2,000) +80,000=130,000 75(2,000) = 150,000 50(2,000)-80,000=20,000
Example2: a company has produced a new grinding machine for $100,000with a use full life of 10
years, after which it is estimated that the scrap value of the machine is $5,000.use the straight line
method (SLM) of depreciation to write an equation for the value, v, of the machine where t is measured
in years. What will be the value of the machine after 1 year etc?
Depreciation in SLM = cost-salvage value
Estimated life
= $100,000-$5,000 = -$9,500value decreasing per year
10 years
Y=-9,500t +100,000
After 1 year value will be v=-9,500(1)+100,000 =$90,500
Example3: the Ethiopian water supply enterprise charges its customers birr 6 plus 1 birr for each of 100
liters of water used in a month (customers are required to pay for use of water with in the first 15 days of
the new month). Make cost function for the enterprise.
C= VC+FC

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 = 100cents/100 liters +6 birr
C = 0.01x+6
The cost for 1,000 liters of water in a month costs the customers:
C= 0.01(1,000) +6= 16 birr
Question 1. What will be the average cost of a customer who used:
(i) 5,000liters (ii) 10,000 liters
Solution (i) c= 0.01(5,000)+6 =56 birr
Average cost = total cost/units=56 birr/5,000 liters =birr 0.0112/liter
(ii) C= 0.01(10,000)+6
= 106 birr
Average cost = total cost/units consumed =106 birr/10,000liters = birr 0.0106/liter

Example4: your grandmother needs your help. she has $50,000 to invest. Part of this money is to be
invested in a noninsured bonds paying 15% interest annually. The rest of this money is to be invested in
a governmental insured certificates of deposit paying 7% annual interest. She told you that she requires
$6,000 interest income from both of these investments. How much money should be placed in each
investment?
Solution: let X- be amount of investment in 15% noninsured bonds

Y- be amount of investment in 7% insured certificates of deposit(CD)

Equations: X+Y =50,000 sum of total investments

0.15X +0.07Y = 6000 interest to be earned from investments

-0.07 {X+Y =50,000 - 0.07X-0.07Y=-3,500
0.15X +0.07Y = 6000 0.15 X+0.07Y=6,000
0.08 X = 2,500
X=$31,250
Y=$18,750
Example5: a company that manufactures running shoes has a fixed cost of $300,000. Additionally it
costs $30 to produce each pair of shoes. They are sold $80 per pair.
Required: (a) write the cost function, C, of producing x pairs of running shoes.
(b) Write the revenue function, R, from sale of x pairs of running shoes
(c) Determine the breakeven point (BEP) and describe what this mean.
Solution :(a) c= 30x +300,000
(b) R=80x
(c) at BEP, R=C: hence, 80x = 30x+300,000
50x =300,000
X= 6,000 pairs of shoes
Marginal cost =$30, the cost incurred to produce one more pair of shoes.
Marginal revenue =$80, revenue generated from sale of one extra pair of shoes.
Average cost (AC) at BEP ( at production level of 6,000 pairs of shoes)
C = 30(6,000) +300,000
= 180,000+300,000

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 =480,000 = revenue (480,000)
Average cost = total cost at BEP =$480,000= $80
Breakeven quantity 6,000

Graphically, it can be shown as: R =80 xs

Y

Profit C= 30x+300,000
480,000 BEP
Loss

6,000 X

Example6: in 1999, the USA produced about 2 million more cars than Japan. Together the two countries
produced about 24 million cars. How many cars were produced in each country?
Let x- be cars produced by USA
y- Cars produced by Japan
x= y +2,000,000 hence, y+2,000,000+y =24,000,000
x+y = 24,000,000 2y =22,000,000
y= 11,000,000
x=y+2,000,000, x= 11,000,000+2,000,000
x=13,000,000

1.2.2 Breakeven Analysis

Break-even point is the point at which there is no loss or profit to the company. It can be expressed as
either in terms of production quantity or revenue level depending on how the company states its cost
equation.

Manufacturing companies usually state their cost equation in terms of quantity (because they produce
and sell) where as retail business state their cost equation in terms of revenue (because they purchase
and sell).

Case 1: Manufacturing Companies

Consider a Company with equation
TC = VC + FC / Total cost = Variable cost + Fixed cost
TR = PQ/ Total Revenue = Price x Quantity
At Break-even point, TR = TC i.e TR – TC = 0
PQ = VC + FC where Qe = Breakeven Quantity

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 PQ – VC.Q = FC FC = Fixed cost
Q (P – VC) = FC P = unit selling price
FC
Qe = P − VC VC = unit variable cost

TR
TC/TR TC

Q
FC
Qe = P− VC

Example #1 A manufacturing Co. has a Total Fixed Cost of Br. 10,000 & a Unit Variable Cost of Br. 5.
if the co. can sell .What it produces at a price of Br. 10,

a) Write the Revenue, cost & Profit functions

b) Find the breakeven point in terms of quantity and sales volume
c) Show diagrammatically the Total Revenue, Total Cost, Total Profit, Fixed Cost and Variable
Costs.
d) Interpret the results

Answer
a) TC = VC + FC TR = PQ Profit() = TR – TC
TC = 5Q + 10,000 TR = 10Q = 10Q – (5Q + 10,000)
= 5Q – 10,000

b) At break even point TR = TC

10Q = 5Q + 10,000
5Q – 10,000 = 0

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 10,000
Qe = 5
Qe = 2000 units
i.e. Breakeven Quantity is 2000 units
Sales volume = 2000 X 10 = 20,000 br.

25000 TR = 10Q 
20000 TC = 5Q + 10000 TVC = 5Q
15000 TVC T = 5Q - 10000
10000
5000 TFC
0
1000 2000 3000 4000 5000 Q (no. of units produced
& sold)

-5000 -
-10000 -

Interpretation:
When a co. produces & sells 2000 units of output, there will not be any loss or gain (no profit, no loss)
 The effect of changing one variable keeping other constant

Case 1 - Fixed cost

Assume for the above problem FC is decreased by Br. 5000, Citrus Paribus (other things being constant)
5000
TC = 5Q + 5000  Qe = 5 = 1000 units
TR = 10Q
Therefore, FC   Qe  FC & Qe have direct relationship
FC   Qe 

Case 2-Unit variable cost

Assume for the above problem UVC decreased by 1 br. Citrus Paribus (keeping other thing constant)
10000
= 1, 667 units
TC = 4Q + 10000  Qe = 6

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 TR = 10Q
Therefore, VC   Qe  VC & Qe have direct relationship
VC   Qe 
Case 3- Selling price
Assume for the above problem selling price is decreased by br. 1, Citrus Paribus,
10000
= 2500 units
TC = 5Q + 10,000  Qe = 4
TR = 9Q
Therefore P   Qe  Price and breakeven point have indirect relationship
P   Qe 
In the above example a company has the following options (to minimize its breakeven point and
maximize profit).
- decreasing FC
- decreasing unit VC
- increasing the unit selling price
And if the organization is between option 2 & 3, it is preferable to decrease the unit variable cost
because if we increase the selling price, the organization May loose its customers & also decreasing the
FC is preferable.

TC

TFC

Qe Q

Finding the quantity level which involves profit or loss

FC+0
BEP = P− V , any Q is related to the cost , profit----

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  = TR – Tc Where: BEP = breakeven point
 = PQ – (VC.Q + FC)  = Profit
 = (P.Q – VC.Q) – FC TR = Total revenue
 = Q (P – VC) – FC TC = Total cost
±Π + FC FC ± Π
= for any qty level Q=
P − VC P − VC Q = Quantity
C = Unit variable cost

Example #1 for the above manufacturing co. if it wants to make a profit of 25000 br. What should be the
quantity level?

FC ± Π
TR = 10Q Q = P − V when there is , the quantity produced &
sold have to be greater than the
Breakeven quantity
10,000 + 25000
TC = 5Q + 10,000 = 10 − 5
 = 25,000 = 7000 units
Q =?

If it expects a loss of br. 5000 what will be the quantity level.

FC ± VC 10,000 − 5000
=
Q= P − VC 10 − 5 * when there is loss, the qty produced & sold
should be less than the BEQ
Case 2 Merchandising /Retail Business
Breakeven Revenue = BEQ X P
Assume a bus. Firm with product A has the following cost & revenue items.
Variable cost of A = 100 br.
Selling price = 150 br.

Markup = Selling price – Variable cost = 150 – 100 = 50

i. as a function of cost, the markup is 50/100 = 50%

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 ii. as a function of retail price, the markup is 50/150 = 33.3 % it is also called margin.
Margin Cost of goods sold

The cost of goods sold = 100% - 33.3 % = 66.6%  67%

Selling price CGS
Given other selling expense = 1%of the selling price i.e. 0.01X
So, the TC equation becomes:
Y = 0.68X + FC
Where: X is sales revenue
Y is total cost
Out of 100% selling price 68% is the variable cost of goods purchased & sold

Example Suppose a retail business sale its commodities at a margin of 25% on all items purchased &
sold. Moreover the company uses 5% commission as selling expense & br. 12000 as a Fixed Cost.

Find the Breakeven revenue for the retail business after developing the equation
Solution Selling price 100% Let X represents selling price
Margin 25% Y = total cost
CGS 75% FC = 12000
Comm. Exp. 5% Xe = Breakeven revenue
Total VC 80%
Y = 0.8X + 12000

Break even revenue is obtained by making sales revenue & cost equals
At breakeven point TC = TR Y = mx + b
i.e. Y = X then, unit variable cost
FC FC ± Π VC TVC
or where m= =
0.8X + 12000 = X  1 −m 1−m P TR
-0.2X = -12000
X = 60,000 br.  When the co. receives br. 60,000 as sales revenue,
there will be no loss or profit.

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 FC ± Π
The Breakeven revenue (BER = 1 − m ) method is useful, because we can use a single formula for
different goods so far as the company uses the same amount of profit margin for all goods. However, in
FC ± Π
Breakeven quantity method or BEQ = P − V it is not possible and hence we have to use different
formula for different items.

Example #1 It is estimated that sales in the coming period will be br. 6000 & that FC will be br. 1000
& variable costs br. 3600, develop the total cost equation & the
breakeven revenue.
3600
Answer: Y = 6000 X + 1000 = 0.6X + 1000
Where Y = Total Cost
X = Total revenue
1000 1000
= = 2500 br .
BER = Xe = 1 − 0.6 0.4
At the sales volume of br. 2500, the company breaks even.
* When the breakeven revenue equation is for more than one item it is impossible to find the breakeven
quantity. It is only possible for one item by Qe = Xe/P
Where Xe = Break even revenue
P = selling price
Qe = Breakeven quantity
To change the breakeven revenue equation in to breakeven quantity. We have to multiple price by the
coefficient of X. likewise, to change in to breakeven revenue from Break even quantity, we have to
divide the unit VC by price.

1.4 Model examination questions

1. XYZ company’s cost function for the next four months is
C = 500,000 + 5Q
a) Find the BE dollar volume of sales if the selling price is br. 6 / unit
b) What would be the company’s cost if it decides to shutdown operations for the next four
months

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 c) If, because of strike, the most the company can produce is br. 100,000 units, should it
shutdown? Why or why not?
2. In its first year, “Abol Buna Co” had the following experience
Sales = 25,000 units Selling price = br. 100
TVC = br. 1,500,000 TFC = br. 350,000
Required:
1. Develop Revenue, cost & profit functions for the co. in terms of quantity.
2. Find the Breakeven point in terms of quantity
3. Convert the cost equation in terms of quantity in to a cost equation in terms of revenue
4. Find the Breakeven revenue
5. If profit had been br. 500,000 what would have been the sales volume (revenue) & the quantity
of sales
6. What would have been the profit if sales are br. 2,000,000?

3. A small home business set up with an investment of $ 10,000 for equipment. The business
manufactures a product at a cost of br. 0.64 per unit. If the product sales for Br. 1.20 per unit
how many units must be sold before the business breaks even?
4. A retail co. plans to work on a margin of 44% of retail price & to incur other Variable Cost of
4%. If is expected Fixed cost of Br. 20,000.
i. Find the equation relating Total Cost to sales
ii. Find the profit if sales are Br. 60,000
iii. Find the breakeven revenue
iv. If profit is Br. 15,000 what should be the revenue level?
v. If you have any one item at a price of Br. 15/unit how do you convert the cost
equation in terms of revenue in to a cost equation in terms of quantity?

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