Long-run marginal cost (LRMC) is a type of financial assessment that seeks to identify any shifts in the costs associated with producing a good or service, due to some change in the quantity of units produced. The idea is to assess what this shift will mean for the business over a longer period of time, not in the immediate future or short-term period. Projecting the long-run marginal cost can aid business owners in determining if this shift in production quantity will benefit the company over the long run, or if the benefits are mainly short-term and could even create some issues for the business at a later date.
One of the factors that assessing the long-run marginal cost can reveal is how much expense is involved with adding one more unit of a product to the current production level, comparing that to the anticipated increase in revenue that the additional production would generate. Doing so can aid in determining if the additional benefit generated by the action is sufficient to offset the additional expense, ultimately making the shift in production viable. Recognizing that the activity may require an up-front investment that will take some time to begin generating benefits, the goal is to calculate the frequency that the one additional unit is produced and when those units can reasonably be expected to be sold to consumers.
In the best situations, projecting the long-run marginal cost will reveal that the additional production will have a beneficial effect on the average cost of production, meaning that the company is able to use slightly more raw materials, buy those materials at a lower rate and effectively lower the cost of production on each and every unit produced. Should the production process itself require no additional resources, then the long-run marginal cost is lower, making the effort very much in the best interests of the company, as long as there is clearly a market for those additional goods and services that are produced.
As with any type of cost projections, assessing the long-run marginal cost must take into consideration all expenses associated with the manufacture of the additional products. Failure to account for any additional expenses incurred as the result of the increased production will lead to inaccuracies that could have a detrimental impact on the financial stability of the company. In addition, considering the most likely direction of the marketplace, including shifts in consumer tastes, can also help a company determine if engaging in that additional production will ultimately lead to increased revenues and more net profit for the operation.
