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One Saturday morning  a while ago, I went along to one of the two local barber shops to get a haircut. I usually like to get out early so I was in my local town about 9:30. For my last haircut I tried the newer of the two barbers, who to build up business had a loyalty scheme where you get your fifth haircut free. But it did not open until 10:00, so I went to the other barber ( who opens at 9:00 ) and I made up my mind I’ll stick with this one.

Now let’s talk accounting. The newest barber is in a high rent shopping mall. They also want to build up a customer base. The older one probably pays less rent or maybe even owns the shop. Now let’s assume the new barber is thinking if opening at 9:00 to attract early birds like me. What costs and revenues are relevant to this decision in – in other words, what are the marginal costs and revenues. The revenue is easy – simply all extra revenue generated e.g. 5 extra cuts at £/€10 per cut = £/€50. And costs? The main cost would be labour of any employees, say £/€20 for the hours from 09:00 to 10:00. Other minimal costs would be utilities (power, water) and any hair products like gels or creams, say £/€5. So in this simple example a profit of £/€25 is made.

Hang on, what about other costs like rent who might think? These are not relevant as these will be incurred even if the shop is closed. This kind of decision is made by businesses quite regularly and while my barber example is simplifying things, such decisions can make a huge difference to profits. Why? Simply because all additional revenue contributes to profits and once fixed costs like rent are covered, each extra sale (haircut in my example) means more profit. Obviously, if the figures are showing a loss then the decision is not the right one. Maybe the new barber in my example thinks no customers will come before 10:00, so he’d lose money as the additional labour costs would have to be paid.