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Differentiation

Session 3

Business Mathematics

The syllabus that this topic covers


deal with calculus only at an
elementary level and require:
familiarity with a few simple rules
an understanding of some relevant
applications

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Rules of calculus

Rule 1: The derivative of a


constant is zero.
Example:

Let Y = 7
Thus:
dy/dx = 0

0
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X
3

Rule 2: The derivative of a constant times a


variable is simply the constant.
y
Example:
Let y = 13x

26

Thus:
dy/dx = 13

Rule 2

13

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x
4

Rule 3: A power function has the form y =


axn, where a and n are constants. The
derivative of a power function is:

dy
n 1
n ax
dx
Example:
Let y = 4x3
Thus:

dy / dx 12 x

Rule 3
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Special cases of the power


function
Note the following:
y =1/x2 is equivalently written as y = x-2
and

y x can be written y = x1/2


Hence by rule 3 (or the power rule), the
respective derivatives are given by:
dy/dx = -2x-3
And
dy/dx = .5x-1/2 = .5 / x
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Power functions
6

Rule 4: Suppose the product of two functions :


y = f(x)g(x). Then we have:
dy
df
dg

(g)
(f)
dx dx
dx

Example:
Let y = (4x)(3x2)
Thus:
dy/dx = (4)(3x2) + (6x)(4x) = 36x2

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Rule
4

Rule 5
Rule 5: The derivative of the sum of
functions is equal to the sum of the
derivatives.
If y = f(x) + g(x), then:
dy/dx = df/dx + dg/dx
Example:
Let: y = .1x2 2x3
Thus:
dy/dx = .2x 6x2
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Rule 6: Suppose y is a quotient: y =


f(x)/g(x). Then we have:

dy (df / dx)( g ) (dg / dx)( f )

dx
g2
Example
Suppose we have: y = x/(8 + x)
Thus:
dy/dx = [1 (8 + x) 1 (x)]/ (8 + x)2 = 8/(8 + x)2

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Rule 6

The marginal profit (M) function


Let the profit function be given by:
= 2Q - .1Q2 3.6
To obtain the marginal profit function, we
take the first derivative of profit with
respect to output (Q):
M = d/dQ = 2 - .2Q
To solve for the output level that maximizes
profits, set M =0.
2 - .2Q = 0 Thus: Q = 10

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10

Differentiation
Differentiation can be thought of as
a
process which transforms one
function into a different one. The
new function is known as the
derivative of the original one.
The derivative of the simple
function,
dy
b

1
b
y = ax is given by abx

dx

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Slide 11 of 29

The derivative of the sum of two or


more simple functions is the sum of
the separate derivatives of the
functions.
Differentiation can be repeated as
many times as necessary on any
given function.
dy
is the first derivative
If y is any
dx function of x:
d2y
is the second derivative
2
dx
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Slide 12 of 29

dy
0
equation,
dx

Solving the
will identify the turning points of a
function.
The second derivative can then be
used to indicate whether the
turning point is a maximum or
minimum.
when the second derivative is positive,
it signifies a minima.
when the second derivative is
negative, it signifies a maxima.
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Slide 13 of 29

Use of differentiation in a
business context
In any commercial environment,
the profit can be considered as a
simple function of the difference
between the revenue obtained
from the sale of a number of
products and the costs involved in
their production.
Profit = Revenue - Cost
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Cost function
The cost involved in standard
processes can be normally
categorised as follows:
fixed cost
variable cost
special/optional cost

Total cost = fixed cost + variable


cost + special cost
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Total cost
Average cost =
total quantity
dC
cost, dx

Marginal
is defined as the
extra cost incurred of producing
another item at activity level x.

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Slide 16 of 29

Cost maximisation or minimisation


dC
occur when
= 0.
dx

The second differential coefficient


is used to determine whether
there is a maximum or minimum.

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Slide 17 of 29

Revenue function
R(x) = x . Pr (x)
where x is the quantity of items
demanded (supplied or produced).
Pr (x) is the fixed cost associated with
the product.

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Slide 18 of 29

Price /demand function


In business environment, item price is
usually dependent on the number of
items in demand.The more items that
are in demand, the less the price per
unit is.

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Slide 19 of 29

Procedure for obtaining the demand


function
put the demand function in the form Pr = a
+ bx
substitute the first price/ demand pair into
Pr to obtain one equation in a and b
substitute the second price/demand pair
into Pr to obtain another equation in a and
b.
Solve the two equations obtained, for a
and b.

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Slide 20 of 29

dR
Marginal revenue,dx

is the extra
revenue obtained from producing another
item at activity level x.

Revenue maximisation or minimisation


dR
occur when
= 0.
dx

The second differential coefficient is used


to determine whether there is a maximum
or minimum.

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Slide 21 of 29

Profit function
difference between revenue
function and cost function, P =
Revenue cost
dP
Profit maximisation
or
dx
minimisation occur when
=
0.
The maximum
dR profit
dC point for
be found by
some process can
dx dx
solving the equation:
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Slide 22 of 29

Break-even point
It is the level of production where profit
is zero or when the total revenue for a
period will equal the total costs for the
same period. i.e. R = C
Hence, Pq = F + Vq

F
fixed cost
q

P V contributi on/unit

where q is the quantity of units


p is the selling price
F is the fixed cost
V is the variable cost
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Slide 23 of 29

Break-even chart
It is a graphical representation of
the cost and revenue associated
with different levels of output.
It is useful in business decisionmaking as it enables companies to
identify the level of output which,
given the prevailing cost and
revenue function, maximises profit.

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Slide 24 of 29

Optimization using Calculus

We will review some


rules of differential
calculus that are
especially useful for
management decision
making

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25

The profit function


Suppose that a business firm has estimated its
profit () function (based on marketing and
production studies) as follows:

2Q 0.1Q 3.6
2

Where is profit (in thousands of dollars) and Q


is quantity (in thousands of units).
Thus the problem for management is to
set its quantity(Q) at the level that
maximizes profits ().
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What is an objective function?

The profit function shows


the relationship between the
managers decision variable
(Q) and her objective ().
That is why we call it the
objective function.

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27

The Profit Function


8.0
6.0

Profit

4.0
2.0
0.0
-2.0
-4.0

0.0

2.0

4.0

6.0

8.0 10.0 12.0 14.0 16.0 18.0 20.0

Marginal profit at a particular output


is given by the slope of a line
tangent to the profit function

-6.0
Quantity
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The profit function


again
28

Computing profit at various


output levels using a
spreadsheet

Recall our profit function is given by:


= 2Q - .1Q2 3.6
Fill in the quantity column with 0, 2, 4, . . .
Assume that you typed zero in column cell a3 of
your spreadsheet
Place your cursor in the the cell b3 (it now
contains the bolded number 3.6)just to the
right of cell a3.
Type the following in the formula bar:

=(2*a3)-(.1*a3^2)-3.6

and click on the check mark to the left of the


formula bar.
Now move your cursor to the southeast corner of
cell b3 until you see a small cross (+).Now move
your cursor down through cells b4, b5, b6 . . . to
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Mathematics
compute profit at various
levels
of output.

Quantity
(000s)
0.0
2.0
4.0
6.0
8.0
10.0
12.0
14.0
16.0
18.0
20.0

Profit
(000s)
-3.6
0.0
2.8
4.8
6.0
6.4
6.0
4.8
2.8
0.0
-3.6

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