Key Diagrams - Advertising Spending and Business Profits

In this short revision video we build an analysis diagram showing how a rise in advertising spending by a business can affect revenues, costs and profits.

Advertising & marketing is a key form of non-price competition in imperfectly competitive markets. Many firms use it to reinforce their market share and also to make demand for their products less price elastic. They do this by using marketing to increase brand loyalty.

Successful advertising causes an outward shift in AR and MR and allows a firm to sell more product at higher prices. Strong brand loyalty reduces the coefficient of PED which in turn allows firms to sell at higher profit margins.

But advertising is also a cost – we normally treat it as a fixed cost. For example, a one-off marketing campaign must be paid for regardless of the short-run level of output.

A rise in fixed costs causes average total cost to shift upwards but there is no change in marginal cost since this is affected only by variable costs.

Many firms make smart use of digital marketing including viral adverts and use of influencers on social media.