ECN 001A Lecture 13: CH 13 - The Costs of Production

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8 Mar 2017

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We assume that the firm"s goal is to maximize profit. Total revenue = the amount a firm receives from the sale of its output. Total cost = the market value of the inputs a firm uses in production. Cost of something is what you give up to get it. Ex. paying wages to workers increase/decrease effects both accounting profit and economic profit. Ex. the opportunity cost of the owner"s time increase/decrease only changes economic profit. Option 2: use ,000 of your savings and borrow the other ,000. Explicit cost = ,000 (5%) interest on the loan. Implicit cost = ,000 (5% of k) foregone interest you could have earned on your ,000. In both options, total costs (exp + imp) are ,000. Accounting profit = (total revenue) - (total explicit costs) Ignores implicit costs, so it"s higher than economic profit. What stocks, international markets look at bc it"s observable. Economic profit = (total revenue) - (total costs (explicit + implicit))

Related Questions

5. Economic profit is equal to

a. total revenue minus the explicit cost of producing goods and services.

b. total revenue minus the opportunity cost of producing goods and services.

c. total revenue minus the accounting cost of producing goods and services.

d. average revenue minus the average cost of producing the last unit of a good or service.

6. Accounting profit is equal to

a. marginal revenue minus marginal cost.

b. total revenue minus the explicit cost of producing goods and services.

c. total revenue minus the opportunity cost of producing goods and services.

d. average revenue minus the average cost of producing the last unit of a good or service.

7. Economic profit

a. will never exceed the accounting profit.

b. is most often equal to accounting profit

c. is always at least as large as accounting profit.

d. is a less complete measure of profitability than accounting profit

8. Which of the following expressions is correct?

a. accounting profit = total revenue - explicit costs

b. economic profit = total revenue - implicit costs

c. economic profit = total revenue - explicit costs

d. Both a and b are correct

Scenario 13-2:

Zach took $400,000 out of the bank and used it to start his new cookie business. The bank account pays 3% interest per year. During the first year of his business, Zach sold 6,000 boxes of cookies for $2.50. Also during the first year, the cookie business incurred costs that required outlays of money amounting to $9,000.

9. Zach's accounting profit for the year was

10. Zach's economic profit for the year was

Scenario 14-1:

As part of an estate settlement, Mary received $1 million. She decided to use the money to purchase a small business in Anywhere, USA. If Mary would have invested the $1 million in a risk-free bond fund she could have made $100,000 each year. She also quit her job with Lucky.Com Inc. to devote all of her time to her new business; her salary at Lucky.Com Inc. was $75,000 per

11. At the end of the first year of operating her new business, Mary's accountant reported an accounting profit of $150,000. What was Mary's economic profit?

Suppose you are considering starting your own consulting firm. You estimate if that if you did not start the firm, your starting salary at a job would be $40,000/yr. The revenues from this firm are expected to be $1,500,000. Some of the expenses you expect to encounter are $25,000 for an employee and operating costs (rent, supplies, utilities, etc.) of $500,000. To begin the business, you must borrow $100,000 from the bank and pay 8% interest on the loan, and also uses $50,000 of your own money that was in a savings account previously earning 2% interest. Equipment (computers, etc.) will cost $20,000.

a. Determine the pre-tax accounting profit of this firm.

b. Determine the pre-tax economic profit of this firm.

c. Which costs are explicit and which costs are implicit?

amaranthbat623

You have the opportunity to get a VEGGIE Cafe franchise (this specializes in BOCA Veggie Burgers and other heart-healthy fast foods). You now manage three Big Bird Stick-e-Chicken shops for another owner and feel you are ready to be your own boss. You estimate your VEGGIE will gross $250,000 in annual sales. VEGGIE annual franchise fees will cost $5,000 plus another 3% of your gross sales. Advertising expenses have two parts: local advertising (which will cost $7,000 a year) and your share of National advertising (which will be 2% of gross sales). A store location (formerly a Burger Hut) is available for $6,000 a year plus a yearend rent bonus of 2% of gross sales in excess of $40,000. You will have to borrow money from a bank at 9% per annum (which will cost you $13,500 a year in interest). Your life savings of $20,000 (now earning you 5% per annum in interest) will also have to be invested in the business. NOTE: neither the bank loan principal you borrow from the bank nor the $20,000 of your own money you invest is an explicit or implicit cost. However, the interest paid on the bank loan is explicit and the interest foregone on your savings is implicit. Other estimated annual expenses are: utilities $12,000; labor $50,000; food ingredients $60,000; maintenance $9,600; liability insurance $3,000. Stick-e-Chicken pays you $12,000 a year wages plus a yearend bonus of 1% of their gross sales (last year their sales totalled $700,000). Of course, you will give up Stick-e-Chicken's salary and bonus. You estimate you can earn $10,000 more than you now earn at Stick-e-Chicken to compensate you for the additional responsibility of your own business.

a. What is the estimated explicit (accounting) cost of your proposed business? Itemize in detail.

b. What is the accounting profit you project for your business?

c. What is the total implicit cost you estimate for your venture? Itemize in detail.

d. Do you project any economic profit? How much?

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ECN 001A Lecture 13: CH 13 - The Costs of Production

ECN 001A Full Course Notes

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