Question

Cathy Smith manages a photocopying establishment and earns $30,000 per year. She decides to leave her current job and open and operate her own store. She invests $20,000 into the company to start her business, which she takes out of her savings account that was earning 5% interest per year.

During her first year of operation she expects the following:

Revenue from sales $110,000

Salaries to hired help $45,000

Supplies$15,000
Rent$12,000

Utilities$13,000

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1. Calculate expected explicit costs for year one.

2. Calculate expected implicit costs for year one.

3. What are expected accounting profits for year one? (Assume no taxes.)

4. What are expected economic profits for year one? (Assume no taxes.)

5. What would be your advice to Ms. Smith?

Answer 1

1.Explicit costs for year one:

=$20,000 + $45,000 + $15,000 + $12,000 + $13,000

= $105,000

2. Implicit costs for year one.

=$30,000 + ($20,000 x 5%)

= $30,000 + $1,000

= $31,000

3 accounting profits for year one:

sales revenue- implicit cost

110000 - 31000

= $ 79000

4. economic profit for year one:

sales revenue-( implicit cost+ explicit cost )

110000 - (31000 +105000)

= 110000-136000

= $ -26000

5. Mr. smith continue his current job because his income from business would be in negative. so it is better for Mr. smith to remain in his job and should not try new business.

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