Lorenzo lives in San Francisco and runs a business that sells guitars. In an average year, he receives $842,000 from selling guitars. Of this sales revenue, he must pay the manufacturer a wholesale cost of $452,000; he also pays wages and utility bills totaling $301,000. He owns his showroom; if he chooses to rent it out, he will receive $38,000 in rent per year. Assume that the value of this showroom does not depreciate over the year. Also, if Lorenzo does not operate this guitar business, he can work as an accountant, receive an annual salary of $48,000 with no additional monetary costs, and rent out his showroom at the $38,000 per year rate. No other costs are incurred in running this guitar business.
Identify each of Lorenzo’s costs in the following table as either an implicit cost or an explicit cost of selling guitars.
Implicit Cost |
Explicit Cost |
||
---|---|---|---|
The salary Lorenzo could earn if he worked as an accountant | |||
The rental income Lorenzo could receive if he chose to rent out his showroom | |||
The wages and utility bills that Lorenzo pays | |||
The wholesale cost for the guitars that Lorenzo pays the manufacturer |
Complete the following table by determining Lorenzo’s accounting and economic profit of his guitar business.
Profit | |
---|---|
(Dollars) | |
Accounting Profit | |
Economic Profit |
Implicit Cost |
Explicit Cost |
||
---|---|---|---|
The salary Lorenzo could earn if he worked as an accountant | implicit cost | ||
The rental income Lorenzo could receive if he chose to rent out his showroom | implicit cost | ||
The wages and utility bills that Lorenzo pays | Explicit cost | ||
The wholesale cost for the guitars that Lorenzo pays the manufacturer | Explicit cost | ||
The accounting profit=total revenue-explicit costs
=842000-452000-301000
=89000
Economic profit=accounting profit-implicit costs
=89000-38000-48000
=3000
Complete the following table by determining Lorenzo’s accounting and economic profit of his guitar business.
Profit | |
---|---|
(Dollars) | |
Accounting Profit | 89000 |
Economic Profit | 3000 |
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