Question

Jason is a manager in a large hotel chain earning a salary of $75,000 per year. He also earns an average return of 8% per year in his investment account at Schwab. He purchases a bed and breakfast inn by taking $300,000 out of his investment account. He does some of the work himself at the Inn. His inn generates $500,000 in revenues each year. He spends $200,000 a year in employee salaries, $150,000 a year in materials and supplies related to the upkeep and running of the Inn and $25,000 in office supplies and property taxes.

1. What is Jasons' accounting or business profit? Explain.
2. What is Jason's economic profit? Explain.
3. Assuming that Jason is indifferent between working as a managerand owning the Inn, should Jason continue to own the Inn? Explain why?

Answer 1

Here,

Salary as Manager = $75,000

interest rate = 8%

Amount Withdrawn = $300,000

So amount lost in interest = 8%*300000 = $24000

So opportunity cost = $75000 + $24000 = $99000

Earnings = $500000

Cost = 200000+150000+25000 = $375000

So Accounting Profit = 500000 - 375000 = $125000

Economic profit = $125000 - $99000 = $26000

Since economic profit is greater than zero hence his not owning the inn will have higher opportunity cost

Hence he should continue owning the inn