Business, 05.11.2020 08:40 BigGirlsTheBest

For the following problems, use the information below for information on Lee and his business. In 2018 Giles inherited a storefront from his uncle and so he left his job as a school librarian (which paid $50,000 per year) to open a novelty shop called the Magic Box. Giles was able to make an assortment of trinkets using $20,000 worth of materials that he sold for a total of $60,000. In addition, he purchased another $170,000 worth of goods and resold them for $190,000. He pays $5,000 per year for electricity. In order to decorate his shop, he purchased $2,000 worth of memorabilia to hang on his walls using a loan from the bank that charges 10% interest. At the end of the year, he sold off the same memorabilia to another store for $1,000. While he knows he could have rented out his inherited storefront to Jamba Juice for $20,000 per year, he chose not to. Because of his use of the storefront, it went down in value from $500,000 to $490,000 (and it would not have lost this value if it was being used by Jamba Juice).

1. How much revenue did Giles’s business generate?
2. Giles is paying money to the bank for the money he borrowed. How much interest did he have to pay to the bank for the money borrowed?
3. What are Giles’s explicit costs?
4. How much is his accounting profit?
5. In this example, both the memorabilia on the wall and his storefront lost value over time. Should this be part of Giles’s costs of doing business? Why or why not?
6. What are Giles’s implicit costs?
7. What is Giles’s economic profit?
8. Between economic profit and accounting profit, which one matters more in determining whether or not Giles was right to start his small business?
9. In addition to the profit Giles earned in 2019, what else should influence his decision of whether or not to continue operating his shop?
10. Suppose that Giles was assembling his trinkets in his home and that one day it caused a small fire in his home. If it did $3,000 worth of damage but he decided not to get it repaired, would this fire affect his accounting profit, economic profit, both, or neither?

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Answer from: grahuntley31

Giles and His Business

1. Revenue generated by the business = $250,000

2. The interest on the bank loan = $200

3. Explicit costs are:

Cost of Trinkets $20,000

Cost of goods 170,000

Electricity expense 5,000

Interest on loan 200

Loss on sale of

memorabilia 1,000

Depreciation 10,000

Total $206,200

4. Accounting profit = $43,800

5. Yes. The loss arising from the sale of the memorabilia and the storefront lost value over time are costs of doing business, because they would not have been incurred if the business was not formed.

6. Gile's implicit costs are:

Loss of income as a librarian $50,000

Opportunity cost of renting out the storefront $20,000

Total implicit costs = $70,000

7. Gile's economic profit = ($26,200)

8. In determining whether or not Giles was right to start his small business, the economic profit matters more than the accounting profit.

9. His calculated economic profit should influence him in the short-run. However, profit prospects should influence his decision in the long-run.

10. This fire would affect both his economic and accounting profits.

Explanation:

a) Data and Calculations:

School Librarian income = $50,000 per year

Profit from an assortment of trinkets = $40,000 ($60,000 -$20,000)

Profit from purchase of goods = $20,000 ($190,000 - $170,000)

Electricity expense = $5,000

Shop fittings = $2,000

Bank loan = $2,000

Interest on loan = $200 ($2,000 * 10%)

Sale of memorabilia = $1,000

Opportunity cost (Renting) = $20,000

Depreciation on Storefront = $10,000 ($500,000 - $490,000)

Revenue generated by Gile's business:

Trinket = $60,000

Goods = $190,000

Total = $250,000

Explicit cost 206,200

Profit = $43,800

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