After working as a head chef for years, Jared gave up his $60,000 salary to open
ID: 1169804 • Letter: A
Question
After working as a head chef for years, Jared gave up his $60,000 salary to open his own restaurant last year. He withdrew $50,000 of his own savings that had been earning 4% interest and borrowed another $100,000 from the bank at a rate of 5%. As the restaurant space he was leasing had no separate office, Jared converted his basement apartment into office space. He had previously rented the apartment to a student for $300/month. The following table summarizes his operations for the past year.
Total sales revenue
$590,000
Employee wages
$120,000
Materials
$350,000
Interest on loan
$5,000
Utilities
$10,000
Rent
$25,000
Total explicit costs
$510,000
What is Jared's accounting profit?
Suppose Jared could have used his talents to run a similar kind of business instead. If he values his entrepreneurial skill at $10,000 annually, find Jared's total implicit costs.
What was Jared's economic profit last year?
Total sales revenue
$590,000
Employee wages
$120,000
Materials
$350,000
Interest on loan
$5,000
Utilities
$10,000
Rent
$25,000
Total explicit costs
$510,000
Explanation / Answer
(1)
Accounting profit = Sales - Total Accounting (Explicit) Costs
= $(590,000 - 510,000)
= $80,000
(2)
Total implicit costs = Salary foregone + Interest given up + Rental income foregone + Entrepreneurial skill valuation
= $[60,000 + (50,000 x 4%) + (300 x 12) + 10,000]
= $(60,000 + 2,000 + 3,600 + 10,000)
= $75,600
(c)
Economic profit = Accounting profit - Total implicit costs
= $(80,000 - 75,600)
= $4,400