Question

2. You own and operate a bike store. Each year, you receive revenue of $200,000 from your bike sales, and it costs you $100,000 to obtain the bikes. In addition, you pay $20,000 for electricity, taxes, and other expenses per year. Instead of running the bike store, you could become an accountant and receive a yearly salary of $40,000. A large clothing retail chain wants to expand and offers to rent the store from you for $50,000 per year. How do you explain to your friends that despite making a profit, it is too costly for you to continue running your store

Answer 1

Economic profit is negative

Step-by-step explanation:

The difference between accounting and economic profit is that economic profit includes notional profit or implicit profit/loss, referred to as opportunity cost.

Opportunity cost refers to the benefits foregone of opting for an alternative when another alternative is chosen instead.

In the given case, Accounting profit = Revenues - Costs

Accounting Profit = $200,000 - ($100,000 + 20,000)

Accounting Profit = $80,000

Economic Profit = Accounting profit - Implicit Costs

Economic Profit = $80,000 - (40,000 + 50,000)

= ($10,000)

Here, the salary foregone of $40,000 and rent foregone of $50,000 represents implicit or opportunity cost.

Thus, economic loss of $10,000 makes the option of running the bike store non viable.