Question

Suppose Frank left his $50,000 per year job to start his own consulting business. In his first year, Frank was hired by 6 clients that paid $10,000 each for his services. Frank spent $2,500 on a new laptop and printer and had $1,000 in other business-related expenses in his first year. In his first year, Frank had an accounting profit of ________ and an economic profit of ________.

Answer 1

The correct answer is:

In his first year, Frank had an accounting profit of $6,500 and an economic profit of $10,000.

Step-by-step explanation:

First of all, it is important to note that Frank made a profit at the end of the first year because if 6 clients paid him $10,000 each, his overall income for the year will be $60,000, which is greater than the amount of $50,000 that his former job was paying him.

Accounting profit is the difference between the monetary value of the revenue received and the explicit and implicit costs. Explicit and implicit costs include, cost of purchasing materials/assets, wages to workers etc. In this it is calculated thus:

Revenue received = $60,000

Costs of materials/activities = $2,500 (laptop and printer) + $1,000 (expenses = $3,500

Hence the net accounting revenue received = 60,000 - 3,500 = 56,500.

Therefore, accounting profit = 56,500 - 50,000 (old income) = $6,500

While economic profit is the total value of both monetary and asset values. Hence the economic profit is:

= 60,000 (new income) - 50,000 (old income) = $10,000.