Question

John decided to leave his job and open a bookshop in the city center. He was working as an engineer before and getting an annual salary of $35000. For the bookshop he paid $20000 for his worker, $15000 for rent, $10000 for utilities. He used his savings that was equivalent to $60000 at an interest rate of 7%. He bought all the books that he planned to sell by his savings. If he opens his bookshop in mall rather than city center his profit was predicted to be $25000. At the end of the first year his revenue from sales was identical to $210000. For John

Answer 1

a) Calculate John's explicit costs

Explicit costs are those incurred when a payment is made while running a business. In this case, John made the following payments:

$20,000 in wages for his worker

$15,000 in rent

$100,000 in utilities

So, his total explicit costs are $135,000.

b) Calculate John's implicit costs

Implicit costs are the costs for which payments are not made. In other words, they are the opportunity costs. In this case, John gave up on the following to run his business:

$35,000 of annual salary as an engineer

$60,000 in savings that were earning a 7% interest rate

So, his total implicit costs are $95,000

c) Calculate his total costs

Total costs are the sum of implicit costs and explicit costs:

$135,000 + $95,000 = $230,000

d) Calculate his profit/loss

His accounting profit/loss is equal to total revenue minus explicit costs:

$210,000 - $135,000 = $75,000

His economic profit/loss is equal to total revenue minus total costs:

$210,000 - $230,000 = ($20,000)

e) Should he continue to the business or go back to his job?

While John has an economic loss, he still has an accounting profit, which is equal to $75,000 in a year, more than two times higher than what he made at his job. For this reason, he should continue to the business.