Question

Think of a business you may be interested in starting and take the time to address the following questions in detail (please include the question numbers below when you answer each question): 1. What kind of resources would you need to acquire to operate this business? 2. Which costs are implicit costs? 3. Which resources are fixed and which are variable? 4. Explain the difference between fixed and variable costs for this business. 5. Explain how this business could experience diminishing marginal returns in the short run. 6. Would this business experience economies of scale?

Answer 1

I am looking to start a cab service business, which would provide cab services to individuals, businesses, both individually and also as fleet service.

1. The resources that I may need initially is initial investment money to purchase cars for the company, arrangement of drivers and the money to invest in building a booking interface such as a mobile application or a website for smooth operation for the customers.

2. Implicit costs are costs that are hidden whereas explicit costs are direct business costs that can easily be discerned. The implicit costs would be my opportunty cost to be a full time enterpreneur of this company. If I would be doing any other job, the money that I could have made is the opportunity cost or the implicit cost.

3. The main fixed resource is the cars purchased, whereas variable resources could be drivers, gasoline for the cars, as well as interest or bank payment made towards payment of loan for the cars.

4. Fixes costs are such costs which are more or less fixed for at least an year, whereas variable costs keep changing in a day or week etc. If the loan is flexible with interest rates, this is a variable cost, however if the loan for purchasing the cars for the fleet was taken at a fixed rate of interest, it would be a fixed cost. Similarly gasonline prices keep changing, the wages of drivers keep changing, therefore these would be called as variable cost.

5. It could happen that if I purchased only 1 or 2 car for the businesss rather than purchasing entire fleet of more than 5 cars, I could have used 1 or 2 car much more extensively. However, as we keep increasing the number of cars in our fleet, although we are paying the back borrowing cost of purchasing the cars, we may have more and more numbers of cars not being fully utilized for various resons.

6. In my view, this business may not experience economies of scale as borrowing cost for the car, which is the most important cost component, will remain the same per unit of car, whereas profitability is expected to decrease with increasing number of cars.