Question

Please answer the questions below:

1. Sam Smith is currently employed as a mechanical engineer and is paid $65,000 per year plus benefits that are equal to 30% of his salary. Sam wants to begin a consulting firm and decides to leave his current job. After his first year in business, Sam's accountant informed him that he had made $45,000 with his consulting business. Sam also notices that he paid $6,000 for a health insurance policy, which was his total benefit during his first year. What was Sam’s opportunity cost?

2. A friend came into your office and said that his bank was out to kill small businesses. You asked him what he meant by this remark, and he said that he read an article that said his bank had just loaned $10 million to a major automobile manufacturer at a rate of 4 percent, which is less than prime. However, your friend just borrowed $50,000 from the same bank and they charged him prime plus three percent, or 7.5 percent. Your friend has been in business for two years, and last year he had a loss of $2,000. How can you explain this difference in interest rate to your friend?

3. Carol Jones wanted her business to increase sales by 50 percent over the next five years. To do this, she must hire three more people. She wanted to determine how to evaluate these people, so she lists their job specifications and develops job descriptions. She also listed where these employees would work and what training they would require. What management functions is Carol performing, and how do they apply to this scenario?

Answer 1

1. Sam has the option to choose from keeping his job as a mechanical engineer or to begin a consulting form on his own. The expected annual return from being a mechanical engineer is $65,000 and the benefits that are equals to 30% of the salary. While the expected annual return from being an owner of a consulting firm is $45,000 minus $6,000 paid for health insurance. Since Sam has decided to become a business owner, his opportunity cost is therefore, a job that made $65,000 a year along with benefits that are equal to 30% of the salary.

2.

When you take out a loan, you are actually borrowing money from the bank. In order to decide whether or not a bank would loan you money, it takes into consideration of all risk factors. There are two different types of risk, systematic and unsystematic. Systematic risk is related to economic, political, and sociological changes that affect all of us. However, unsystematic risk is only related to individual, firm, or industry. In your situation, the bank has to consider the unsystematic risk of you starting a new business with the uncertainty of how much the earning would be.

Therefore, it is likely that the bank would add a certain percentage as a risk premiumon top of the prime lending rate in order to grant you the loan. However, if a company with very good reputation, the bank might grant a loan with an interest rate that is less than the prime rate because it suspect that the company who receive the loan will repay it with no problem. This is also why that major automobile manufacturer was able to secure a loan with less than prime lending rate.

3.

The management functions that Carol is performing are planning, organizing and staffing. Carol is utilizing her goals and where she wants the company to be and planning what needs to get done and how. Carol is preparing information on the positions needed and describing functions and training. Carol is also organizing and writing down what needs to get done and by whom. She is partially also performing the function of staffing as she is looking to hire the employees she needs to reach the goals she set forth for her business.