Question

1. Suppose a young chef opened her own restaurant. To do so, she quit her old job that paid her $45,500 per year, cashed in $33,000 in treasury bills that yielded 5.0% annual interest to buy equipment for the restaurant, and took over a store she owned that used to rent for $1000 per month. Her expenses during the first year totaled $50,000 for food, $35,000 for wait staff and part-time kitchen help, and $6000 for utilities (gas, electricity, and water). Her total revenue during her first year was $120,000, which the local chamber of commerce labeled "amazing for a first year restaurant."

1. What were her economic profits for the year? Please show all work.

2. How do her economic profits compare with her accounting profits? Please explain and show all work.

3. If these data did not change, do you think she will stay in the restaurant business? Explain why or why not

Answer 1

a) Total revenue = 120,000

     Explicit costs = 50,000 + 35,000 + 6,000 = $91,000

     Implicit costs = 45,500 + (0.05 * 33,000) + (1,000 * 12) = 45,500 + 1,650 + 12,000 = $59,150

Economic Profit = Total revenue - Explicit costs - Implicit costs

                          = 120,000 - 91,000 - 59,150

                          = -$30,150

b) Accounting profit = Total revenue - Explicit costs

                               = 120,000 - 91,000

                                 = $29,000

c) Since her economic profit is negative,i.e., she is making loss in restaurant business. So, she will not stay in the restaurant business.