Question

Explain the difference between implicit and explicit costs. What are the differences between accounting and economic profits? Give examples for both of these concepts.

Answer 1

1.

A movement of money requires explicit expenditures that may be reported on a balance sheet. Implicit costs are related to the opportunity cost of one plan of action that contributes to reduced profits (e.g. a store that provides space for a charity to raise cash would see lower sales) Implicit costs are typically not registered. Implicit costs are the perceived or predicted reduction of profits from an action, but they do not have a real movement of cash. The need to contend with a fire alarm is an indication of a tacit expense, forcing a factory to shut down for two hours. There is no measurable cost increase, but it contributes to reduced productivity by halting manufacturing, and then there is a reduction in revenue and profits, even though it is not registered.

There is a measurable explicit expense that can be included in profit / loss statements. When the company employs a new employee, for example, their compensation will be an overt expense that will be placed on the financial balance sheet. It could be £20,000 a year, the explicit expense of employing a staff. Hiring a new employee, though, can also mean any implied expenditures. For example, it will take the time of the boss, who may not do other duties while he teaches the new employees, to welcome the new worker and train him to the appropriate level.

2. Economic profit is close to accounting profit in that it deducts from sales explicit expenses. Economic profit though, still involves the opportunity costs in the timeframe for taking one action over another. Economic profit is calculated by economic principles, not the principles of accounting.
The net profits for a company or the bottom line is also known as financial benefit. It's the benefit after the net income or total revenues was subtracted from separate costs and expenditures, as stipulated under generally accepted accounting principles (GAAP).