Question

1. Karen is considering opening an ice cream shop. For each of the following costs associated with her business, explain whether the cost is fixed or variable.
   1. $25,000 to lease a building for the shop for one year
   2. $0.12 per wrapper each on ice cream cone
   3. $2,000 for a year of commercial liability insurance
   4. $1.00 of food ingredients for every cone

Assume that each cone includes food ingredients and one wrapper.

5. If Karen sells 15,000 ice cream cones in a year and charges $5 per cone, what will be her annual accounting profit?
6. If Karen has to quit her job and give up a $80,000 annual salary in order to open the ice cream shop, how much economic profit will the shop generate for her?

Answer 1

a)	Lease of $25,000 for building	Fixed cost	Does not vary with output
b)	$0.12 per wrapper each on ice cream cone	Variable cost	Varies with output
c)	$2,000 for a year of commercial liability insurance	Fixed cost	Does not vary with output
d)	a. $1.00 of food ingredients for every cone	Variable cost	Varies with output
	Price per cone is $5, quantity sold 15,000
	Revenue= P X Q
	$5 x 15,000=$75,000		75,000
		$
	Explicit Cost
	Lease for one year	25,000
	Commercial liability Insurance for one year	2,000
	Cost of wrapper ($0.12 x 15,000)	1,800
	Food ingredients ($1.00 x 15,000)	15,000
	Total costs	43,800
	Accounting profit (Revenue- Explicit cost)
	$75,000 - $43,800=	$31,200
	Economic profit
	Revenue - ( explicit+implicit cost)
	Implicit cost is salary foregone	$80,000
	Implict+ explicit cost=$43,800 +$80,000=$123,800
	Economic profit/loss= $75,000-$123,000=-$48,800 (loss)