Question

In the problem, I am confused for economic cost because the EC is the sum of accounting and opportunity cost. but what exactly is the opportunity cost? is it Dan's Salary? is it the elxtricity and water? or is it the high end job?

The accounting cost is the sum of the direct costs and raw materials so its 150K (supplies) + 15K (electricity&water) + 50K employse salary + 60K (Dans salary) = 275K

- i dont understand why Dans Salary was used? how is that a dorect cost?

Cooke's Catering is owned by Dan Cooke. For the past year, Cooke's Catering had the following statement of revenues and costs $500,000 Revenues $150,000 Supplies $15,000 Electricity and water $50,000 Employee salaries $60,000 Dan's salary Dan has the option of closing his business and renting out the building he owns for $100,000 per year. In addition, Dan could go work for another catering company for $45,000 per year or for a high end restaurant for $75,000. Answer the following questions: What is Cooke's Catering's accounting cost? What is Cooke's Catering's economic cost? What is Cooke's Catering's economic profit? а. b. с.

Answer 1

(a)

Accounting cost is the expenditure on raw materials and other resources used in production. It also includes the expenditure on labor.

In given case, Dan is employing his own labor as well as hired some workers.

So, salary paid to Dan and salaries paid to employees are expenditure on labor. Therefore, these are accounting costs.

Other accounting costs are supplies, electricity and water.

Calculate the accounting cost -

Accounting cost = Supplies + Electricity and water + Employees salaries + Dan's salary

Accounting cost = $150,000 + $15,000 + $50,000 + $60,000

Accounting cost = $275,000

Thus,

Cooke's Catering's accounting cost is $275,000.

(b)

Economic cost is sum total of accounting cost and opportunity cost.

Opportunity cost is the cost of resources supplied by owners.

In this case, owner is supplying his own labor as well as building.

If the building is not been utilized for business then it could have earned a rent of $100,000.

So,

Foregone rent = $100,000

Dan could have worked at catering company for $45,000 a year or at high end restaurant for $75,000 a year.

The next best alternative for Dan is to work at high end restaurant and earn $75,000.

So, by operating his own business, Dan is losing on a salary of $75,000.

Opportunity cost = Foregone rent + Foregone salary

Opportunity cost = $100,000 + $75,000 = $175,000

Calculate the economic cost -

Economic cost = Accounting cost + Opportunity cost

Economic cost = $275,000 + $175,000

Economic cost = $450,000

Thus,

Cooke's Catering's economic cost is $450,000.

(c)

Calculate the economic profit -

Economic profit = Revenue - Economic cost

Economic profit = $500,000 - $450,000

Economic profit = $50,000

Thus,

Cooke's Catering's economic profit is $50,000