BUSI 620
Answers for QCT1
Salvatore’s chapter 1:
a. Discussion Questions: 9
The normal return on investment is included as part of profit by businesspeople and accountants
but as part of costs (the implicit costs) by economists. Thus, business profit minus the
normal return on investment or implicit costs equals economic profit. It is economic profit
that is important in allocating society's scarce resources among competing uses.
b. Problems: 6, 9, and spreadsheet problem (p.37)
6.
Project 1: PV = $100,000/1.20 + $100,000/(1.20)2 + $100,000/(1.20)3 +
$100,000/(1.20)4
= $258,873.45
Project 2: PV = $75,000/1.20 + $75,000/(1.20)2 + $75,000/(1.20)3 +
$75,000/(1.20)4 + $75,000/(1.20)5 + $75,000/(1.20)6
= $249,413.26
Thus, with a discount rate of 20%, the firm should choose project 1which has higher PV.
9.
(a) The explicit costs are $45,000 + $15,000 + $10,000 + $1,000 + $10,000 = $81,000.
(b) The implicit costs are equal to $25,000 (i.e., the entrepreneur's foregone salary).
(c) The business profit equals total revenue minus the explicit costs, or $120,000 − $81,000
= $39,000.
(d) The economic profit equals total revenues minus the explicit and implicit costs, or
$120,000 – ($81,000 + $25,000) = $14,000.
(e) The normal return on investment equals the implicit costs of the entrepreneur
(i.e. her salary foregone) of $25,000.
Spreadsheet problem
(a) & (b) See attached Excel file.
(c) The covariance is negative, so it indicates that the finishing time and the age change
inversely.
Froeb and McCann’s chapter 3:
a. Individual problems:
3-2
This is an example of the hidden-cost fallacy. The interest payments on the loan are $7,200 per year, so owning may appear to be a good deal, but you must also compute the opportunity cost of the down payment. You forego $3,000 in expected return each year...