You are thinking about becoming a Paradise Coffee franchisee. Franchisees are of
ID: 1169003 • Letter: Y
Question
You are thinking about becoming a Paradise Coffee franchisee. Franchisees are offered a business specializing in producing an exclusive line of exotic coffee drinks (similar to Starbucks). Franchisees have had good success in towns without a Starbucks (Paradise franchises gross $220,000 sales on average per year). A franchisee pays a fee of $3,000 a year plus 2.5% of gross sales. You also pay an annual National advertising fee of 3% of gross sales. Paradise requires that you use their paper goods (plates, cups, napkins) because they are imprinted with their logo. They are purchased in bulk from Paradise and will cost $40,000 per year. You also have to use their special brand of coffee beans, which cost $12.00 per pound. You estimate you will use 400 pounds of beans a year. Other food ingredients (syrup, muffins, biscotti, whipped cream, soft drinks, etc) will cost $7,000 a year. You will have to hire four workers whose total annual cost will be $80,000. Monthly costs are utilities $400; rent $1000; and insurance $100. You will have to invest $80,000 of your savings (presently earning 4% per annum) and borrow another $60,000 (on which you will pay explicit interest of $2500 a year). Note: neither the amount of the bank loan nor the $80,000 of your own money you invest is an explicit or implicit cost. However, the interest paid on the bank loan is explicit and the interest foregone on your savings is implicit. You are presently employed as an assistant manager at Little Nero Salads earning $45,000 a year (a job you will have to quit to go into Paradise Coffee). You are certain you are worth $10,000 more than Little Nero is presently paying you.
What is the estimated explicit (accounting) cost of your proposed business? Itemize in detail.
What is the accounting profit you project for your business?
$44,100 Net profit before taxes.
What is the total implicit cost you estimate for your venture? Itemize in detail.
$3,200 Lost Interest
$45,000 Lost Salary
$10,000 Lost potential Salary
Do you project any economic profit? How much?
What is the implied interest rate on your bank loan, based on the above information?
From the profit viewpoint, would this be a viable business to start? Explain:
Explanation / Answer
(1) Explicit costs are:
Annual fee = $3,000
% of gross sales @2,5% = $220,000 x 2.5% = $5,500
Advertising @3% of sales = $6,600
Total paper goods & food ingredients = $40,000 + $400 x 12 + $7,000 = 51,800
Labor cost = $80,000
Utilities = $(400 + 1000 + 400) = $1800
Interest cost = $2,500
(2)
Total explicit cost = $151,200
(3)
Accounting profit = revenue - explicit costs = $68,800
(4)
Total implicit cost = Interest foregone + present salary foregone = $3,200 + $45,000 = $48,200
[NOTE: Your certainty about how much extra you are worth ($10,000) is based on your estimate only, and not a current income. It cannot be included in any calculation]
(5)
Economic profit = accounting profit - implicit costs
= $(68,800 - 48,200) = $20,600
NOTE: Out of 7 sub-parts of this question, the first 5 are answered.
Related Questions
drjack9650@gmail.com
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.