Susan Jones has a job as a pharmacist earning $45,000 per year, and she is decid
ID: 1191261 • Letter: S
Question
Susan Jones has a job as a pharmacist earning $45,000 per year, and she is deciding whether to take another job as the manager of another pharmacy for $55,000 per year or to purchase a pharmacy that generates revenue of $250,000 per year. To purchase the pharmacy, Susan would have to use her $20,000 savings and borrow another $90,000 at an interest rate of 8 percent per year. The pharmacy that Susan is contemplating purchasing has additional expenses of $100,000 for prescription non-prescription drugs and lines of women’s and men’s personal hygiene products and cosmetics, $45,000 for one full time person and $20,000 for one part time person, $12,000 for rent and $2500 for electricity and $1300 for natural gas, $1200 for telecommunications and . Depreciation and amortization expenses are $5500. Assume that income and business taxes are 35% and the repayment of the principal of the loan does not start before three years. Also assume that revenue is expected to grow at 5% per year and expenses at 3% per year over the three years. (a) What would be the business and economic profit if Susan purchases the pharmacy? (b) Suppose that Susan expects to sell the pharmacy at the end of three years for $50,000 more than the price she paid for it and that she requires a 12 percent return on his investment. Should she still purchase the pharmacy?
Explanation / Answer
a) Business Profit = Total revenue - total explicit cost
total revenue = 250000
total explicit cost = 1,00,000 + 45000 + 20000 + 12000+ 2500 +1300 + 1200 +5500 + 7200 (8% interest fo 90000) = 194700
Business Profit = 250000- 194700 = 55300
Economic Profit = Business Profit - Implicit Cost
Implicit Cost = 55000 (her salary as opportunity cost) + 1200 (8% of 20000) = 56200
Economic Profit = 55300 - 56200 = - 900
b) Cost fo Purhase 20000 + 90000 = 110000
return expected 12% p.a for three years (13200 *3 = 39600)
i.e. 110000 + 39600
= 149600
Income gained = 55300 *3 = 165900
Plus amount ot be received on sale 215900
since her expected return is 149600 and her actual earnings are 215900. she should stilll purchase the pharmacy.
if we consider implicit cost also then she should certainly not buy the pharmacy.
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