Question 1 Jane uses $300,000 of her savings to open a flower shop in Central. T
ID: 1201597 • Letter: Q
Question
Question 1
Jane uses $300,000 of her savings to open a flower shop in Central. The interest rate on the savings account is 3% per annum. In order to run her own business, she gives up her salaried job of $10,000 per month. The annual expenses of her flower shop are as follows:
In her first year’s business, she sells 1,000 bunches of flowers at $400 each.
a What is the accounting profit of Jane’s flower shop? Show your calculation steps.
b What is the economic profit of Jane’s flower shop? Show your calculation steps.
c Is the accounting profit of Jane’s flower shop larger or smaller than its economic profit? Why?
Rent $100,000 Cost of flowers $30,000 Utilities $10,000 Misc $10,000Explanation / Answer
a)
Accounting profit = Sales - Costs
= 1,000 x $400 - (100,000 + 30,000 + 10,000 + 10,000)
= $250,000
b)
Economic Profit = Accounting Profit - Interest Foregone - Salary Foregone
= $250,000 - $300,000 x 3% - $10,000 x 12
= $121,000
c) The accounting profit is larger than the economic profit as it is able to absorb the loss of interest and salary foregone.
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