Business Math/Econ - Profit, Assets and Interest Rate
I have some questions in this business math and econ class.
I have questions on 4 of my HW problem sets.
1.) Bob is starting a new business. At his old job, his salary was $150,000.
- Revenues: $850,000 (From sales)
- Operating Costs and Expenses: $525,000 (Cost of products sold - $375,000; Selling Expenses - $150,000)
- Net Income: $200,000 (Operations Income - $325,000; Income Taxes - $125,000)
This was fine until they added this portion:
- To build a proper inventory, Bob spent $250,000 in which he had various investments paying 10% per year. In the end, he had $250,000 in inventory.
a.) What is accounting profit?
Accounting profit: I added 850K + 200K = $1,050,000. Then subtract $525K. The answer is then $525K.
I don't think you take into account the inventory (and the 10%?) or his original salary with accounting profit because I thought those would be considered implicit expenses. But I'm not sure.
b.) What is economic profit?
Economic profit: I did $525K - $250K - $150K = $125K
But again I don't know what to do with the 10% and the 250K inventory and the salary. Should I take off $25K as well? So it would be $100K?
I just don't know what to do with it.
c.) Did Bob make the right decision to quit his job and start a business? Basically, was it profitable?
If I'm right on the other two then yes he makes money but not as much as he would have? I don't even know what I'd put.
2.) Bob has the chance to buy an asset that would yield $25,000 at the end of each year for 5 years. The price of the asset is $100,000.
a.) If the opportunity cost of funds (interest rate) is 5% a year, should he buy it?
b.) If the opportunity cost of funds (interest rate) is 10% a year, should he buy it?
With this, I used to PV = (FV) / (1+r)^t
PV = present value, FV = future value, r=interest rate and t = years
So, basically I did
a.) ($25K)/(1+0.05)^1 + ($25K)/(1+0.05)^2 ..... + ... +... + ($25K)/(1+0.05)^5 = $108,236.9168
Subtract $100K = + $8236.9168
b.) ($25K)/(1+0.10)^1 + ($25K)/(1+0.10)^2 ..... + ... +... + ($25K)/(1+0.10)^5 = $94,769.66923
Subtract $100K = - $5320.33077
So, does the sound right. According to all the other problems I did, it's correct. The only problem it doesn't make sense to me logically. If you are getting a higher interest rate, wouldn't that be getting you more money automatically which is what we do when opening accounts and banking?
3.) Bob wants to make some investments to improve performance. He has 2 options.
Investment A -
Would save the business $1500 at the end of each year for 3 years
Investment B -
Would save the business $2500 at the end of each year for 5 years
FV/(1+r)^t - C is the formula I used
FV = Future Vale, r = interest rate, t = year and C = investment made/cost
a.) If the interest rate is 10% per year should Bob nvest more money? Which would be better?
Investment A -
(1500)/(1.1)^1 + ... + (1500)/(1.1)^3 - $3000
I got $3730.277986 - $3000 = $730.277986
(2500)/(1.1)^1 + ... + ....+....+ (2500)/(1.1)^5 - $10000
I got 9476.966923 - $10000 = - $523.033077
Yes. Investment A would be better? But barely.... ?
4.) Mango Co. has spent $1 million on a product and has to decide to terminate it or move towards the development phase. To move towrds development, they have to invest another $1 million for production and selling. Mango Co. can expect to make $150K at the end of each year and forever.
Interest rate is 10% per year. Should Mango Co. terminate the product or move toward the development phase?
I used (FV)/(r) because it is an indefinite future at the END of the year. If it was the beginning of the year I would use FV ( (1+r) / (r) ).
So I got $150000/(.1) = $1,500,000
+ $500K so yes?
Thanks for any help given!