Answer to Question #274664 in Finance for Dennis

Question #274664

1. Anuradha Sharma, a start up entrepreneur from Bareilly,



has invested Rs 80 lacs in an apparel retail store. Business



has been good, and the store shows an accounting profit of Rs



10 lacs for the last year. This profit is after taxes and after



payment of a Rs 20 lacs salary to Ms. Sharma. This salary is



less than what she could make at another job, which is about



equal to Rs 40 lacs. Considering the risk involved in the



fashion retail business post Covid'19, she believes that a 15



percent after-tax rate of return is appropriate for this type of



investment. (20 marks)



a.



Given this information, calculate the economic profit



earned by Ms Sharma.



b.



What accounting profit would the firm have to earn



in order for the firm to break even in term of economic



profit?

1
Expert's answer
2021-12-02T14:08:17-0500

a.

Economic profit = total revenue – ( explicit costs + opportunity costs)

Accounting profit = total revenue – explicit costs


Economic profit = Accounting profit - opportunity costs

opportunity costs are the profits that a business misses out on when choosing between alternatives.


we have:

opportunity costs:

difference in salaries = -30

15 percent after-tax rate of return = "-(10\\cdot0.15)=-1.5"


so,

Economic profit = "10+30+1.5=41.5"


b.

break even in term of economic profit:

economic profit = 0

then:

Accounting profit = opportunity costs

Accounting profit = "-30-1.5=-31.5"


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