You have been hired by a restaurant owner to advise whether or not to close the restaurant. You have determined that the restaurant’s only fixed cost is monthly rent of $5,000. The owner signed a 10-year lease with the landlord four years ago when she opened the restaurant. In the last year her sales revenue has declined to $185,000. She trimmed her labour cost to $125,000, which includes the opportunity cost of her time managing the restaurant. Her cost of materials was reduced to $40,000. She does not foresee any change in revenues or costs over the next six years. Last year her loss was $40,000.00. Her friends advise her to close the restaurant to cut her losses. What would you advise the owner? Explain.
Fixed costs (per month) FCm = $5,000, 10-year lease four years ago, last year her sales revenue TR = $185,000, labour cost $125,000 (includes the opportunity cost of her time managing the restaurant), cost of materials $40,000, no change over the next six years, Last year loss was $40,000.00. The firm should work if the price is above the average variable cost (AVC) to cover its losses, but we have not enough information to calculate AVC and to compare it with price of the goods. So, we don't know exactly if the firm should work.