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Chapter 9: Problem 2

You own and operate a bike store. Each year, you receive revenue of $\$ 200,000\( from your bike sales, and it costs you \)\$ 100,000$ to obtain the bikes. In addition, you pay \(\$ 20,000\) for electricity, taxes, and other expenses per year. Instead of running the bike store, you could become an accountant and receive a yearly salary of \(\$ 40,000\). A large clothing retail chain wants to expand and offers to rent the store from you for \(\$ 50,000\) per year. How do you explain to your friends that despite making a profit, it is too costly for you to continue running your store?

Short Answer

Expert verified
Answer: The opportunity cost of continuing to run the bike store is $10,000 per year. This means that by continuing to run the store, the owner is missing out on an additional $10,000 in income that could be gained by switching careers and renting the store to the clothing retail chain. This opportunity cost should be considered in the decision-making process, as it makes running the store too costly despite making a profit.

Step by step solution

01

Profit from running the bike store

To calculate the profit from running the bike store, subtract the cost of obtaining the bikes and the expenses from the revenue. Profit = Revenue - (Cost of bikes + Expenses) Profit = \(200,000 - (\)100,000 + $20,000) Profit = $80,000 So, the profit from running the bike store is $80,000 per year.
02

Income from other options

We have two other options available: becoming an accountant and renting the store to the clothing retail chain. Calculate the combined income from these options: Combined Income = Accountant Salary + Rent Income Combined Income = \(40,000 + \)50,000 Combined Income = $90,000 So, the combined income from these two options is $90,000 per year.
03

Calculate the opportunity cost

The opportunity cost is the difference between the combined income from becoming an accountant and renting the store, and the profit made from running the bike store. Opportunity Cost = Combined Income - Profit from bike store Opportunity Cost = \(90,000 - \)80,000 Opportunity Cost = $10,000 So, the opportunity cost of continuing to run the bike store is $10,000 per year.
04

Explain the financial situation to friends

Although the bike store is making a profit of \(80,000 per year, there is an opportunity cost of \)10,000 per year by not pursuing the other options of becoming an accountant and renting out the store. In other words, by continuing to run the bike store, you are missing out on an additional $10,000 per year in income that could be gained by switching careers and renting the store to the clothing retail chain. This opportunity cost should be considered while deciding whether to continue running the store or pursuing other options, as it makes running the store too costly despite making a profit.

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Most popular questions from this chapter

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