Chapter 7. Cost and Industry Structure Show
By the end of this section, you will be able to:
Private enterprise, the ownership of businesses by private individuals, is a hallmark of the U.S. economy. When people think of businesses, often giants like Wal-Mart, Microsoft, or General Motors come to mind. But firms come in all sizes, as shown in Table 1. The vast majority of American firms have fewer than 20 employees. As of 2010, the U.S. Census Bureau counted 5.7 million firms with employees in the U.S. economy. Slightly less than half of all the workers in private firms are at the 17,000 large firms, meaning they employ more than 500 workers. Another 35% of workers in the U.S. economy are at firms with fewer than 100 workers. These small-scale businesses include everything from dentists and lawyers to businesses that mow lawns or clean houses. Indeed, Table 1 does not include a separate category for the millions of small “non-employer” businesses where a single owner or a few partners are not officially paid wages or a salary, but simply receive whatever they can earn.
Each of these businesses, regardless of size or complexity, tries to earn a profit: [latex]Profit = Total\;Revenue\;-\;Total\;Cost[/latex] Total revenue is the income brought into the firm from selling its products. It is calculated by multiplying the price of the product times the quantity of output sold: [latex]Total\;Revenue = Price\;\times\;Quantity[/latex] We will see in the following chapters that revenue is a function of the demand for the firm’s products. We can distinguish between two types of cost: explicit and implicit. Explicit costs are out-of-pocket costs, that is, payments that are actually made. Wages that a firm pays its employees or rent that a firm pays for its office are explicit costs. Implicit costs are more subtle, but just as important. They represent the opportunity cost of using resources already owned by the firm. Often for small businesses, they are resources contributed by the owners; for example, working in the business while not getting a formal salary, or using the ground floor of a home as a retail store. Implicit costs also allow for depreciation of goods, materials, and equipment that are necessary for a company to operate. (See the Work it Out feature for an extended example.) These two definitions of cost are important for distinguishing between two conceptions of profit, accounting profit and economic profit. Accounting profit is a cash concept. It means total revenue minus explicit costs—the difference between dollars brought in and dollars paid out. Economic profit is total revenue minus total cost, including both explicit and implicit costs. The difference is important because even though a business pays income taxes based on its accounting profit, whether or not it is economically successful depends on its economic profit.
Consider the following example. Fred currently works for a corporate law firm. He is considering opening his own legal practice, where he expects to earn $200,000 per year once he gets established. To run his own firm, he would need an office and a law clerk. He has found the perfect office, which rents for $50,000 per year. A law clerk could be hired for $35,000 per year. If these figures are accurate, would Fred’s legal practice be profitable? Step 1. First you have to calculate the costs. You can take what you know about explicit costs and total them: [latex]\begin{array}{lr}Office\;rental:\; & \$50,000 \\ Law\;clerk's\;salary:\; & +\$35,000 \\ \hline Total\;explicit\;costs:\; &\$85,000 \end{array}[/latex] Step 2. Subtracting the explicit costs from the revenue gives you the accounting profit. [latex]\begin{array}{lr}Revenues:\; & \$200,000 \\ Explicit\;costs:\; & -\$85,000 \\ \hline Accounting\;profit:\; & \$115,000 \end{array}[/latex] But these calculations consider only the explicit costs. To open his own practice, Fred would have to quit his current job, where he is earning an annual salary of $125,000. This would be an implicit cost of opening his own firm. Step 3. You need to subtract both the explicit and implicit costs to determine the true economic profit: [latex]\begin{array}{r @{{}={}} l}Economic\;profit & total\;revenues\;-\;explicit\;costs\;-\;implicit\;costs \\[1em] & \$200,000\;-\;\$85,000\;-\;\$125,000 \\[1em] & -\$10,000\;per\;year \end{array}[/latex] Fred would be losing $10,000 per year. That does not mean he would not want to open his own business, but it does mean he would be earning $10,000 less than if he worked for the corporate firm. Implicit costs can include other things as well. Maybe Fred values his leisure time, and starting his own firm would require him to put in more hours than at the corporate firm. In this case, the lost leisure would also be an implicit cost that would subtract from economic profits. Now that we have an idea about the different types of costs, let’s look at cost structures. A firm’s cost structure in the long run may be different from that in the short run. We turn to that distinction in the next section. Privately owned firms are motivated to earn profits. Profit is the difference between revenues and costs. While accounting profit considers only explicit costs, economic profit considers both explicit and implicit costs. Self-Check Questions
Review Questions
2010 U.S. Census. www.census.gov. accounting profit total revenues minus explicit costs, including depreciation economic profit total revenues minus total costs (explicit plus implicit costs) explicit costs out-of-pocket costs for a firm, for example, payments for wages and salaries, rent, or materials firm an organization that combines inputs of labor, capital, land, and raw or finished component materials to produce outputs. implicit costs opportunity cost of resources already owned by the firm and used in business, for example, expanding a factory onto land already owned private enterprise the ownership of businesses by private individuals production the process of combining inputs to produce outputs, ideally of a value greater than the value of the inputs revenue income from selling a firm’s product; defined as price times quantity sold At the point when you hear a word called ‘benefit’, the picture that strikes a chord is money-related benefits. Yet, as indicated by market analysts or economists, the benefit is much more than money-related benefits. It isn’t only cost/costs that decreased from the incomes; however, there are numerous terms for the benefits. A portion of the sorts of benefits is bookkeeping benefits or accounting profit and monetary benefits or economic profits. While the vast majority think these terms are something very similar and relate these terms to the benefits or profits of associations, they are overlooking what’s really important that these two terms are altogether not quite the same as one another. Bookkeeping benefit or accounting profit comprises of just implicit expenses though the financial benefit or economic profit comprises of both implicit and explicit costs. Meaning of Accounting Profit:Bookkeeping benefit or accounting profit is the net gain procured by the organisation in the wake of decreasing both the explicit expense and different costs from the net income acquired by the organisation by selling the centre product or service of the organisation. Bookkeeping benefit is determined in accordance with the GAAP bookkeeping principles. Explicit expenses are costs that can be estimated without any problem. It incorporates lease, work charges, authoritative expenses, bills, and so forth. Bookkeeping benefits are likewise alluded to as book benefits. Accounting profit = Total income – Explicit expenses How about we comprehend bookkeeping benefits with a model. There is a firm named XYZ which is occupied with selling pants. Assuming that the yearly turnover of the firm is Rs 1,00,000. A portion of the costs of the firm is the unrefined substance cost of Rs 70,000 and pay rates of Rs 5,000. Then, at that point, the bookkeeping benefit of XYZ is 1,00,000 – (70,000+5,000) Accounting profit = Rs 25,000 Meaning of Economic Profit:Monetary benefits or economic profits are characterised as the net benefits procured by the firm in the wake of diminishing both implicit and explicit costs like opportunity costs from the total income acquired by the organisation. Mathematically, financial benefits can be determined utilising the underneath referenced formula. Economic profit = Total income – (Explicit expense + Implicit expense) How about we attempt to comprehend financial benefits with the assistance of a model. Suppose, there is an assembling firm named XYZ that is confronting misfortunes from the most recent couple of years. The chief of this organisation recommended to its top administration that they can make due in the market by either diminishing the expense of assembling or by the expansion of new items to its product offering or product line. The top administration of the firm chooses to decrease the expense of assembling. Then, at that point, for this situation, the income that the firm couldn’t acquire as they have not launched their new items is known as an opportunity cost. This opportunity cost is the expense that must be diminished from the absolute procured income to compute the financial benefits of the firm. Difference between Accounting Profit and Economic Profit:
Conclusion:The two sorts of benefits, for example, bookkeeping benefits and financial benefits, are vital for the development of the organisation in an exceptionally competitive industry. The benefits of the organisation decide how the organisation has acted previously and how it will act later on. However, bookkeeping benefits give the genuine image of the pay of the organisation, and it helps financial backers and investors with respect to the investment choices. Financial benefits are more inside the organisation as it helps the top administration in getting to the opportunity costs in making different choices. It additionally helps in designating assets proficiently. It doesn’t make any difference in which industry your association is performing; what is important is net benefits acquired by the association. In any case, all things considered, both bookkeeping benefits and monetary benefits are incredible approaches to guaranteeing the two investors and financial backers that your organisation is performing admirably on the lookout. Also, see:Class 11 Accountancy Chapter 4 Recording of Transaction 2 What Is Working Capital in Accounting Coordination the Essence of Management Adjustment for Accumulated Profits and Losses Tools of Analysis of Financial Statements Shapes of Total Product Marginal Product and Average Product Curves Accounting for Partnership Basic Concepts Income and Expenditure Account Based on Trial Balance |
Fill in the blanks to explain the difference between economic profit and accounting profit.
Postagens relacionadas
direito autoral © 2024 ifazerum Inc.
