Deck 1: Managers, Profits, and Markets

Question 1

Suppose Marv, the owner-manager of Marv's Hot Dogs, earned $72,000 in revenue last year. Marv's explicit costs of operation totaled $36,000. Marv has a Bachelor of Science degree in mechanical engineering and could be earning $30,000 annually as mechanical engineer.

A) Marv's implicit cost of using owner-supplied resources is $36,000.
B) Marv's economic profit is $36,000.
C) Marv's implicit cost of using owner-supplied resources is $30,000.
D) Marv's economic profit is $6,000.
E) both c and d.

Answer 1

both c and d.

Question 2

At the beginning of 2008, market analysts expect Atlantis Company, holder of a valuable patent, to earn the following stream of economic profits over the next five years. At the end of five years, Atlantis will lose its patent protection, and analysts expect economic profit to be zero after five years.

If investors apply an annual risk-adjusted discount rate of 15%, the value of Atlantis Company in 2008 is $______________________, which is also the maximum price investors would be willing to pay for Atlantis Company.

A) $726,916
B) $884,912
C) $1,275,000
D) $2,215,000
E) $3,824,318

Answer 2

$884,912

Question 3

A partial income statement from Quest Realty, Inc. is shown below:

In 2008, Quest Realty owned and occupied an office building in downtown Indianapolis. The building could have been leased to other businesses for $2,000,000 in lease income for 2008. Quest Realty also owned undeveloped land valued at $15,000,000. Owners of Quest Realty can earn a 14% rate of return on funds invested elsewhere.

-Total explicit costs of using market-supplied resources for Quest Realty in 2008 are

A) $23,000,000
B) $37,000,000
C) $38,200,000
D) $41,000,000
E) none of the above

Answer 3

$38,200,000

Question 4

A partial income statement from Quest Realty, Inc. is shown below:

In 2008, Quest Realty owned and occupied an office building in downtown Indianapolis. The building could have been leased to other businesses for $2,000,000 in lease income for 2008. Quest Realty also owned undeveloped land valued at $15,000,000. Owners of Quest Realty can earn a 14% rate of return on funds invested elsewhere.

-Total implicit costs of using owner-supplied resources for Quest Realty in 2008 are

A) $4,100,000
B) $19,000,000
C) $38,200,000
D) $41,000,000
E) none of the above

Question 5

A partial income statement from Quest Realty, Inc. is shown below:

In 2008, Quest Realty owned and occupied an office building in downtown Indianapolis. The building could have been leased to other businesses for $2,000,000 in lease income for 2008. Quest Realty also owned undeveloped land valued at $15,000,000. Owners of Quest Realty can earn a 14% rate of return on funds invested elsewhere.

-Total economic cost is

A) $17,000,000
B) $38,200,000
C) $41,000,000
D) $42,300,000

Question 6

A partial income statement from Quest Realty, Inc. is shown below:

In 2008, Quest Realty owned and occupied an office building in downtown Indianapolis. The building could have been leased to other businesses for $2,000,000 in lease income for 2008. Quest Realty also owned undeveloped land valued at $15,000,000. Owners of Quest Realty can earn a 14% rate of return on funds invested elsewhere.

-Quest's accounting profit is

A) -$4,100,000
B) $9,360,000
C) $38,200,000
D) $42,300,000
E) none of the above

Question 7

A partial income statement from Quest Realty, Inc. is shown below:

In 2008, Quest Realty owned and occupied an office building in downtown Indianapolis. The building could have been leased to other businesses for $2,000,000 in lease income for 2008. Quest Realty also owned undeveloped land valued at $15,000,000. Owners of Quest Realty can earn a 14% rate of return on funds invested elsewhere.

-Economic profit in 2008 is

A) $19,000,000
B) $21,800,000
C) $38,200,000
D) $41,000,000
E) none of the above

Question 8

During a year of operation, a firm collects $450,000 in revenue and spends $100,000 on labor expense, raw materials, rent, and utilities. The firm's owner has provided $750,000 of her own money instead of investing the money and earning a 10% annual rate of return.
-The explicit opportunity costs of using market-supplied resources are $______________. The implicit opportunity costs of using owner-supplied resources are $______________. Total economic cost is $______________.

Question 9

During a year of operation, a firm collects $450,000 in revenue and spends $100,000 on labor expense, raw materials, rent, and utilities. The firm's owner has provided $750,000 of her own money instead of investing the money and earning a 10% annual rate of return.
-The firm earns economic profit of $______________.

Question 10

During a year of operation, a firm collects $450,000 in revenue and spends $100,000 on labor expense, raw materials, rent, and utilities. The firm's owner has provided $750,000 of her own money instead of investing the money and earning a 10% annual rate of return.
-The firm's accounting profit is $______________.

Question 11

During a year of operation, a firm collects $450,000 in revenue and spends $100,000 on labor expense, raw materials, rent, and utilities. The firm's owner has provided $750,000 of her own money instead of investing the money and earning a 10% annual rate of return.
-If the owner could earn 15% annually on the money she has invested in the firm, the economic profit of the firm would be ______________ (when revenue is $450,000).

Question 12

Surle Labs produces a single pharmaceutical drug, Zolax, for which the patent expires in four years. After the patent expires, Surle will earn no more economic profits after the fourth year passes because 1) dozens of firms will produce a generic version of Zolax that will drive the price of Zolax down to unit costs, and 2) it has invested nothing in research and development of new drugs and so will have no new sources of profit when the patent on Zolax expires in four years.
You work as a research assistant for an investment-banking firm that specializes in acquisitions of pharmaceutical firms. After examining the financial statements of Surle Labs, you predict that Surle will earn $23 million in economic profit in EACH of the next four years, after which, it will earn zero economic profit forever. Your job is to advise a potential buyer of the drug firm on the market value of this firm. You believe 12 percent is the appropriate risk-adjusted discount rate for valuing Surle Labs.
-a. You estimate (i.e., compute) the value of Surle to be $___________________.

Question 13

Surle Labs produces a single pharmaceutical drug, Zolax, for which the patent expires in four years. After the patent expires, Surle will earn no more economic profits after the fourth year passes because 1) dozens of firms will produce a generic version of Zolax that will drive the price of Zolax down to unit costs, and 2) it has invested nothing in research and development of new drugs and so will have no new sources of profit when the patent on Zolax expires in four years.
You work as a research assistant for an investment-banking firm that specializes in acquisitions of pharmaceutical firms. After examining the financial statements of Surle Labs, you predict that Surle will earn $23 million in economic profit in EACH of the next four years, after which, it will earn zero economic profit forever. Your job is to advise a potential buyer of the drug firm on the market value of this firm. You believe 12 percent is the appropriate risk-adjusted discount rate for valuing Surle Labs.
-b. If conditions in the market deteriorate making investment in drug firms more risky than you had originally anticipated, then you will need to use ____________(a lower, a higher, the same) risk-adjusted discount rate, which will _______________(decrease, increase, not affect) the value of Surle Labs.

Question 14

Over the next three years, a firm is expected to earn economic profit of $200,000 in the first year, $300,000 in the second year, and $250,000 in the third year. After the end of the third year, the firm goes out of business.
-a. If the risk-adjusted discount rate is 9 percent for each of the next three years, the value of the firm is $______________. The firm can be sold today for a price of $______________.

Question 15

Over the next three years, a firm is expected to earn economic profit of $200,000 in the first year, $300,000 in the second year, and $250,000 in the third year. After the end of the third year, the firm goes out of business.
-b. If the risk-adjusted discount rate is 14 percent for each of the next three years, the value of the firm is $______________. The firm can be sold today for a price of $______________.

Question 16

Fill in the blanks in the following questions. Some blanks require TWO words.
-When a firm earns zero economic profit, __________________________ equals total economic cost and ____________________ profit is positive.

Question 17

Fill in the blanks in the following questions. Some blanks require TWO words.
-_______________ profit best measures the performance of a firm because it considers all the costs to a firm of using resources.

Question 18

Fill in the blanks in the following questions. Some blanks require TWO words.
-The value of a firm is ________________ (larger, smaller) the higher is the risk premium used to compute the firm's value.

Question 19

Fill in the blanks in the following questions. Some blanks require TWO words.
-In markets characterized by monopolistic competition, a large number of relatively small firms sell a ____________________________ product.

Question 20

Fill in the blanks in the following questions. Some blanks require TWO words.
-The value of a firm is ________________ (larger, smaller) the lower is the risk premium used to compute the firm's value.

Question 21

Fill in the blanks in the following questions. Some blanks require TWO words.
-The difference between accounting and economic profit is equal to the costs the firm incurs for using ______________________ resources.

Question 22

Fill in the blanks in the following questions. Some blanks require TWO words.
-In corporations, the principals are the ____________________ and the agents are the _______________.

Question 23

Fill in the blanks in the following questions. Some blanks require TWO words.
-Agency problems for firms arise because of moral _______________.

Question 24

Fill in the blanks in the following questions. Some blanks require TWO words.
-Equity ownership is one of the most effective mechanisms for improving corporate __________________ .

Question 25

Fill in the blanks in the following questions. Some blanks require TWO words.
-The value of the monitoring service provided by boards of directors is enhanced by appointing _____________________ and by linking directors' compensation to the _______________ of the firm.