Solution Manual For Managerial Economics: Foundations of Business Analysis and Strategy, 13th Edition

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Chapter 1: Managers, Profits, and Markets1Chapter 1:MANAGERS, PROFITS, AND MARKETSAnswers to Applied Problems1.To say that a decision rule or process does not work in theory is to say that the answer produced by therule is not going to be the “correct” answer. In business decision making, managers get the “correct”answer when their solutions are ones that lead to the greatest level of profit.For example, it is rather easy to calculate the profit margin for a good or service and to make apricing decision that will maximize the profit margin on the good or service. While that may be a verypractical method of determining price, pricing to maximize profit margin does not in theory lead to thepricethatmaximizestheprofitorvalueofthefirm—exceptbyaccidentinextremelyrarecircumstances. The same can be said for making decisions that lead to the lowest possible unit oraverage cost of production. Unit cost is easy to measure, and so it is useful in practice, yet unit cost isnot theoretically the correct measure of cost—i.e., managers cannot, except by accident, find the profit-maximizing price or output level by using average cost data. You will learn that the theoretically correctcost measure is marginal cost for making profit-maximizing decisions.Your training in managerial economics is designed to teach you the best and correct ways to makebusiness decisions, so that you do not settle for the numerous incorrect methods that are still used inmany businesses today. In other words, your goal should be to devise ways to make the theoreticallycorrect decision methods work for your company.2.a.Total explicit cost = $793,000 (= 555,000 + 45,000 + 28,000 + 165,000)Total implicit cost = $190,000 (= 175,000 + 0.15×100,000)Total economic cost = $983,000 (= 793,000 + 190,000)b.Accounting profit = $177,000 (= 970,000 – 793,000)c.Economic profit = –$13,000 (= 970,000 – 983,000)d.The owner’s accounting profit is $13,000 less than what he could have earned in salary and returnon investment of his $100,000, i.e., his economic profit is –$13,000. Thus, he would have made$13,000 more if he had kept his job and invested his $100,000 in stocks of other businesses.3.The $8,000 of lost income, even though not tax-deductible, is indeed part of the economic cost thedoctor incurs by going to Mexico to treat patients, and the doctor should consider this $8,000 cost inmaking her decision to travel to Mexico.4.a.Burton's explicit costs are $18,000 per month. His implicit costs are $20,000 per month ($15,000+ $5,000).b.Opportunity cost = explicit + implicit costs = $18,000 + 20,000 = $38,000 per monthc.Burton Cummings’ costs of production (= $38,000/month) exceed his revenues by $13,000 (=38,000 – 25,000). Rather than lose $13,000 per month, Burton could rent his rig (and receive$15,000 per month) and drive trucks for another firm (and earn $5,000 per month). With this useof his resources he would earn $20,000 per month. Or, Burton could try his luck as a singer in arock band.5.One cost of opening a tennis shop would be the forgone salary of the previous job. Given that Nadal’sor Venus’ foregone income would be much larger than that of a university coach, their opportunity costwould be higher.6.a.Linking the board of directors' compensation to return on equity creates an incentive formanagement to pursue profit-maximization as a goal, thereby reducing the agency problembetween managers and shareholders.

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