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Problem Set # 1- Managerial Economics

PROBLEM SET #1

A)
Ruth Brennan is evaluating two options. The first option is to open her own legal practice. Based on her business plan, she computed the following annual estimates using very conservative assumptions:

- Total revenue = $320,000
- Purchases = $100,000
- Utility costs = $37,000
- Part-time Administrative Assistant = $45,000

Ruth will operate the business by herself. She will operate the business from a building that she owns. The building has been paid in full.

The second option is to work for a law firm as a legal associate. Her annual salary would be $95,000. She could also rent her building for $74,000 per year.

Compare and contrast the accounting profit and economic profit of each of the two options. (15 points) Which option is the most profitable for Ruth Brennan? (5 points)


B)
Daffy’s is a pet care company that recently increased the average price of its services by 5%. As a result, the number of customers dropped by 4%. Based on this information, what is the price elasticity of demand for services at Daffy’s? How will this 5% increase of the average price of services impact total revenue at Daffy’s?

Buffy’s, a pet adoption company, opens up right next door to Daffy’s. How will this likely impact the demand for services at Daffy’s?

Bufasthar, another pet care company in the area that competes with Daffy’s decided to increase the average price of its services by 3%. How will this decision likely impact the demand for services at Daffy’s?

Assume that the average disposable income in the area in which it operates decreased by 4% over the last year. As a result, the number of customers at Daffy’s decreased by 3%. Based on this information, what is the income elasticity of demand for services at Daffy’s? Are pet care services at Daffy’s considered normal goods?

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