Two University Graduates, Bill and Steve, Worked for an Advertising

question 272

Essay

Two university graduates, Bill and Steve, worked for an advertising agency at an annual salary of $40,000 each for 3 years after they graduated. Then, they decided to quit their jobs and start a partnership that designs and builds Web sites. They rented an office for $12,000 a year and bought capital for $30,000. To pay for the equipment, Bill and Steve borrowed money from a bank at an annual interest rate of 6 percent. During their first year of operation, the partners' total revenue was $100,000. The market value of their capital at the end of the year was $20,000. If Bill and Steve do not design Web pages, their best alternatives are to return to their previous job.
a) What is the firm's economic depreciation?
b) What are the partnership's costs?
c) What is the firm's economic profit in the first year of operation?

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Definitions:

Pre-acquisition Equity

The equity value of a company before being acquired by another entity, used to assess the financial status and baseline worth of the target company.

Revaluation Surplus

An increase in the carrying amount of an asset, recognized in equity, when its fair value exceeds its carrying amount.

Pre-acquisition Entry

An accounting entry made to adjust the values of the acquirer's and acquiree's assets and liabilities to fair value at the acquisition date.

Non-current Assets

Assets held for long-term use in business operations, not expected to be converted into cash within the next year.