Rents, Profits, and the Financial Environment of Business

1
Chapter 21

• Rents, Profits, and the Financial Environment of
  Business

2
Student Advisory

• There are LOTS of items in this lecture that will
  apply to your business project!!!

3
A Few Questions

• How many of you paid too much Rent in your Cost
  of Living Project?
• In relation to Opportunity Costs, did your Rent
  exceed your O.C.?

4
Economic Rent

• Economic Rent A payment for the use of any
  resource over and above its Opportunity Cost

5
Economic Rent - Graphically

• What are Opportunity Costs again?
• In terms of Supply Demand, the Supply curve for
  Economic Rent is perfectly vertical
• Why?

6
Economic Rent Graphically (cont.)

• Is the quantity of land fixed, or does it vary?
• Thus, it is perfectly vertical (inelastic)

7
Economic Rent Graphically (cont.)

• How is Total Revenue calculated from the graph
  again?
• P1 x Q1 TR

8
Economic Rent Labor

• Economic Rent can be applied to things other than
  just Rent
• Ex. Lebron James

9
For Those About To Rock?

• Concert Tickets would be a counterexample to this
• E.G.
• Could more be charged for most tickets?
• Would a concert be attended by more if tickets
  were cheaper?

10
While Were Talking Business

• Firm a business organization that employs
  resources to produce goods and services for
  profit
• Firms normally have at least one plant for
  production, but that is not always the case

11
Local Connection

• Familiar local firms

12
Firm Organization

• If you havent figured this out for your business
  yet, here is your chance
• Proprietorship - ______________
• ____________________________

13
Proprietorship Advantages

• Easy to form and dissolve
• All decision-making power resides with one person
• Profit, by law, is only taxed once since it is
  treated as net income
• Subject to personal income taxes

14
Proprietorship Disadvantages

• Unlimited Liability
• How about raising funds?
• What happens when the proprietor dies?

15
2 Heads Are Better Than 1

• Partnership
• Partnerships tend to occur less frequently
• Also tend to be larger businesses

16
Partnership Advantages

• Easier to form
• Easier for specialization
• Why?
• Income subject to ONLY personal taxation here as
  well

17
The Big Boys

• Corporations a legal entity that may conduct
  business in it own name (just like an individual
  does)
• Owners are shareholders
• They enjoy the protection of Limited Liability

18
Limited Liability

• This law says that a shareholder is limited by to
  the value of the shares they hold

19
Taxes, Taxes, Taxes

• Biggest disadvantage to corps are double taxation
• 1st subject to corporate taxation
• 2nd subject to Dividend taxation
• What is a Dividend?

20
Taxes, Taxes, Taxes

• Owners of corps pay about twice as much in taxes
  on corporate income, as they do in other forms
• That law may change?
• How?

21
Time For Some Math

• In bookkeeping terms, the profits from a Firm are
  calculated this way
• Accounting Profit TR Explicit Costs
• Explicit Cost costs that business managers must
  take into account
• Ex. Wages, Taxes, Rent, etc.

22
The Flip Side

• Implicit Costs - ______________
• ____________________________
• Ex. Owner-provided capital, and Owner-provided
  labor
• So what am I talking about?

23
Opportunity Cost of Capital

• Firms continue to exist ONLY if they maintain a
  Normal Rate of Return
• N.R.R. is what an owner needs to get back on
  their investment in order to keep a business going

24
Opportunity Cost of Capital (cont.)

• For your businesses
• How much personal is going into it?
• Say you put 10 in, then your N.R.R. should be
  10 back

25
A Quick Review

• Whats the difference between Limited and
  Unlimited Liability?
• What are the 3 types of Firm organizations we
  talked about?

26
A Quick Review

• Whats the difference between an Explicit and
  Implicit Costs?
• What was a Normal Rate of Return?

27
More Quick Review

• Tell me about corporations again

28
Credit

• Businesses may have to go to Credit Markets to
  get Financial Capital
• Financial Capital - used to get physical
  capital goods
• Ex. Buldings, Equipment, etc.

29
Credit Problems

• What is the biggest problem with Credit?
• Interest!!!!!!!!!!

30
Business Opportunity Costs

• The investor(s) must get their Normal Rate of
  Return
• Businesses must factor that return into their
  expenditures
• This is known as the Opportunity Cost of Capital

31
Business Opportunity Costs (cont.)

• Ultimately, all firms are looking for the
  Economic Profits
• E.P. Total Revenue (explicit implicit
  costs)
• Goal Profit Maximization

32
Inflation

• Nominal Rate of Interest Market rate of
  interest, expressed in todays dollars
• Interest must be factored
• Whats that mean?

33
Economies Are NOT Perfect

• Lets look at it mathematically
• in Nominal Rate
• ir Real rate of Interest

34
Nominal Interest

• To calculate the Nominal Rate of Interest
• in ir anticipated rate of inflation

35
More Math

• PV1 Present Value
• FV1 Future Sum of Money
• i Market Rate of Interest
• PV1 FV1 / 1 i
• For Examples, consult pg 515 in text

36
Sorry, Even More Math

• Discounting Formula
• t
• PV1 FV1 / (1 i)
• Rate of Discount Rate of Interest used to
  discount future sums back to present value

37
Corporate Financing

• Corps still need from various sources
• The easiest is Reinvestment

38
Corporate Financing

• A Share of Stock a legal claim to a share of a
  corporations future profits
• What corps would you like a S.O.S. from?

39
Corporate Financing

• Bonds A legal claim for an annual coupon
  payment, plus a lump-sum when the bond reaches
  maturity

40
Discounts Investment

• Can someone translate that?
• How can we judge what will happen in the future
  with investments?

41
Let Take A Walk

• Random Walk Theory the best forecast for
  tomorrows price, is todays
• Theory assumes there is no way to get rich
  quick
• Is that true

42
Lets Ask Martha

• The market can be beat
• Insider Information