ECONOMICS

1
ECONOMICS

• What is it and why should we study it?

2

• Managerial economics and microeconomic analysis
• Response to macroeconomic events and
  macroeconomic analysis
• Models and simplification of reality

3
Some basic definitions

• Opportunity Cost (explicit and implicit costs)
• Economic profits vs accounting profits
• Market
• Equilibrium
• Market structure
• Total, average, and marginal

4
What is the value of a business?

• Discounted stream of expected future profits
• VF P1/(1i) P2/(1i)2 . Pn/(1i)n
• Example (assume that the discount rate is 5)

VF 10 mill/1.05 10mill/1.1025
12mill/1.157625 28.96 mill
year Profits
2002 10,000,000
2003 10,000,000
2004 12,000,000
5
Changes in the value of the firm

• Anything that changes future profits
• Anything that changes the discount rate
• Price to earning ratio as a measure of the
  markets expectation of future earnings

Maximization of the value of the firm requires
profit maximization in each Period
6
Do managers care about profit maximization?

• Principle-agent problem conflicting interests of
  shareholders and managers.
• Possible solutions include
• payment in companys shares
• borrowing instead of diluting shareholders
  equity
• possibility of a takeover
• Some other problems that can arise include
• moral hazard
• asymmetric information and self-selection