Chapter 01 - The Fundamentals of Managerial Economics

Chapter 01
The Fundamentals of Managerial Economics

MultipleChoiceQuestions

1.Thehighertheinterestrate:
a.Thegreaterthepresentvalueofafutureamount
B.Thesmallerthepresentvalueofafutureamount
c.Thegreaterthelevelofinflation
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

2.Iftheinterestrateis10%andcashflowsare$1,000attheendofyearoneand$2,000atthe
endofyeartwo,thenthepresentvalueofthesecashflowsis
A.$2,562
b.$3,200
c.$439
d.$3,000

Difficulty:Easy

3.Accountingprofitsare:
A.Totalrevenueminustotalcost
b.Totalcostminustotalrevenue
c.Marginalrevenueminustotalcost
d.Totalrevenueminusmarginalcost

Difficulty:Easy

1-1

Chapter 01 - The Fundamentals of Managerial Economics

4.Economicprofitsare:
a.Totalrevenueminustotalcost
b.Marginalrevenueminusmarginalcost
C.Totalrevenueminustotalopportunitycost
d.Totalprofitsoftheeconomyasawhole

Difficulty:Easy

5.Whichofthefollowingisanimplicitcosttoafirmthatproducesagoodorservice?
a.Laborcosts
b.Costsofoperatingproductionmachinery
C.Foregoneprofitsofproducingadifferentgoodorservice
d.Costsofrentingorbuyinglandforaproductionsite

Difficulty:Medium

6.Whichofthefollowingisanimplicitcostofgoingtocollege?
a.Tuition
b.Costofbooksandsupplies
c.Roomandboard
D.Foregonewages

Difficulty:Easy

7.Whichofthefollowingsignalstotheownersofscarceresourcesarethebestusesofthose
resources?
A.Profitsofbusinesses
b.Governmentregulations
c.Economicindicators
d.Theaccountingcostofthoseresources

Difficulty:Medium

1-2

Chapter 01 - The Fundamentals of Managerial Economics

8.Theprimaryinducementfornewfirmstoenteranindustryis:
a.Increasedtechnology
b.Availabilityoflabor
c.Lowcapitalcosts
D.Presenceofeconomicprofits

Difficulty:Easy

9.Asmorefirmsenteranindustry
a.Accountingprofitsincrease
B.Economicprofitsdecrease
c.Pricesrise
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

10.Scarceresourcesareultimatelyallocatedtowardtheproductionofgoodsmostwantedby
societybecause:
A.Firmsattempttomaximizeprofits
b.Theyaremostefficientlyutilizedintheseareas
c.Consumersdemandinexpensivegoodsandservices
d.Managersarebenevolent

Difficulty:Medium

11.Theopportunitycostofreceivingtendollarsinthefutureasopposedtogettingthatten
dollarstodayis:
A.Theforegoneinterestthatcouldbeearnedifyouhadthemoneytoday
b.Thetaxespaidonanyearnings
c.Thevalueof$10relativetothetotalincomeofthatperson
d.Thevalueof$10relativetothetotalincomeofallpersons

Difficulty:Easy

1-3

Chapter 01 - The Fundamentals of Managerial Economics

12.Iftheinterestrateis5%,whatisthepresentvalueoftendollarsreceivedoneyearfrom
now?
a.$9.50
b.$10.05
C.$9.52
d.$9.77

Difficulty:Medium

13.Ifyouput$1,000inasavingsaccountataninterestrateof10%,howmuchmoneywill
youhaveinoneyear?
a.$1,200
b.$909
c.$950
D.$1,100

Difficulty:Easy

14.Iftheinterestrateisfivepercent,thepresentvalueof$200receivedattheendoffive
yearsis:
a.$121.34
B.$156.71
c.$176.41
d.$132.62

Difficulty:Hard

15.Whendealingwithpresentvalue,ahigherinterestrate:
a.Doesnoteffectthepresentvalueofthefutureamount
b.Increasesthepresentvalueofafutureamount
C.Decreasesthepresentvalueofafutureamount
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

1-4

Chapter 01 - The Fundamentals of Managerial Economics

16.Afarmmustdecidewhetherornottopurchaseanewtractor.Thetractorwillreducecosts
by$2,000inthefirstyear,$2,500inthesecondand$3,000inthethirdandfinalyearof
usefulness.Thetractorcosts$9,000today,whiletheabovecostsavingswillberealizedatthe
endofeachyear.Iftheinterestrateissevenpercent,whatisthenetpresentvalueof
purchasingthetractor?
a.$6,764
b.$9,362
c.$18,362
D.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Medium

17.Afirmwillhaveconstantprofitsof$100,000peryearforthenextfouryearsandthe
interestrateissixpercent.Assumingtheseprofitsarerealizedattheendofeachyear,whatis
thepresentvaluethesefutureprofits?
a.$325,816
b.$376,741
c.$400,000
D.$346,511

Difficulty:Medium

18.Afirmwillmaximizethepresentvalueoffutureprofitsbymaximizingcurrentprofits
whenthe:
a.Growthrateinprofitsisconstant
b.Growthrateinprofitsislargerthantheinterestrate
C.Interestrateislargerthanthegrowthrateinprofitsandbothareconstant
d.Growthrateandinterestrateareconstantandequal

Difficulty:Medium

1-5

Chapter 01 - The Fundamentals of Managerial Economics

19.Supposetheinterestrateisfivepercent,theexpectedgrowthrateofthefirmistwo
percent,andthefirmisexpectedtocontinueforever.Ifcurrentprofitsare$1,000,whatisthe
valueofthefirm?
a.$31,000
b.$30,000
c.$26,500
D.$35,000

Difficulty:Hard

20.Tomaximizeprofits,afirmshouldcontinuetoincreaseproductionofagooduntil:
a.Totalrevenueequaltotalcost
b.Profitsarezero
C.Marginalrevenueequalsmarginalcost
d.Averagecostequalsaveragerevenue

Difficulty:Medium

Usethefollowingtabletoanswerquestions2125:

1-6

Chapter 01 - The Fundamentals of Managerial Economics

21.Whatisthemarginalrevenueofproducingthethirdunit?
a.250
B.70
c.0
d.90

Difficulty:Medium

22.Whatisthemarginalcostofproducingthefifthunit?
a.270
B.110
c.50
d.0

Difficulty:Medium

23.Atwhatlevelofoutputdoesmarginalcostequalmarginalrevenue?
a.1
b.2
C.3
d.4

Difficulty:Medium

24.Whatisthelevelofnetbenefitswhenfourunitsareproduced?
a.0
b.70
c.70
D.20

Difficulty:Easy

1-7

Chapter 01 - The Fundamentals of Managerial Economics

25.Whatisthemarginalnetbenefitofproducingthefourthunit?
A.50
b.0
c.60
d.40

Difficulty:Medium

26.Theadditionalbenefitsthatarisebyusinganadditionalunitofthemanagerialcontrol
variableisdefinedasthe:
a.Totalbenefit
b.Opportunitycost
C.Marginalbenefit
d.Presentvalueofbenefits

Difficulty:Easy

27.Theadditionalcostincurredbyusinganadditionalunitofthemanagerialcontrolvariable
isdefinedasthe:
a.Totalcost
b.Netcost
c.Netbenefit
D.Marginalcost

Difficulty:Medium

28.Thechangeinnetbenefitsthatarisefromaoneunitchangeinquantityisthe:
A.Marginalnetbenefits
b.Totalnetbenefits
c.Variablebenefits
d.Presentvaluebenefits

Difficulty:Easy

1-8

Chapter 01 - The Fundamentals of Managerial Economics

29.Thedifferencebetweenmarginalbenefitsandmarginalcostsarethe:
a.Profits
B.Marginalnetbenefits
c.Opportunitycost
d.Accountingcost

Difficulty:Easy

30.Inordertomaximizenetbenefits,firmsshouldproducewhere:
a.Totalbenefitsequaltotalcosts
b.Profitsarezero
c.Marginalcostisminimized
D.Marginalbenefitsequalmarginalcosts

Difficulty:Medium

31.GiventhecostfunctionC(Y)=6Y2,whatisthemarginalcost?
a.6Y
b.Y2
c.3Y
D.12Y

Difficulty:Medium

32.GiventhebenefitfunctionB(Y)=400Y2Y2,themarginalbenefitis:
a.200Y
b.4002Y2
C.4004Y
d.8002Y

Difficulty:Medium

1-9

Chapter 01 - The Fundamentals of Managerial Economics

33.SupposetotalbenefitsandtotalcostsaregivenbyB(Y)=100Y8Y2andC(Y)=10Y2.
Thenmarginalbenefitsare:
A.10016Y
b.100Y8Y2
c.504Y
d.200Y10Y

Difficulty:Medium

34.SupposetotalbenefitsandtotalcostsaregivenbyB(Y)=100Y8Y2andC(Y)=10Y2.
Thenmarginalcostsare:
a.20Y2
b.40
c.5Y
D.20Y

Difficulty:Medium

35.SupposetotalbenefitsandtotalcostsaregivenbyB(Y)=100Y8Y2andC(Y)=10Y2.
WhatlevelofYwillyieldthemaximumnetbenefits?
a.75/36
b.75/18
c.50/18
D.100/36

Difficulty:Hard

36.SupposetotalbenefitsandtotalcostsaregivenbyB(Y)=100Y8Y2andC(Y)=10Y2.
Whatisthemaximumlevelofnetbenefits?
a.92
B.139
c.78
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Hard

1-10

Chapter 01 - The Fundamentals of Managerial Economics

37.Ifaproduceroffersapricethatisinexcessofaconsumer'svaluationofthegood,the
consumer:
a.Mustbuythegoodatthatprice
B.Willrefusetopurchasethegood
c.Mustrevaluethegood
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Medium

38.Negotiationsbetweenthebuyerandsellerofanewhouseisanexampleof:
a.Consumerconsumerrivalry
B.Consumerproducerrivalry
c.Producerproducerrivalry
d.Monopoly

Difficulty:Medium

39.Thebehaviorofbiddersinanauctionisanexampleof:
A.Consumerconsumerrivalry
b.Consumerproducerrivalry
c.Producerproducerrivalry
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Medium

40.Underproducerproducerrivalry,individualfirmswanttoselltheproductatthe
maximumpriceconsumerswillpay,butareunabletodothisbecauseof:
a.Costconsiderations
b.Thescarcityofresources
C.Competitionamongsellers
d.Competitionamongbuyers

Difficulty:Medium

1-11

Chapter 01 - The Fundamentals of Managerial Economics

41.IntheWealthofNations,AdamSmitharguesthat:
A.Selfinterestleadstotheefficientallocationofresources
b.Benevolenceleadstotheefficientallocationofresources
c.Profitsaremaximizedwheremarginalrevenueequalsnetmarginalbenefits
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

42.Otherthingsequal,thegreatertheinterestrate:
A.ThelowertheNPV
b.ThehighertheNPV
c.ThehigherthePV
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

43.Economics
A.Existsbecauseofthescarcity
b.Isnotrelatedtodecisionmaking
c.Isthesciencefortherich
d.Hasnothingtodowiththeallocationofresources

Difficulty:Easy

44.Managerialeconomics
a.Haslittletosayaboutdaytodaydecisions
B.Isvaluabletothecoordinatorofashelterforthehomeless
c.Isnotrelevantformanagersof"notforprofit"groups
d.Isthestudyofhowtogetrichinthestockmarket

Difficulty:Medium

1-12

Chapter 01 - The Fundamentals of Managerial Economics

45.Basicprinciplesthatcomprisegoodmanagementinclude
a.Identifyinggoalsandconstraints
b.Recognizingthenatureandimportanceofprofits
c.Understandingincentives
D.Allofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

46.Whichofthefollowingisthemaingoalofacontinuingcompany?
A.Tomaximizethevalueofthefirm
b.Tominimizecosts
c.Toimproveproductquality
d.Toenhancetheservicetoitscustomers

Difficulty:Easy

47.Whichofthefollowingis(are)true?
a.Accountingcostsgenerallyunderstateeconomiccosts
b.Accountingprofitsgenerallyoverstateeconomicprofits
c.Intheabsenceofanyopportunitycosts,accountingprofitsequaleconomicprofits
D.Allofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Medium

48.Whichofthefollowingisincorrect?
a.Accountingprofitsgenerallyoverstateeconomicprofits
b.Accountingprofitsdonottakeopportunitycostintoaccount
c.Economiccostsincludenotonlytheaccountingcostsbutalsotheopportunitycostsofthe
resourcesusedinproduction
D.Managersshouldonlybeinterestedinaccountingprofits

Difficulty:Medium

1-13

Chapter 01 - The Fundamentals of Managerial Economics

49.Whatisthemainroleofeconomicprofits?
A.Tosignalwhereresourcesaremosthighlyvalued
b.Tohelpfirmscovertheirproductioncosts
c.Tohelpconsumerscovertheiropportunitycost
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

50.Iftheannualinterestrateis0%,thepresentvalueofreceiving$1.10inthenextyearis:
a.$1.00
b.$1.01
c.$1.11
D.$1.10

Difficulty:Medium

51.Iftheinterestrateis5%,$10receivedattheendof7yearsisworthhowmuchtoday?
a.100/(0.05)7
B.100/(1+0.05)7
c.100/(1+5)7
d.100

Difficulty:Medium

52.Astheinterestrateincreases,theopportunitycostofwaitingtoreceiveafutureamount:
A.Increases
b.Decreases
c.Mayriseorfall
d.Remainsthesame

Difficulty:Easy

1-14

Chapter 01 - The Fundamentals of Managerial Economics

53.Thehighertheinterestrate,thegreaterthe
a.Presentvalue
b.Netpresentvalue
c.Allofthestatementsassociatedwiththisquestionarecorrect
D.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

54.Toaneconomist,maximizingprofitis:
A.Maximizingthevalueofthefirm
b.Maximizingthecurrentyear'sprofits
c.Minimizingthepermanenttotalcosts
d.Minimizingthefuturerisks

Difficulty:Medium

55.Thevalueofthefirmisthe:
a.Currentvalueofprofits
B.Presentdiscountedvalueofallfutureprofits
c.Averagevalueofallfutureprofits
d.Totalvalueofallfutureprofits

Difficulty:Medium

56.Marginalbenefitsarethe:
A.Incrementalbenefitsofadecision
b.Averagebenefitsofadecision
c.Totalbenefitsofadecision
d.Presentdiscountedbenefitofadecision

Difficulty:Easy

1-15

Chapter 01 - The Fundamentals of Managerial Economics

57.Theoptimalamountofstudyingisdeterminedbycomparing:
a.Marginalbenefitandthetotalcostofstudying
b.Marginalbenefitandthetotalbenefitofstudying
C.Marginalbenefitandthemarginalcostofstudying
d.Totalbenefitandthetotalcostofstudying

Difficulty:Easy

58.Ifmarginalbenefitsexceedmarginalcosts,itisprofitableto:
A.IncreaseQ
b.DecreaseQ
c.StayatthatlevelofQ
d.Allofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Medium

59.Ifmarginalcostsexceedmarginalbenefits,then:
a.Thefirmendsupwithanetloss
b.Thefirm'saveragecostsexceedaveragebenefits
C.Thefirmshoulddecreaseitsproductionlevel
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Medium

60.Inordertomaximizenetbenefits,themanagerialcontrolvariableshouldbeuseduptothe
pointwhere:
a.Totalcostsequaltotalbenefits
b.Averagecostsequalmarginalbenefits
c.Averagebenefitsequalmarginalcosts
D.Netmarginalbenefitsequalzero

Difficulty:Easy

1-16

Chapter 01 - The Fundamentals of Managerial Economics

61.Maximizingtotalbenefitsisequivalenttomaximizingnetbenefitsifandonlyifthereare:
a.Constantcostsassociatedwithachievingmorebenefits
B.Nocostsassociatedwithachievingmorebenefits
c.Increasingcostsassociatedwithachievingmorebenefits
d.Decreasingcostsassociatedwithachievingmorebenefits

Difficulty:Medium

62.Whichofthefollowingistheincorrectstatement?
a.Themarginalbenefitscurveistheslopeofthetotalbenefitscurve
b.Db(Q)/dQ=MB
c.TheslopeofthenetbenefitcurveishorizontalwhereMB=MC
D.Thedifferenceintheslopeofthetotalbenefitcurveandthetotalcostcurveismaximized
attheoptimallevelofQ

Difficulty:Hard

63.WhenMB=30012YandTC=12Y+108,theoptimallevelofYis:
a.25
b.4.5
c.8
D.24

Difficulty:Hard

64.Incentiveplansimply:
a.Ifmanagersgethighlypaid,thentheyworkhard
B.Ifmanagersputforthlittleeffort,theyreceivelittlepay;iftheyputforthmucheffortand
hencegeneratemanysales,theyreceivealotofpay
c.Managersarenotselfish
d.Managersshouldbewatchedallthetime

Difficulty:Medium

1-17

Chapter 01 - The Fundamentals of Managerial Economics

65.Whichofthefollowingisnotthesourceofrivalrythatexistsineconomictransactions?
a.Consumerproducerrivalry
b.Producerproducerrivalry
C.Governmentproducerrivalry
d.Allofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Medium

66.Consumerproducerrivalryoccursbecauseof:
a.Consumers'highvaluationandproducers'lowproductioncostofagood
b.Producers'highproductioncostandconsumers'lowvaluationofagood
C.Thecompetinginterestsofconsumersandproducers
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

67.Tradewilltakeplace:
a.Ifthemaximumthataconsumeriswillingandabletopayislessthantheminimumprice
theproduceriswillingandabletoacceptforagood
B.Ifthemaximumthataconsumeriswillingandabletopayisgreaterthantheminimum
pricetheproduceriswillingandabletoacceptforagood
c.Onlyifthemaximumthataconsumeriswillingandabletopayisequaltotheminimum
pricetheproduceriswillingandabletoacceptforagood
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Medium

68.Consumerconsumerrivalry:
a.Increasesthenegotiatingpowerofconsumersinthemarketplace
b.Reducesthenegotiatingpowerofproducersinthemarketplace
C.Reducesthenegotiatingpowerofconsumersinthemarketplace
d.Increasesthelikelihoodofgovernmentinterventioninthemarketplace

Difficulty:Hard

1-18

Chapter 01 - The Fundamentals of Managerial Economics

69.Consumerconsumerrivalryarisesbecauseof:
a.Humannature
b.Thelimitednumberofsuppliers
C.Thescarcityofgoodsavailable
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Medium

70.Producerproducerrivalryfunctions:
A.Onlywhenmultiplesellersforaproductcompeteinthemarket
b.Onlywhensinglesellersforaproductcompeteinthemarket
c.Regardlessofthenumberofsellers
d.Evenwhencustomersarenotscarce

Difficulty:Medium

71.Becauseofproducerproducerrivalry,thepricewilltendto:
A.Bedriventoalowerprice
b.Riseuptothemaximumpricetheconsumersarewillingandabletopay
c.Bethesameasthecompetitiveprice
d.Bethesameasthemonopolyprice

Difficulty:Medium

72.Whichisthecorrectstatementabouttherelationshipbetweengovernmentandthe
market?
a.Governmentshouldinterveneontheconsumers'behalf
b.Governmentshouldinterveneontheproducers'behalf
c.Governmentshouldnotinterveneonanyparty'sbehalf
D.Governmentoftenplaysaroleindiscipliningthemarketprocess

Difficulty:Easy

1-19

Chapter 01 - The Fundamentals of Managerial Economics

73.Supposethegrowthrateofthefirm'sprofitis5%,theinterestrateis6%,andthecurrent
profitsofthefirmare80milliondollars:Whatisthevalueofthefirm?
a.$89.2million
b.$1,413.3million
C.$8,480million
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Hard

74.Supposethegrowthrateofthefirm'sprofitis5%,theinterestrateis6%,andthecurrent
profitsofthefirmare100milliondollars.Whatisthevalueofthefirm?
a.$111.5million
b.$1,766.6million
C.$10,600million
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Hard

75.Maximizingthepresentvalueofallfutureprofitsisthesameasmaximizingcurrent
profitsifthegrowthrateinprofitsis:
a.Greaterthantheinterestrate
B.Lessthantheinterestrate
c.Equaltotheinterestrate
d.Notconstantovertime

Difficulty:Medium

1-20

Chapter 01 - The Fundamentals of Managerial Economics

76.Marginalbenefitrefersto:
a.Theaveragebenefitsthatarisebyusinganadditionalunitofthemanagerialcontrol
variables
B.Theadditionalbenefitsthatarisebyusinganadditionalunitofthemanagerialcontrol
variables
c.Thechangeinaveragebenefitsarisingfromachangeinthecontrolvariable
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

1-21

Chapter 01 - The Fundamentals of Managerial Economics

77.Generallywhencalculatingprofitsastotalrevenueminustotalcosts,accountingprofits
arelargerthaneconomicprofitsbecauseeconomiststakeintoaccount
a.Onlyexplicitcosts
b.Onlyimplicitcosts
C.Bothexplicitandimplicitcosts
d.Bothtypesofprofitsarealwaysequalbecausetheyaccountforthesamecosts

Difficulty:Easy

78."Ourmarginalrevenueisgreaterthanourmarginalcostatthecurrentproductionlevel."
Thisstatementindicatesthatthefirm
a.Ismaximizingprofits
B.Shouldincreasethequantityproducedtoincreaseprofits
c.Shoulddecreasethequantityproducedtoincreaseprofits
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

79.Iftheinterestrateis5%andcashflowsare$3,000attheendofyearoneand$5,000atthe
endofyeartwo,thenthepresentvalueofthesecashflowsis
A.$7,392.29
b.$8,400.34
c.$4,222.50
d.$400.74

Difficulty:Medium

80.Newfirmshaveincentivetoenteranindustrywhenthereis
a.Newproductiontechnologies
B.Positiveeconomicprofits
c.Anabundanceoflabor
d.Highcapitalcosts

Difficulty:Easy

1-22

Chapter 01 - The Fundamentals of Managerial Economics

81.Propertyownersmovescarceresourcestowardstheproductionofgoodsmostvaluedby
societybecause
a.Governmentcontrolstheallocationofresources
B.Consumersdemandinexpensivegoodsandservices
c.Managersaresolelypursuingtheinterestsofsociety
d.Firmsattempttomaximizeprofits

Difficulty:Easy

82.Iftheinterestrateis12.5%,whatisthepresentvalueof$200receivedinoneyear?
a.$25
B.$177.77
c.$197
d.$225

Difficulty:Medium

83.Ifyouput$700inasavingsaccountataninterestrateof3%,howmuchmoneywillyou
haveinoneyear?
a.$370
b.$679.61
c.$703.00
D.$721

Difficulty:Medium

84.Iftheinterestrateis3%,thepresentvalueof$900receivedattheendof4yearsis:
a.$792.00
B.$799.64
c.$873.79
d.$927.40

Difficulty:Medium

1-23

Chapter 01 - The Fundamentals of Managerial Economics

85.Maximizingthelifetimevalueofthefirmisequivalenttomaximizingthefirm'scurrent
profitsifthe
A.Interestrateislargerthanthegrowthrateinprofitsandbothareconstant
b.Growthrateinprofitsisconstantandislargerthantheinterestrate
c.Interestrateissmallerthanthegrowthrateofprofits
d.Growthrateofprofitsandtheinterestrateareequal

Difficulty:Hard

86.GiventhebenefitfunctionB(Y)=200Y3Y2,themarginalbenefitis:
a.600Y
b.2003Y
c.2006Y2
D.2006Y

Difficulty:Medium

87.Negotiationbetweenthebuyerandsellerofanewskiboatisanexampleof:
A.Consumerproducerrivalry
b.Consumerconsumerrivalry
c.Producerproducerrivalry
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

88.Iftheannualinterestrateis0%,thepresentvalueofreceiving$210inthenextyearis:
a.$221
b.$200
c.$201
D.$210

Difficulty:Easy

1-24

Chapter 01 - The Fundamentals of Managerial Economics

89.Iftheinterestrateis7%,$500receivedattheendof9yearsisworthhowmuchtoday?
a.500/(0.07)9
B.500/(1+.07)9
c.500/(1+7)9
d.500

Difficulty:Easy

90.Supposethegrowthrateofthefirm'sprofitis7%,theinterestrateis10%,andthecurrent
profitsofthefirmare120milliondollars:Whatisthevalueofthefirm?
a.$44million
b.$4,280million
C.$4,400million
d.$6,800million

Difficulty:Medium

91.Theopportunitycostofanactionisthe
a.Monetarypaymenttheactionrequired
B.Valueofthemosthighlyvaluedalternativeactiongivenup
c.Costofallalternativeactionsthatcouldhavebeentaken
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Easy

1-25

Chapter 01 - The Fundamentals of Managerial Economics

Usethefollowingtabletoanswerquestions92101:

92.Whatisthetotalbenefitassociatedwithproducingfourunitsofthecontrolvariable,Q
(identifypointAintheabovetable)?
a.600
b.2,600
C.3,000
d.3,400

Difficulty:Easy

93.Whatisthetotalcostassociatedwithproducingeightunitsofthecontrolvariable,Q
(identifypointBintheabovetable)?
a.3,000
B.3,600
c.3,800
d.4,200

Difficulty:Easy

1-26

Chapter 01 - The Fundamentals of Managerial Economics

94.Whatisthenetbenefitassociatedwithproducingtwounitsofthecontrolvariable,Q
(identifypointCintheabovetable)?
a.600
b.800
c.1,200
D.1,400

Difficulty:Easy

95.Whatisthemarginalbenefitassociatedwithproducingsixunitsofthecontrolvariable,Q
(identifypointDintheabovetable)?
a.600
B.400
c.200
d.100

Difficulty:Easy

96.Whatisthemarginalcostassociatedwithproducingthreeunitsofthecontrolvariable,Q
(identifypointEintheabovetable)?
a.50
b.100
c.200
D.300

Difficulty:Easy

97.Whatisthemarginalnetbenefitassociatedwithproducingfiveunitsofthecontrol
variable,Q(identifypointFintheabovetable)?
a.100
b.75
C.0
d.100

Difficulty:Easy

1-27

Chapter 01 - The Fundamentals of Managerial Economics

98.Themarginalcostintheabovetableis
a.Increasingatanincreasingrate
b.Decreasingatanincreasingrate
C.Increasingataconstantrate
d.Decreasingatadecreasingrate

Difficulty:Hard

99.Themarginalbenefitintheabovetableis
a.Increasingataconstantrate
B.Decreasingataconstantrate
c.Increasingatadecreasingrate
d.Decreasingatanincreasingrate

Difficulty:Hard

100.Tomaximizenetbenefitsintheabovetableitismostappropriatetouse
a.Fourunitsofthecontrolvariable,sincethemarginalbenefitexceedsmarginalcost
b.Sixunitsofthecontrolvariable,sincethemarginalcostexceedsmarginalbenefit
C.Fiveunitsofthecontrolvariable,sincenetmarginalbenefitsarezero
d.Noneofthestatementsassociatedwiththisquestionarecorrect

Difficulty:Medium

101.Totalbenefitsintheabovetableare
A.Increasingatadecreasingrate
b.Increasingataconstantrate
c.Decreasingataconstantrate
d.Decreasingatanincreasingrate

Difficulty:Hard

1-28

Chapter 01 - The Fundamentals of Managerial Economics

102.Totalcostsintheabovetableare
a.Decreasingataconstantrate
B.Decreasingatandecreasingrate
c.Increasingataconstantrate
d.Increasingatanincreasingrate

Difficulty:Hard

103.Netbenefitsintheabovetable
a.Initiallyincrease,reachamaximumandthendecrease
B.Initiallydecrease,reachaminimumandthenincrease
c.Remaintherelativelystableoverdifferentvaluesforthecontrolvariable
d.Initiallyremainrelativelystableandthendecrease

Difficulty:Hard

104.Marginalnetbenefitsintheabovetable
a.Initiallyincrease,reachamaximumandthendecrease
B.Initiallydecrease,reachaminimumandthenincrease
c.Remaintherelativelystableoverdifferentvaluesforthecontrolvariable
d.Initiallyremainrelativelystableandthendecrease

Difficulty:Easy

EssayQuestions

1-29

Chapter 01 - The Fundamentals of Managerial Economics

105.YouarethemanagerofaFortune500hotelchainandmustdecidewheretolocateanew
hotel.Basedontaxconsiderations,youraccountingdepartmentsuggeststhatAtlanticCityis
thebestchoice,followedcloselybyLasVegas.Inparticular,yourcurrentyeartaxsavings
fromlocatinginAtlanticCityare$4millionbutonly$3millioninLasVegas.Your
marketingdepartment,ontheotherhand,hasprovidedyouwithsalesestimatesthatsuggest
thatthepresentvalueofthegross(oftaxes)operatingprofitsfromlocatinginAtlanticCity
areonly$10millionbutare$14millionforLasVegas.Itwillcost$14milliontobuildthe
hotelineitherlocation.Ignoringallotherconsiderations,whereshouldyoubuildthehotel?
Whatareyourfirm'seconomicprofitsifyoulocatethehotelinAtlanticCity?
Ignoringotherconsiderations,ifyoubuildthehotelinAtlanticCityyouraccountingprofits
arezero(computedas$4millionintaxsavings,plus$10millioninoperatingprofits,minus
$14inbuildingcosts).Incontrast,ifyoubuildinLasVegasyouraccountingprofitsare$3
million(computedas$3millionintaxsavings,plus$14millioninoperatingprofits,minus
$14millioninbuildingcosts).YourbestalternativeisthustobuildinLasVegastoearn$3
millioninaccounting(andeconomic)profits.IfyoubuildthehotelinAtlanticCity,your
accountingprofitsarezero,butyourimplicitcostisthe$3millionyougiveupbynot
buildinginLasVegasyourbestalternative.Thus,youreconomicprofitsofbuildingin
AtlanticCityare$3million.

106.Youarethemanagerofafirmthatplanstoexpandthehumanresourcebaseofits
operationbyhiringadditionalbusinessschoolgraduatesoverthenextfewyears.Yourecently
readanarticleinTheWallStreetJournalthatreportsthatenrollmentsinbusinessschools
havedeclinedasstudentsaremovingintothe"hardsciences."Thatsamearticlereportsthat
theshakeupofuppermanagementisoveratU.S.firms,andthatoverthenextdecadethere
willbeanationwidesurgeinthedemandforMBA's.Howwilltheseeventsaffectyourfirm's
abilitytoexpanditsownbaseofMBA's?
TherecentdeclineinMBA'sreflectsexitfromthemarket,duetoalowreturnonthe
investmentinsuchaneducation.AlikelyreasonforthepredictedriseinMBA'soverthenext
decadeisthatsalariesofMBA'swillrisetoincreasethereturnstoanMBA,thusinducing
entryintothislineofstudy.Thismeansthatyourfirmwilllikelyhavetopaymoretobeable
tohireMBA'sinthefuture,andthatthecostsofexpandingyourfirm'shumanresourcebase
mightbehigherthanexpected.

1-30

Chapter 01 - The Fundamentals of Managerial Economics

107.Youhavejustbeenhiredasaconsultanttohelpafirmtodecidewhichofthreeoptions
totaketomaximizethevalueofthefirmoverthenextthreeyears.Thefollowingtableshows
yearendprofitsforeachoption.Interestratesareexpectedtobestableat8percentoverthe
nextthreeyears.

a.Discussthedifferenceintheprofitsassociatedwitheachoption.Provideanexampleof
realworldoptionsthatmightgeneratesuchprofitstreams.
b.Whichoptionhasthegreatestpresentvalue?
a.OptionAhasthehighestfirstyearprofits,butthelowestsecondandthirdyearprofits.
OptionBearnslessinthefirstyearthanA,butmoreinyearstwoandthree.OptionChasthe
lowestfirstyearprofits,butthegreatestprofitsinyearstwoandthree.OptionAmight
representalowcurrentadvertisingbudget;itdoesn'tcostmuchtoday(andthuscurrentprofits
arerelativelyhigh).However,alowcurrentadvertisingbudgetdoesnotincreasefuture
profitsasmuchasamoderate(OptionB)oranintensive(OptionC)levelofcurrent
advertisingbudget.
b.PVA=70,000/(1.08)+80,000/(1.08)2+90,000/(1.08)3=$204,846.82.
PVB=50,000/(1.08)+90,000/(1.08)2+100,000/(1.08)3=$202,840.01.
PVC=30,000/(1.08)+100,000/(1.08)2+115,000/(1.08)3=$204,802.37.
OptionAhasthehighestpresentvalue.

108.Apotentialentrepreneuristryingtodecidewhethertoopenanewhealthspa.She
presentlymakes$35,000peryearasanaerobicsinstructorandwillhavetogiveupthisjobif
sheopensthenewhealthspa.Ifshechoosestoopenthespa,itwillcosther$200,000peryear
inrentandotheroperatingexpenses.
a.Whatareheraccountingcosts?
b.Whatareheropportunitycosts?
c.Howmuchwouldsheneedtomakeinrevenuestoearnpositiveaccountingprofits?
Positiveeconomicprofits?
a.Accountingcostsequal$200,000peryearinrentplusotheroperatingexpenses.
b.Opportunitycostsequal$235,000peryearplusotheroperatingexpenses.
c.Inordertoearnpositiveaccountingprofits,therevenuesperyearshouldbegreaterthan
$200,000plusotheroperatingexpensesperyear.Inordertoearnpositiveeconomicprofits,
therevenuesperyearshouldbegreaterthan$235,000plusotheroperatingexpensesperyear.

1-31

Chapter 01 - The Fundamentals of Managerial Economics

109.Youarethemanagerofafirmthatspecializesinsellingexoticanimalstozoosaround
theworld.Yourgoalistodeterminethenumberofbabyzebras(Z)thatmustbebornonyour
firm'sfarmeachmonthinordertomaximizeprofits.Thetotalbenefits(revenues)andcoststo
yourfirmofproducingvariousquantitiesofzebrasaregiveninthefirstthreecolumnsofthe
tablebelow.Basedonthisscenario,completethetableandanswertheaccompanying
questions:

a.Whatlevelofzebrabirthsmaximizesnetbenefits?
b.WhatistherelationbetweenmarginalbenefitandmarginalcostatthislevelofZ?
c.Graphthetotalcostandtotalbenefitcurves.
d.Onanothergraph,plotthepointsforthemarginalcost,marginalbenefit,andmarginalnet
benefit.
e.Showhowthetwographsrelatetoeachother.

1-32

Chapter 01 - The Fundamentals of Managerial Economics

a.Z=7maximizesnetbenefits.
b.Marginalcostisalittlebitsmallerthanmarginalbenefit(MC=70,MB=80).Thisisdue
tothediscretenatureofthecontrolvariable.

110.ArecentsurveyofnewgraduatesinHighTechCauldronCoalescence(HTCC)revealed
thateverygraduatehadatleasttwojoboffersandtheaverageofferwas$100,000peryear.
Withthereleaseofthisinformation,whatdoyouexpecttoseehappentothenumberof
HTCCmajors?WhatdoyouexpecttohappentosalariesintheHTCCfieldin10years?
Why?
InitiallythenumberofpeoplethatmajorinHTCCwillincreaseastheyattempttolearnthe
skillsrequiredtoearnthehighsalariesinthefield.Aftertenyearsitislikelythatenough
peoplewouldhaveenteredthefieldtodecreasethesalariestotheopportunitycostofentering
thisfieldofstudy.

1-33

Chapter 01 - The Fundamentals of Managerial Economics

111.Anewmanagerrecentlywasgivenanassignmenttocreatetwopossiblewageschemes
foradesignfirm.Themanagercameupwiththefollowingpackages:(1)Eachemployeewill
startat$15perhourandwillworkeighthoursperday;(2)eachemployeewillreceive$8per
hourandonetenthof1percentofprofits(expectedprofitsare$80,000perdayifeveryone
putsoutmaximumeffort).Whichprogramwillmotivatetheemployeesmore?Which
programwouldyouchoose?Why?
Package2willmotivatetheemployeesbest.Underpackage1theemployeeshaveno
incentivetoworkhard,asworkinghardwillnotbringthemextrabenefits.Ontheotherhand,
underPackage2increasedeffortwillincreasetheirincome.
UnderPackage1,anemployeereceives$120perdaywhetherheorsheworkshardornot.
UnderPackage2,anemployeereceives$144perdayifallemployeesexertmaximumeffort,
and$64perdayifnoeffortisused.Asamanager,partofyourjobistoextractmaximum
effortfromyouremployees.Package2ispreferred.

112.Yourfirm'sresearchdepartmenthasestimatedyourtotalrevenuestobe
andyourtotalcoststobe

.(Notethat

and
.)
a.WhatlevelofQmaximizesnetbenefits?
b.WhatismarginalbenefitatthislevelofQ?
c.WhatismarginalcostatthislevelofQ?
d.Whatisthemaximumlevelofnetbenefits?
e.Whatisanotherwordfornetbenefitsinthisexample?
a.SettingMNB(Q)=300020Q=0andsolvingforQyieldsQ=150.
b.MarginalbenefitatQ=150is600.
c.MarginalcostatQ=150is4(150)=600.
d.Netbenefitsare3,000Q8Q2(100+2Q2).WhenQ=150,netbenefitsare$224,900.
e."Netbenefits"meanprofits.

1-34

Chapter 01 - The Fundamentals of Managerial Economics

113.Abondpays$100attheendofeachyearforfiveyears,plusanadditional$1,000when
thebondmaturesattheendoffiveyears.Whatisthemostyouwouldbewillingtopayfor
thisbondifyouropportunitycostoffundsis6percent?
Themaximumamountyoushouldbewillingtopayisthepresentvalueoftheincomestream
generatedfromthebond.Thisamountis$1,168.49,since

114.Youarethemanagerofa24hourcopyshopthatisclosedonSundays.Youleasea
buildingfor$2,000permonthandhirethreeemployeeswhoeachworkeighthourshiftsata
wageof$10.00perhour.Themarketsforlaborandofficespacearetightinyourarea.To
acquiretheleaseandhireworkers,yousignedcontractsrequiringyoutogive12months
advancenoticebeforeabandoningyourleaseorlayingoffworkers(ifyoufailtocomply,the
contractsforceyoutofullycompensateyourlandlordandworkersfortheincomethey
otherwisewouldhaveearnedoverthe12monthperiod).Papercostsyou$.02persheet.You
currentlysell500,000colorcopiesperyearatapriceof$.10percopyand1,000,000black
andwhitecopiesperyearatapriceof$.05percopy.Becauseofyourhighvolume,eachof
yourtwocopiershasausefullifeofonlyoneyear.Youjustreceivedacallfromanemployee
whoinformsyouthatyourcolorcopierjustbrokedown.Thegoodnewsisthatyourblack
andwhitecopierisbrandnew;thebadnewsisthatanewcolorcopierwillcost$30,000.
Shouldyoupurchaseanewcolorcopier?Assumethatcustomerswhowantcolorcopiesare
unwillingtosubstituteblackandwhitecopies.
Yourcostoflaborandleasepaymentsareirrelevanttothisdecision,asthecontractrequires
youtomakethesepaymentsoverthenextyearregardlessofwhetheryouacquireanewcolor
copier.Theincrementalcostofthecopieris$30,000.Ifyouacquireanewcopier,youwill
earn8centsoneachcopyyousell(tencentslesspapercostsoftwocents),soyour
incrementalrevenuesfrompurchasinganewcopierare($.08)(500,000)=$40,000.Since
incrementalrevenuesexceedincrementalcosts,youshouldacquireanewcolorcopier.You
earn$10,000morebypurchasinganewcopierthanbynotpurchasingit.

1-35

Chapter 01 - The Fundamentals of Managerial Economics

115.DeltaSoftwareearned$10millionthisyear.SupposethegrowthrateofDelta'sprofits
andtheinterestratearebothconstantandDeltawillbeinbusinessforever.Determinethe
valueofDeltaSoftwarewhen
a.Theinterestrateis10percentandprofitsgrowby4percentperyear.
b.Theinterestrateis10percentandprofitsgrowby0percentperyear.
c.Theinterestrateis10percentandprofitsdeclineby4percentperyear.
d.Theinterestrateis10percentandprofitsgrowby12percentperyear.(Thispartofthe
questionistricky.)

a.
b.

million.
million.

c.
million.
d.Sincetheprofitsgrowfasterthantheinterestrate,DeltaSoftware'svalueisinfinite.

116.AMSrecentlyinstitutedaninhouserecyclingprogram.Thebenefitsofthisprogram
includenotonlythebenefitstotheenvironmentofrecyclingbutalsothegoodwillgenerated
byAMS'sleadershipinthisarea.Thecostsofrecyclingincludealloftheenergy,labor,and
spacerequiredtodotherecycling.Supposethesebenefitsandcostsaregivenby
and
.(Notethat
a.WhatlevelofQmaximizesthetotalbenefitsofrecycling?
b.WhatlevelofQminimizesthetotalcostsofrecycling?
c.WhatlevelofQmaximizesthenetbenefitsofrecycling?
d.Whatlevelofrecyclingisoptimal?Why?

,and

.)

a.TotalbenefitsaremaximizedwhenMB(Q)=1004Q=0,whichmeansQ=25.
b.ThetotalcostsofrecyclingareminimizedwhenQequalszero.
c.SettingMNB(Q)=1004Q2=0andsolving,weseethatthenetbenefitsofrecyclingare
maximizedwhenQ=24.5.
d.Theoptimallevelofrecyclingis24.5.Atthislevel,thenetbenefitsaremaximized.

1-36

Chapter 01 - The Fundamentals of Managerial Economics

117.Youareastrongadvocateforaoneyearinvestmentprojectthatwouldcostyourfirm
$10,000today,butgeneratevirtuallycertainearningsof$15,000atyearend.Thoseinyour
firm'sfinancialgroupconcurthattheinvestmentisvirtuallyriskfree,butnonethelessyour
bossisconcernedaboutthefirm'scashflowproblems.Infact,theproblemsaresoseverethat
thefirm'sbankcurrentlychargesit20percentononeyearloans.Convinceyourbossto
undertaketheproject.
Thenetpresentvalueoftheinvestmentis

Sincethenetpresentvalueispositive,theinvestmentshouldbeundertaken.Cashflow
considerationsareirrelevant,inthiscase.Yourfirmcouldsecurea$10,000oneyearloan
fromthebankat20percent.Sincethenetpresentvalueispositive,inoneyearthe$15,000
generatedfromtheinvestmentwillbemorethanenoughtopaybacktheinterestandprincipal
ontheloan.Thus,cashflowisnotreallyanissueinthiscase,andinpresentvalueterms,your
firmwillpocket$2,500fromthisinvestment.

118.Individualswhochoosetoattendschoolhavemadeadecisiontoinvestinhumancapital.
Usetheterminologyofnetpresentvalueanalysistoexplainwhyyouareattendingschool.
Thenetpresentvalueofattendingschoolisthepresentvalueofthebenefitsderivedfrom
attendingschool(includingthestreamofhigherearningsandthevaluetoyouofthework
environmentandprestigethatyoureducationprovides),minustheopportunitycostof
attendingschool.Theopportunitycostofattendingschoolisgenerallygreaterthanthecostof
booksandtuition.

1-37

Chapter 01 - The Fundamentals of Managerial Economics

119.In1995a$50millionmajorrenovationprojectofthe19yearoldSeattleKingdomewas
completednearly$18millionovertheinitialbudget.Severalmilliondollarsinotherexpenses
wereincurredduringtherenovationphase,includingpaymentstotheSeattleSeahawks
footballteamandtheMarinersbaseballteamforrevenuetheylostbynotbeingabletoplayin
theKingdome.Ifyouwereonthecitycouncil,whatinformationwouldyouhaveneededto
determinewhethertherenovationprojectwasasoundinvestment?
Youneedtoobtaintheinformationrequiredtodothenetpresentvaluecalculations.This
includesnotonlytheinterestrateatwhichSeattlecanborrowfunds,butthemarginalprofits
Seattlewillgenerateeachyearfromtherenovation.Someoftheearningswillaccruetothe
citythoughincreasedbusinessactivity(andtaxrevenue),andexplicitrevenuederivedfrom
activitiesintheKingdome.SomewillarisebecauseSeattlewillnothavetomakepaymentsto
entitiesliketheMarinersandSeahawksforfailingtoprovideaplayingcite,aspresumably
stipulatedinacontractwiththeteams.Thetermsofthecontractwouldthusalsobeimportant
information.Finally,youwouldneedtoknowhowlongitwouldbebeforeanotherrenovation
wasneeded.Givenallofthisinformation,determiningwhethertherenovationprojectwasa
soundinvestmentisarelativelysimplecalculation.

1-38

Chapter 01 - The Fundamentals of Managerial Economics

120.TheTaxpayerReliefActof1997createdtheRothIRA,whichpermitsqualifying
individualstomakeaftertaxretirementcontributionsofupto$2,000annually.Contributions
toaRothIRAarenottaxdeductible,butnotaxesarepaidonearningsgeneratedfromaRoth
IRA.Incontrast,contributionsmadetotraditionalIRAsaretaxdeductible,butindividuals
willpaytaxesonallfuturedistributions.Inshort,investorsusingtheRothIRAmake
contributionsthathavealreadybeentaxedandhaveearningsthatgrowtaxfree,whilethose
usingthetraditionalIRAsdefertaxesuntilfundsarewithdrawn.Consideranindividualwho
isfiveyearsawayfromretirementandwillneedtowithdrawallherretirementfundsatthat
time.Shehas$2,000inpretaxincometoallocateeachyeartoaretirementplan,facesafixed
taxrateof15percentnowaswellasatretirement,andanticipatesastable8percentreturnon
herinvestments.ShecansetupaRothIRAforaonetime,upfrontfeeof$10,orshecanset
upatraditionalIRAforfree.Whichoptionshouldshechoose?
Ifsheinvests$2,000inpretaxmoneyeachyearinatraditionalIRA,attheendof5yearsthe
taxablevalueofhertraditionalIRAwillbe
$2,000(1.08)5+$2,000(1.08)4+$2,000(1.08)3+$2,000(1.08)2+$2,000(1.08)1=$12,671.86.
Shegetstokeeponly85percentofthis(hertaxrateis15percent),soherspendableincome
whenshewithdrawsherfundsattheendof5yearsis(.85)($12,671.86)=$10,771.08.In
contrast,ifshehas$2,000inpretaxincome,shecanonlyinvest$1,700inaRothIRAeach
year(theremaining$300mustbepaidtoUncleSam).Sinceshedoesn'thavetopaytaxeson
herearnings,thevalueofherRothIRAaccountattheendof5yearsrepresentsherspendable
incomeuponretirementifsheusesaRothIRA.Thisamountis
$1,700(1.08)5+$1,700(1.08)4+$1,700(1.08)3+$1,700(1.08)2+$1,700(1.08)1=$10,771.08.
Noticethat,ignoringsetupfees,theRothandtraditionalIRAsresultinexactlythesame
aftertaxincomeatretirement.Therefore,sheshouldadopttheplanwiththelowestsetup
fees.Inthiscase,thismeanschoosingthetraditionalIRA,thusavoidingthe$10setupfee
chargedfortheRothIRA.Inotherwords,thenetpresentvalueofheraftertaxretirement
fundsifshechoosesatraditionalIRA,

is$10higherthanunderaRothIRA.

1-39