Mary invested $100,000 in a hardware store. Business has been good, and the store shows an accounting profit of $10,000 for the last year. This profit is after taxes and after payment of a $25,000 salary to Mary. This salary is less than the $40,000 she could make at another job. Considering the risk involved in the hardware business, she believes that a 15 percent after-tax rate of return (interest rate adjusted for risk) is appropriate for this type of investment.
a) Given this information, calculate the economic profit earned by Mary.
b) What accounting profits would the firm have to earn in order for the firm to break even in terms of economic profits?