Operating Costs of a Business
Summary
Context for Use
Students should have prior knowledge about various types of costs.
No limit on class size.
One 50-minute class period would be sufficient for this activity.
Overview
This activity requires students to consider the various costs associated with operating a business. A Planet Money podcast is assigned prior to class which explains implicit costs, variable and fixed costs associated with the decision of a restaurant to exit the market. In class students will discuss the podcast and answer questions in the context of the podcast. The activity will reinforce their understanding of costs, and conditions that need to be considered for short run shut down versus long run exit decisions in the market.
Expected Student Learning Outcomes
Upon successful completion of this learning activity, students will be able to:
Differentiate between implicit and explicit costs as they relate to fixed and variable costs.
Information Given to Students
Students are required to listen to Planet Money podcast "Inside a Restaurant's Final Days" prior to class.
Activity:
According to the Planet Money podcast, Jayme Valdez and his wife have closed their downtown Boston restaurant that was located in a building that they rented. They plan to buy their own building and operate a smaller restaurant in Cape Cod (a noted destination for tourists). If Jayme and his wife are rational, which of the following statements is the most likely explanation of their decision.
A. Running their restaurant in a building that they own is less costly than doing so in a rented building because they will not have a rent payment (fixed costs).
B. The restaurant owners view tourist demand as more likely to be strong in the future than is the demand of downtown Boston office workers.
C. During Covid, the operating costs of the restaurant were higher than the revenues.
D. The new Cape Cod restaurant will be very small and Jayme and his wife can be the cook and server themselves. Thus, they can eliminate wage costs (variable costs).
Teaching Notes and Tips
This is pretty simplistic and would come early in the unit on firm costs. Only B is correct. However, the activity will elicit several student misconceptions and could generate useful discussion.
The following follow-up questions are recommended for facilitating the debriefing conversation:
1. What are the various inputs that go into running a restaurant?
2. Kitchen Cafe incurs various costs classified as fixed and variable costs. What are some fixed and variable costs that you can associate with running a restaurant?
3. The podcast provides various dollar amounts related to closure and other expenses. Identify the dollar amount related to fixed costs.
4. Identify two implicit costs that would be considered by an economist.
Groups can be asked to list the fixed, variable, implicit costs on the whiteboard based on the responses generated for the follow-up questions.
Closing remarks: To conclude the activity the instructor can provide examples of other businesses and classify costs as fixed or variable.
Assessment
Rent
Telephone and internet costs
Taxes
Direct labor
Commissions
Operational expenses
Insurance
Employee Salaries
Loan Payments
2. Explain whether some specific implicit cost should be considered equivalent to a similar explicit cost as a firm makes a shut-down or exit decision.