Faculty of Engineering

Cairo University – Credit Hours System

Spring-2022
GENN224

Economics/Accounting Final
Summary
Contents
Economics .............................................................................................................................................................................. 3
Microeconomics................................................................................................................................................................. 3
Lecture 1 ........................................................................................................................................................................ 3
Lecture 2 ........................................................................................................................................................................ 6
Lecture 3 & 4 .................................................................................................................................................................. 9
Lecture 5 ...................................................................................................................................................................... 16
Lecture 6 ...................................................................................................................................................................... 22
Macroeconomics .............................................................................................................................................................. 25
Lecture 7 ...................................................................................................................................................................... 25
Accounting ........................................................................................................................................................................... 28
Lecture 8 ...................................................................................................................................................................... 28
Lecture 9 ...................................................................................................................................................................... 29
Lecture 10 .................................................................................................................................................................... 30
Lecture 11 .................................................................................................................................................................... 30
Lecture 12 .................................................................................................................................................................... 31
Lecture 13 .................................................................................................................................................................... 35
Economics
Microeconomics
Lecture 1
Scarcity: the limited nature of society’s resources.
Economics: the study of how society manages its scarce resources.
• How people decide what to buy or how much to work, save, and spend?
• How do firms decide how much to produce? or how many workers to hire?
• How society decides how to divide its resources between national defense, consumer goods,
protecting the environment, and other needs?
Principle #1: People Face Tradeoffs
Examples include
• Going to a party the night before your midterm leaves less time for studying.
• Having more money to buy stuff requires working longer hours, which leaves less leisure time.
Society faces an important tradeoff: efficiency vs equality
Efficiency: when society gets the most from its scarce resources.
Equality: when prosperity is distributed uniformly among society’s members.
Tradeoff: To achieve greater equality, income is redistributed to be equated between the wealthy and
the poor. But this reduces incentive to work and shrinks the size of the economic “pie.”
Principle #2: The Cost of Something Is What You Give Up to Get It
Making decisions requires comparing the costs and benefits of alternative choices.
The opportunity cost of any item is whatever must be given up to obtain it.
Examples include
• The opportunity cost of going to college for a year is not just the tuition, books, and fees, but also
the foregone wages.
• Seeing a movie is not just the price of the ticket, but the value of the time you spend in the theater.
Principle #3: Rational People Think at the Margin
Rational people
• Systematically and purposefully do the best they can to achieve their objectives.
• Make decisions by evaluating costs and benefits of marginal changes – incremental adjustments to
an existing plan.
Examples include
• When a student considers whether to go to college for an additional year, he compares the fees &
foregone wages to the extra income he could earn with the extra year of education.
• When a manager considers whether to increase output, she compares the cost of the needed labor
and materials to the extra revenue.
Principle #4: People Respond to Incentives4
Incentive: something that induces a person to act, i.e., a reward or punishment.
Rational people respond to incentives:
• When gas prices increase, people tend to carpool or use public transportation.
• When cigarette taxes increase, teen smoking falls.
Principle #5: Trade Can Make Everyone Better Off
Not every country can be self-sufficient. Rather than being self-sufficient, people can specialize in
producing one good or service and exchange it for other goods.
Countries also benefit from trade & specialization:
• Buy other goods more cheaply from abroad.
Principle #6: Markets Are Usually a Good Way to Organize Economic Activity
Market: a group of buyers and sellers (need not be in a single location)
“Organize economic activity” means determining:
• What goods to produce?
• How to produce them?
• How much of each to produce?
• Who gets them?
Market economy: allocates resources through the decentralized decisions of many households and firms
as they interact in markets.
Famous insight by Adam Smith in The Wealth of Nations (1776):
Each of these households and firms acts as if “led by an invisible hand” to promote general economic
well-being.
The invisible hand works through the price system:

• The interaction of buyers and sellers determines prices.

• Each price reflects the good’s value to buyers and the cost of producing the good.
• Prices guide self-interested households and firms to make decisions that, in many cases, maximize
society’s economic well-being.

Principle #7: Governments Can Sometimes Improve Market Outcomes

An important role of the government is to enforce property rights (through the police and lawsuits)
What are property rights?
• The ability to own, control, and use scarce resources.
Market failure: when the market fails to allocate society’s resources efficiently.
Causes include
• Externalities: when the production or consumption of a good affects bystanders (e.g. pollution)
• Market power: a single buyer or seller has substantial influence on market price (e.g. monopoly)
The government may alter market outcome to promote equity.
How can the government promote equity?
• If the market’s distribution of economic well-being is not desirable, tax or welfare policies can
change how the economic “pie” is divided.
Principle #8: A country’s standard of living depends on its ability to produce goods & services.
The most important determinant of living standards: productivity, the amount of goods and services
produced per unit of labor.
Productivity depends on the equipment, skills, and technology available to workers.
Other factors (e.g., labor unions, competition from abroad) have far less impact on living standards.
Principle #9: Prices rise when the government prints too much money.
Inflation: increases in the general level of prices.
In the long run, inflation is almost always caused by excessive growth in the quantity of money, which
causes the value of money to fall.
The faster the government creates money, the greater the inflation rate.
Principle #10: Society faces a short-run tradeoff between inflation and unemployment
Inflation and unemployment have historically maintained an inverse relationship. Low levels of
unemployment typically corresponded with higher inflation, while high unemployment corresponded
with lower inflation and even deflation.
Lecture 2
Economists play two roles:
1. Scientists: try to explain the world
2. Policy advisors: try to improve it
Assumptions simplify the complex world, make it easier to understand.
For example, to study international trade, assume two countries and two goods. Unrealistic, but simple to
learn and gives useful insights about the real world.
Model: a highly simplified representation of a more complicated reality. Economists use models to study
economic issues.
Circular-Flow Diagram: a visual model of the economy, shows how dollars flow through markets among
households and firms.
Two Actors:
• Households
• Firms
Two markets:
• The market for goods and services
• The market for “factors of production”

Factors of production: the resources the economy uses to produce goods & services, including
• Labor
• Land
• Capital (buildings & machines used in production)
Households Firms
• Own the factors of production, • Buy/hire factors of production, use
sell/rent them to firms for income. them to produce goods and services
• Buy and consume goods & services. • Sell goods & services

Circular-Flow Diagram
Production Possibilities Frontier (PPF): a graph that shows the combinations of two goods the
economy can possibly produce given the available resources and the available technology.
Example included
Two goods: computers and wheat
• One resource: labor (measured in hours)
• Economy has 50,000 labor hours per month available for production.

PPF Example

PPF Plot

Points on the PPF

• Possible
• Efficient: all resources are fully utilized
Points under the PPF
• Possible
• Not efficient: some resources underutilized (e.g., workers unemployed, factories idle)
Points above the PPF
• Not possible
The slope of the PPF tells you the opportunity cost of one good in terms of the other.
When the slope is steeper, the opportunity cost is higher.
 An improvement in technology leads to more productivity

The PPF could be a straight line or bow shaped. Depends on what happens to opportunity cost as
economy shifts resources from one industry to the other.
If the opportunity cost remains constant, PPF is a straight line.
If opportunity cost of a good rises as the economy produces more of the good, PPF is bow-shaped.
The PPF is bowed outward because resources are not all equally productive in all activities. People with
many years of experience working for Starbucks are good at producing lattes but not very good at
producing sandwiches. So, if we move some of these people from Starbucks to Subway, we get a small
increase in the quantity of sandwiches but a large decrease in the quantity of lattes.
• Microeconomics is the study of how households and firms make decisions and how they interact
in markets.
• Macroeconomics is the study of economy-wide phenomena, including inflation, unemployment,
and economic growth.
Economists make positive statements, which attempt to describe the world as it is.
Economists make normative statements, which attempt to prescribe how the world should be.
Positive statements can be confirmed or refuted, normative statements cannot.
Prices rise when the government increases the quantity of money.
• Positive – describes a relationship, could use data to confirm or refute.
The government should print less money.
• Normative – this is a value judgment, cannot be confirmed or refuted.
Lecture 3 & 4
Market: is a group of buyers and sellers of a particular product.
Competitive market: is one with many buyers and sellers, each has a negligible effect on price.
Perfectly competitive market:
• All goods are the same
• Buyers and sellers are so numerous that no one can control the market price
Quantity demanded: is the amount of the good that buyers are willing and can purchase.
Law of demand: the claim that the quantity demanded of a good falls when the price of the good rises,
considering everything else is equal.
Demand schedule: a table that shows the relationship between the price of a good and the quantity
demanded.

Notice that Helen’s preferences obey the Law of Demand

The quantity demanded in the market is the sum of the quantities demanded by all buyers at each price.

Suppose Helen and Ken are the only two buyers in the Latte market. (Qd = quantity demanded)

The demand curve shows how price affects quantity demanded, other things being equal. These “other
things” are non-price determinants of demand (i.e., things that determine buyers’ demand for a good,
other than the good’s price). Changes in them shift the demand curve.
Demand curve shifters
1. # of Buyers
• When there’s an increase in the number of buyers the quantity demanded will increase
leading to a shift to the right.
2. Income
Demand for a normal good is positively related to income.
• Increase in income causes increase in quantity demanded at each price, shifts D curve to
the right.
Demand for an inferior good is negatively related to income.
• An increase in income shifts D curves for inferior goods to the left.
3. Prices of related goods
• Two goods are substitutes if an increase in the price of one causes an increase in demand
for the other. Example: pizza and burgers; an increase in the price of pizza (assuming they
are substitutes) increases demand for burgers, shifting the burger demand curve to the
right.
• Two goods are complements if an increase in the price of one causes a fall in demand for
the other. Example: computers and software; if price of computers rises: People buy fewer
computers, and therefore less software. Software demand curve shifts left.
4. Tastes
Anything that causes a shift in tastes toward a good will increase demand for that good and shift
its D curve to the right. Example: Demand for a certain type of sports shoes when a star wears it.
5. Expectations
Expectations affect consumers’ buying decisions. Examples: If people expect their incomes to rise,
their demand for meals at expensive restaurants may increase now. If the economy sours and
people worry about their future job security, demand for new autos may fall now.

Summary: Variables that influence buyers

Quantity supplied: is the amount that sellers are willing and able to sell.
Law of supply: the claim that the quantity supplied of a good rises when the price of the good rises,
considering everything else is equal.
Supply schedule: A table that shows the relationship between the price of a good and the quantity
supplied.
 Notice that Starbucks’ supply schedule obeys the Law of Supply

The quantity supplied in the market is the sum of the quantities supplied by all sellers at each price.

Suppose Starbucks and Jitters are the only two sellers in this market. (Qs = quantity supplied)

The supply curve shows how price affects quantity supplied, other things being equal. These “other
things” are non-price determinants of supply. Changes in them shift the supply curve.
Supply curve shifters
1. Input prices
Examples of input prices: wages, prices of raw materials. A fall in input prices makes production
more profitable at each output price, so firms supply a larger quantity at each price, and the
supply curve shifts to the right.
2. Technology
Technology determines how much inputs are required to produce a unit of output. A cost-saving
technological improvement has the same effect as a fall in input prices and shifts supply curve to
the right.

3. # of sellers
An increase in the number of sellers increases the quantity supplied at each price and shifts supply
curve to the right.
4. Expectations
Some events in the Middle East lead to expectations of higher oil prices. In response, owners of
Texas oilfields reduce supply now, save some inventory to sell later at the higher price. Supply
curve shifts left.

Summary: Variables that Influence Sellers

To determine the effects of any event
1. Decide whether event shifts S curve, D curve, or both.
2. Decide in which direction the curve shifts.
3. Use supply-demand diagram to see how the shift changes the equilibrium price and quantity.
Lecture 5
Elasticity: is a numerical measure of the responsiveness of quantity demanded (Qd) or quantity supplied
(Qs) to one of its determinants.
Price elasticity of demand: measures how much quantity demanded (Qd) responds to a change in price
(P).

We will drop the minus sign and report all price elasticities as positive numbers.
Midpoint method

Example
Use the following information to calculate the price elasticity of demand for hotel rooms. If P = $70, Qd =
5000 if P = $90, Qd = 3000.
Solution
Use midpoint method to calculate % change in Qd
(5000 – 3000)/4000 = 50%
% Change in P ($90 – $70)/$80 = 25%
The price elasticity of demand equals 50%/25% = 2.0
Notes
• Price elasticity is higher when close substitutes are available (Breakfast cereal is easily
replaceable unlike sunscreen)
• Price elasticity is higher for narrowly defined goods than broadly defined ones (Narrowly defined
like blue jeans unlike broadly defined like clothing)
• Price elasticity is higher for luxuries than for necessities (Higher luxury as Caribbean cruises
unlike a necessity like a medication)
• Price elasticity is higher in the long run than the short run
• The flatter the curve, the bigger the elasticity
• The steeper the curve, the smaller the elasticity
 𝑅𝑒𝑣𝑒𝑛𝑢𝑒 = 𝑃𝑟𝑖𝑐𝑒 ∗ 𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦
A price increase has two effects on revenue:
• Higher P means more revenue on each unit you sell
• But you sell fewer units (lower Q), due to Law of Demand
How does elasticity affect revenue?
If demand is elastic, then % change in Q > % change in P, if there’s a price increase it causes revenue to
fall.
If demand is inelastic, then % change in Q < % change in P, if there’s a price increase it causes revenue to
rise.
Example
Pharmacies raise the price of insulin by 10%. Does total expenditure on insulin rise or fall?
Solution
Expenditure is the same as revenue; Revenue = P x Q Since demand is inelastic, so expenditure rises.
Price elasticity of supply: measures how much Qs responds to a change in P.
Notes
• The more easily sellers can change the quantity they produce, the greater the price elasticity of
supply (Beach houses are harder to vary therefore it’s less elastic than a supply of new cars)
• Price elasticity is higher in the long run than the short run
 • The flatter the curve, the bigger the elasticity
• The steeper the curve, the smaller the elasticity
Supply often becomes less elastic as Q rises, due to capacity limits.
Income elasticity of demand: measures the response of Qd to a change in consumer income.

An increase in income causes an increase in demand for a normal good. Hence,

• For normal goods, income elasticity > 0
• For inferior goods, income elasticity < 0
Cross-price elasticity of demand: measures the response of demand for one good to changes in the
price of another good.

• For substitutes, cross-price elasticity > 0 (e.g., an increase in price of beef causes an increase in
demand for chicken)
• For complements, cross-price elasticity < 0 (e.g., an increase in price of computers causes decrease
in demand for software)
Lecture 6
Profit = Total revenue – Total cost
Total revenue: the amount a firm receives from the sale of its output.
Total cost: the market value of the inputs a firm uses in production.
Explicit costs: require an outlay of money, e.g., paying wages to workers.
Implicit costs: do not require a cash outlay, e.g., the opportunity cost of the owner’s time.

Example
You need $100,000 to start your business. The interest rate is 5%.
Case 1: borrow $100,000
• explicit cost = $5000 interest on loan
Case 2: use $40,000 of your savings, borrow the other $60,000
• explicit cost = $3000 (5%) interest on the loan
• implicit cost = $2000 (5%) foregone interest you could have earned on your $40,000.
In both cases, total (exp + imp) costs are $5000.
Accounting profit: total revenue minus total explicit costs
Economic profit: total revenue minus total costs (including explicit and implicit costs)
Accounting profit ignores implicit costs, so it’s higher than economic profit.
Example
The equilibrium rent on office space has just increased by $500/month.
Rent office space Own office space
• Explicit costs increase $500/month. • Explicit costs do not change, so accounting
• Accounting profit & economic profit each profit does not change.
fall $500/month. • Implicit costs increase $500/month (opp.
cost of using your space instead of renting
it), so economic profit falls by $500/month.

Production function: shows the relationship between the quantity of inputs used to produce a good and
the quantity of output of that good.
The marginal product of any input is the increase in output arising from an additional unit of that input,
holding all other inputs constant.
𝛥𝑄
𝑀𝑎𝑟𝑔𝑖𝑛𝑎𝑙 𝑝𝑟𝑜𝑑𝑢𝑐𝑡 𝑜𝑓 𝑙𝑎𝑏𝑜𝑟 = ; 𝛥𝑄: 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑜𝑢𝑡𝑝𝑢𝑡, 𝛥𝐿: 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑙𝑎𝑏𝑜𝑟
𝛥𝐿
When farmer Jack hires an extra worker, his costs rise by the wage he pays the worker and his output
rises by MPL. Comparing them helps Jack decide whether he would benefit from hiring the worker.
Diminishing marginal product: the marginal product of an input declines as the quantity of the input
increases (other things equal).
Fixed costs (FC) do not vary with the quantity of output produced.
Variable costs (VC) vary with the quantity produced.
Total cost (TC) = FC + VC
Marginal Cost (MC): is the increase in Total Cost from producing one more unit
𝛥𝑇𝐶
𝑀𝑎𝑟𝑔𝑖𝑛𝑎𝑙 𝑐𝑜𝑠𝑡 = ; 𝛥𝑄: 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑜𝑢𝑡𝑝𝑢𝑡, 𝛥𝑇𝐶: 𝑐ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑡𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡
𝛥𝑄
Average total cost (ATC): equals total cost divided by the quantity of output
𝑇𝐶
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑡𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡 = ; 𝑄: 𝑜𝑢𝑡𝑝𝑢𝑡, 𝑇𝐶: 𝑡𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡
𝑄
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑡𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡 = 𝐴𝐹𝐶 + 𝐴𝑉𝐶; 𝐴𝑉𝐶: 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑣𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝑐𝑜𝑠𝑡, 𝐴𝐹𝐶: 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑓𝑖𝑥𝑒𝑑 𝑐𝑜𝑠𝑡
Characteristics of Perfect Competition

• Many buyers and many sellers.

• The goods offered for sale are largely the same.
• Firms can freely enter or exit the market.
The Revenue of a Competitive Firm

MR = P for a Competitive Firm

• A competitive firm can keep increasing its output without affecting the market price
• So, each one-unit increase in Q causes revenue to rise by P, MR = P
Profit maximization
If increase Q by one unit, revenue rises by MR, cost rises by MC.
• If MR > MC, then increase Q to raise profit
• If MR < MC, then reduce Q to raise profit
• If MC = MR, changing Q would lower profit.
Shutdown: A short-run decision not to produce anything because of market conditions.
This decision is made if P < AVC.
• This decision obligates you to pay fixed costs (FC).
• A downside of shutdown is revenue loss = TR
 • A benefit of shutdown is cost savings = VC
Sunk cost: a cost that has already been committed and cannot be recovered. A fixed cost is an example of
a sunk cost that’s paid whether you continue to operate or shutdown.
Exit: A long-run decision to leave the market. This decision results in zero costs. A firm should exit if P <
ATC.
• Cost of exiting the market: revenue loss = TR
• Benefit of exiting the market: cost savings = TC (zero FC in the long run)
A New Firm’s Decision to Enter Market
In the long run, a new firm will enter the market if it is profitable to do so, in other terms, if P > ATC.
Macroeconomics
Lecture 7
Microeconomics: The study of how individual households and firms make decisions, interact with one
another in markets.
Macroeconomics: The study of the economy as a whole.
Income and Expenditure
Gross Domestic Product (GDP): measures total income of everyone in the economy and the total
expenditure on the economy’s output of goods and services in a given period of time.
Circular flow diagram
Factors of production are inputs like labor, land, capital, and natural resources.
Factor payments are payments to the factors of production (e.g., wages, rent).

GDP = C + I + G + NX
1. Consumption (C)
• Is total spending by households on goods and services
• For renters, consumption includes rent payments.
• For homeowners, consumption includes the imputed rental value of the house, but not the
purchase price or mortgage payments.
2. Investment (I)
• Is total spending on goods that will be used in the future to produce more goods. Note:
“Investment” does not mean the purchase of financial assets like stocks and bonds.
Includes spending on
• capital equipment (e.g., machines, tools)
• structures (factories, office buildings, houses)
• inventories (goods produced but not yet sold)
3. Government Purchases (G)
• Is all spending on the goods and services purchased by government at the federal, state,
and local levels. G excludes transfer payments, such as Social Security or unemployment
insurance benefits. They are not purchases of goods and services.
4. Net Exports (NX)
 • NX = exports – imports
• Exports represent foreign spending on the economy’s goods and services
• Imports are the portions of C, I, and G that are spent on goods and services produced
abroad
Real versus Nominal GDP
Nominal GDP: values output using current prices. It is not corrected for inflation.
Real GDP: values output using the prices of a base year. Real GDP is corrected for inflation.

The change in nominal GDP reflects both prices and quantities.

The change in real GDP is the amount that GDP would change if prices were constant (i.e., if zero
inflation). Hence, real GDP is corrected for inflation.
GDP deflator: is a measure of the overall level of prices.

One way to measure the economy’s inflation rate is to compute the percentage increase in the GDP
deflator from one year to the next.
GDP and Economic Well-Being
Real GDP per capita is the main indicator of the average person’s standard of living.
But GDP is not a perfect measure of well-being.
Accounting
Lecture 8
Balance sheet: Describes where the enterprise stands at a specific date.
Income statement: Depicts the revenue and expenses for a designated period of time.
Statement of cash flows: Depicts the ways cash has changed during a designated period of time.

Assets: are economic resources that are owned by the business and are expected to benefit future
operations.
Liabilities: are debts that represent negative future cash flows for the enterprise.
Owners’ Equity: represents the owners’ claims on the assets of the business.
Cash flow statement

• Operating activities include the cash effects of revenue and expense transactions
• Investing activities include the cash effects of purchasing and selling assets
• Financing activities include the cash effects of transactions with the owners and creditors
Income statement

Balance sheet

Lecture 9
Check Dr. Amira’s Video
Lecture 10
Accounts are individual records showing increases and decreases. The entire group of accounts is kept
together in an accounting record called a ledger.
Debit transactions are recorded on the left side of the T account, and credit transactions are recorded on
the right side.

The balance is the difference between the debit and credit entries in the account.
Assets Increase = Debit
Liabilities Increase = Credit
Owners’ Equity Increase = Credit
Capital Increase = Credit
Retained Earnings Increase = Credit
Net Income Increase = Credit
Dividends Increase = Debit
Revenue Increase = Credit
Expenses Increase = Debit

General journal (Example)

Date Account Debit Credit
2 – Jun Cash 50,000
Capital 50,000
3 – Jun Service Expenses 1,500
Accounts Payable 1,500
8 – Jun Cash 5,000
Revenue 5,000
By convention, debit is written first then credit.
Anything that’s bought and used in a time period isn’t an asset it’s an expense.
Hiring an employee, leasing a place, or signing a contract doesn’t involve any transactions.
Any service or product sold is considered revenue.
Lecture 11
Check Dr. Amira’s Video
Lecture 12

Sales and earnings should increase at more than the rate of inflation.
In measuring quarterly changes, always compare with the same quarter in the previous year.
Percentages may be misleading when the base amount is small.
() indicates negative money in accounting, i.e., ($11,000).
Trend analysis is used to reveal patterns in data covering successive periods.

Ratios
Working Capital: is the excess of current assets over current liabilities.
Working capital = Current assets – Current liabilities
Current Ratio: This ratio measures the short-term debt-paying ability of the company.

For every dollar you have as a liability, you have 1.55 dollars of assets.
Quick ratio: Quick assets are cash, marketable securities, and receivables. This ratio is like the current
ratio but excludes current assets such as inventories that may be difficult to quickly convert into cash.
 For every dollar you have as a liability, you have 1.19 dollars of assets.
Earnings per share

This means for every share you own you get 1.96 dollars.
To better understand if this share is good or not another ratio is used.
Price – Earnings ratio

7.78 means that it would take us 7.78 years to get the original price of the share.
Return On Investment (ROI)
This ratio is a good measure of the efficiency of utilization of assets by the business.

Return On Assets (ROA)

This ratio is generally considered the best overall measure of a company’s profitability.
Return On Equity (ROE)
This measure indicates how well the company employed the owners’ investments to earn income.

Dividend Yield
This ratio identifies the return, in terms of cash dividends, on the current market price of the stock.

Interest Coverage Ratio

This is the most common measure of the ability of a firm’s operations to provide protection to the long-
term creditor.

Debt Ratio
A measure of creditor’s long-term risk. The smaller the percentage of assets that are financed by debt, the
smaller the risk for creditors. A debt ratio of greater than 100% means a company has more debt than
assets while a debt ratio of less than 100% indicates that a company has more assets than debt.
Accounts Receivable Turnover Rate
This ratio measures how many times a company converts its receivables into cash each year.

Number of Days to Collect Receivables

This ratio measures, on average, how many days it takes to collect an account receivable.

Inventory Turnover Rate

This ratio measures the number of times merchandise inventory is sold and replaced during the year.

Average Days Sales in Inventory

This ratio measures how many days, on average, it takes to sell the inventory.
Lecture 13

Economies of Scale
Economies of scale are most apparent in business with high fixed costs.
Break – even point
The break-even point (expressed in units of product or dollars of sales) is the unique sales level at which
a company neither earns a profit nor incurs a loss.
Profit = Revenue – Variable cost – Fixed cost

Contribution margin per unit: unit sales price less unit variable cost -> unit sales price - variable cost
Contribution margin ratio: (unit sales price - variable cost) / unit sales price

Computing Sales Needed to Achieve Target Operating Income

Break-even formulas may be adjusted to show the sales volume needed to earn any amount of operating
income.

What is the margin of safety?

Margin of safety is the amount by which sales may decline before reaching break-even sales.

Margin of safety provides a quick means of estimating operating income at any level of sales.
The High-Low Method

Using these two levels of activity, compute

• The variable cost per unit
• The total fixed cost
• Total cost formula
Unit variable cost = $3,600 ÷ 4,000 units = $0.90 per unit
Fixed cost = Total cost – Total variable cost
Fixed cost = $9,700 – ($0.90 per unit × 9,000 units)
Fixed cost = $9,700 – $8,100 = $1,600
Total cost = $1,600 + $.90 per unit