Exercise 13-36  Keep or Buy, Sunk Costs

Heather Alburty purchased a previously owned, 2004 Grand Am for $8,900. Since purchasing the car, she has spent the following amounts on parts and  labor:

 

New stereo system	$1,200
Trick paint	400
New wide racing tires	800
Total	$2,400

 

Unfortunately, the new stereo doesn’t completely drown out the sounds of a grinding trans- mission. Apparently, the Grand Am needs a considerable amount of work to make it reliable transportation. Heather estimates that the needed repairs include the following:

 

Transmission overhaul	$2,000
Water pump	400
Master cylinder work	1,100
Total	$3,500

 

In a visit to a used car dealer, Heather has found a 2005 Neon in mint condition for $9,400. Heather has advertised and found that she can sell the Grand Am for only $6,400. If she buys the Neon, she will pay cash, but she would need to sell the Grand Am.

Required:

1.       CONCEPTUAL CONNECTION In trying to decide whether to restore the Grand Am or to buy the Neon, Heather is distressed because she already has spent $11,300 on the Grand Am. The investment seems too much to give up. How would you react to her concern?

(Continued)

 

 

 

 

 

 

 

2.       CONCEPTUAL CONNECTION Assuming that Heather would be equally happy with the Grand Am or the Neon, should she buy the Neon, or should she restore the Grand Am?

 

 

 

 

 

 

Direct materials	$  6.00
Direct labor	2.00
Variable overhead	1.50
Fixed overhead	3.50
Total	$13.00