Question

Warner Corporation purchased a machine 7 years ago for $398,000 when it launched product P50. Unfortunately,...

Warner Corporation purchased a machine 7 years ago for $398,000 when it launched product P50. Unfortunately, this machine has broken down and cannot be repaired. The machine could be replaced by a new model 300 machine costing $389,350 or by a new model 200 machine costing $339,600. Management has decided to buy the model 200 machine. It has less capacity than the model 300 machine, but its capacity is sufficient to continue making product P50. Management also considered, but rejected, the alternative of dropping product P50 and not replacing the old machine. If that were done, the $339,600 invested in the new machine could instead have been invested in a project that would have returned a total of $468,400.

Required:

1. What is the total differential cost regarding the decision to buy the model 200 machine rather than the model 300 machine?

2. What is the total sunk cost regarding the decision to buy the model 200 machine rather than the model 300 machine?

3. What is the total opportunity cost regarding the decision to invest in the model 200 machine?

1. Differential cost
2. Sunk cost
3. Opportunity cost
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Answer #1

1. Differential Cost regarding the decision to buy Model 200 or Model 300

Particulars Cost
Model 300 $        3,89,350
Model 200 $        3,39,600
Differential cost $            49,750

2. The cost of the original Machine purchased 7 years ago is the sunk cost = $ 3,98,000 , It is not usefed in the decision making process

3. opportunity cost is the benefit we could have got from investing into the project rather than investing in the machine

Particulars Amount
Return from project $ 4,68,400.00
Investment in new project $ 3,39,600.00
Opportunity cost $ 1,28,800.00
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