Fundamentals of Financial Management, Concise Edition (with Thomson ONE - Business School Edition, 1 term (6 months) Printed Access Card) (MindTap Course List)
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Chapter 12, Problem 2Q
Summary Introduction

To explain: The reason for not considering the sunk cost in capital budgeting analysis and for considering the opportunity cost and externalities.

Introduction:

Sunk Cost:

The cost that is not based on the acceptance or rejection of a decision is called sunk cost. It is an already incurred cost before taking decision about the project and can’t be adjusted or recovered.

Opportunity Cost:

The loss of estimated income due to the rejection of a project is known as opportunity cost. It is considered as an important factor for capital budgeting decisions.

Externalities:

The cost to eliminate the effect of an alternative on other parties that are not involved in the decision making is called externalities cost. It is considered along with other factors, to accept or reject an alternative.

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Students have asked these similar questions
Explain why sunk costs should be excluded from a capital budgeting study while opportunity costs and externalities should. Please provide an example of each.
In a capital budgeting study, explain why sunk costs should not be included, but opportunity costs and externalities should be. Give an example of each.
Which of the following decision measures should capital budgeting decision makers consider? Select one: a. discounted payback b. NPV c. IRR d. MIRR e. Although NPV is considered the most important method in the decision process, the other measures can provide different relevant information that is useful to the process and thus should be used when appropriate

Chapter 12 Solutions

Fundamentals of Financial Management, Concise Edition (with Thomson ONE - Business School Edition, 1 term (6 months) Printed Access Card) (MindTap Course List)

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