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.

Question

You are looking to lease a 2019 Subaru Forester. You have found a 36 - month closed end lease on a Forester with an MSRP of $25, 270 and a lease end purchase option of $15,667 (residual value). To get the lease you have to pay a fee of $1,765 due at signing, and the monthly payment was calculated to be $ 265. A) What is the nominal rate of return the dealership is earning on the lease? (Hint: think of the cash flows from the dealerships prospective) B) What would the lease payment be if the dealership wanted a nominal 6% compounded monthly on the lease?

Answer 1

Question

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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