A corporation began construction on a new site 2 years ago. At that time mgrs predicted the new plant would generate over $5 million in sales, however, now a more conservative estimate shows that the new plant will only generate an additional $3 million in sales. Over the past two years the corp. has spendt $4 million on construction of the new site. Another $2 million is needed to complete the facility. Should the mgrs scrap the project or move forward. Explain your answer....Instructions said not to include sunk costs in determining your answer..I am lost!
I think they should move forward with the project.
If you don't include costs already expended it is still cost effective and they should still show a profit
To determine whether the managers should scrap or move forward with the project, we need to analyze the projected incremental revenue compared to the additional costs of completing the facility. However, it's worth noting that the sunk costs, which include the $4 million already spent on construction, should not be considered in this analysis. Sunk costs are costs that have already been incurred and cannot be recovered, so they should not affect the decision to continue or abandon the project.
First, let's calculate the projected incremental revenue from the new plant. The initial prediction was over $5 million in sales, but now a more conservative estimate shows that it will only generate an additional $3 million in sales. This means that the new plant is expected to generate an incremental revenue of $3 million.
Next, we need to consider the additional costs to complete the facility. It is mentioned that another $2 million is needed to finish the construction. These are the costs that should be taken into account when making the decision.
Now, we compare the projected incremental revenue of $3 million to the additional costs of $2 million.
If the projected incremental revenue ($3 million) is greater than the additional costs to complete the facility ($2 million), then the managers should move forward with the project. This indicates that the benefits outweigh the costs, and pursuing the project can potentially result in a positive return.
On the other hand, if the projected incremental revenue is less than the additional costs, it would suggest that the project may not be financially beneficial, and it would be wise to consider scrapping the project.
In summary, by comparing the projected incremental revenue to the additional costs, while excluding sunk costs, the managers can make an informed decision on whether to scrap the project or move forward.