Savion is restoring a car and has already spent $4,000 on the restoration. Savion expects to be able to sell the car for $5,800 but needs to do an additional $2,400 of work to make the car worth $5,800 to potential buyers. Savion could also sell the car now, without completing the additional work, for $3,800. What should Savion do?

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BlackTom AI · Accepted Answer

Savion faces a decision about where to allocate future effort and money, and the key is to focus on incremental cash flows rather than what has already been spent.

First, identify sunk costs: the $4,000 already spent is sunk and should not influence the choice between options going forward. The analysis should be based solely on additional costs and future revenues.

Option A: Complete the restoration and sell for $5,800. The additional cost required to reach that sale price is $2,400. If he goes ahead, the total outlay becomes $4,000 + $2,400 = $6,400, while the sale proceeds would be $5,800. The incremental result from completing the project is a loss of $6,400 - $5,800 = $600 relative to the initial position, meaning finishing would reduce future value compared to selling now.

Option B: Sell the car now for $3,800. This avoids spending the additional $2,400 and secures $3,800 in cash now. While this means not recouping the $2,400 of potential value left in the project, it also avoids the additional cost and the risk of not achieving a higher sale price.

To compare the two options on a forward-looking basis, consider only future cash flows: 
- Completing the restoration: you incur an extra $2,400 cost and expect $5,800 in revenue, yielding a net of $5,800 minus $2,400 = $3,400 as the incremental net cash flow from continuing. 
- Selling now: you receive $3,800 with no further expenditures.

Between these two forward-looking paths, $3,800 (selling now) is higher than the $3,400 incremental net cash flow from completing the restoration. Therefore, from a purely incremental-cash-flow perspective that ignores sunk costs, selling now provides a better short-term financial outcome.

This kind of decision rule, focusing on incremental cash flows and disregarding sunk costs, helps avoid the common mistake of chasing higher potential revenue that requires additional investment and may not pay off. The conclusion hinges on comparing the two forward options, not on the past expenditure.

If you were to see the answer choices, you would select the option that corresponds to selling now for $3,800 based on the comparison above.

ECB1101 - S1 2025 Online Quiz 1

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