Question

Q1 (value of decision options, opportunity cost, sunk costs).

You inherited a house in San Diego from a rich uncle. You need money now, so you are considering three options:
* option A: sell the house for $310,000
* option B: spend $75,000 on improving the house, after that sell it for $380,000.
* option C: burn the house for insurance money. The house is insured for $269,000.
Not selling the house is not a viable option.
If you sell the house (options A and B), you will have to pay realtor's fees and taxes, which amount to 5% of the selling price. (For example, if you sold the house for $100,000, the total cost of fees and taxes will be $100,000*0.05=$5,000).
If you burn the house, you'll have to hire a good lawyer to prove it was an accident. The lawyer will cost you $26,000 (you do not have to pay realtor's fees and taxes in this case).

Required:
a) What is the value of each option?
A=  B=  C=

b) Which option should you choose?
(enter 1 for A, 2 for B, 3 for C)

c) What is the opportunity cost of options A and B?
A=  B=

Answer 1

1)	value of each option?
	Option A	=(310000*95%)	$       2,94,500
	Option B	=$ (380000*95%)-75000	$       2,86,000
	Option C	=$269000-26000	$       2,43,000
2)	Answer: 1
	Because option A has more value.
3)	Opportunity cost
	Option A = (higher of value of option B or C) =$286000
	Option B = (higher of value of option B or C) =$294500