Question

Your company has invested $4 million in developing a new product but the development is not quite finished. In today’s meeting, your salespeople report that the recent introduction of competing products in the market has reduced the expected profits of launching your new product from $10 million to $3 million only. The Research Department reports that it will cost another $1 million to finish the development of this new product. Refer to the case above. Explain whether the following sentences are true or false.

I. At this stage, the opportunity cost of finishing the new product development is $5 million.

II. Your company should not go ahead to finish the product development and launch the new product.

Answer 1

I. False, the total opportunity cost is $5 million. Since at this stage, the remaining cost is only $1 million, therefore the opportunity cost at this stage would be $1 million.

II. False, since the company has already invested $4 million, if it decides to leave the development at this stage it will stand to lose $4 million, whereas if it spends $1 million further it could reduce its losses to only $2 million which otherwise would have been $4 million.