Your firm sells backup generators to hospitals and clinics

Your firm sells backup generators to hospitals and clinics. The generators are guaranteed to operate on demand for two years. Your data show that the generators run an average of 42 hours per year. Your firm offers an extended warranty that covers the next three years. Your data show that repairs are needed for 2 percent of units during this three-year period. When repairs are needed, the average cost is $4,000. You charge $400 for the extended warranty, and about 20 percent of your clients buy it.

a. The extended warranty has been a consistent money loser. Claims average $1,000 per customer. How could this be, given the data above?

b. Would raising the premium to $1,000 solve this problem?

c. What would you recommend that your company do to solve this problem?