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Auto Parts, Inc
Auto Parts, Inc. is medium-sized company that manufactures auto parts in Buffalo, New York. The company currently loses $40,000 per month. The owner of the company is evaluating whether she should shut down the factory. She thinks that the factory should continue to operate until the economic environment improves and buyer for the factory can be identified. The logic of the owner is that her company has already invested millions of dollars in the factory over the years. The monthly fixed costs for the factory are $30,000. The CEO of Auto Parts, Inc. thinks the factory should be shut down because most the monthly fixed costs ($30,000/month) are sunk costs. Do you agree with the owner or the CEO? Explain the logic of your argument, including a numerical demonstration.
Expert Solution
Agree with CEO.
Explanation :
Factory must be shutdown. when firms shutdowns in short run, they have to pay fixed costs. Because fixed costs are less than loss, firm will better off by shutting down. When firm shutdowns it has to pay fixed cost.
Here if firm will operate, it will be suffer losss of 40,000 and if shutdown loss will be equal to 30,000.
So we will shutdown.
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