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19 April, 22:04

A mechanic is considering expanding his garage. After a strong year last year, the mechanic is able to finance the expansion from last year's profits. The expansion itself is expected to cost $11,000. The mechanic estimates that the additional garage will bring in revenue totaling $12,000. The mechanic is currently receiving an interest rate of 8% on his saved profits. Should he make the investment?

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  1. 19 April, 22:16
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    No, the mechanic should not make the investment.

    Explanation:

    Opportunity cost of expansion = 8% * $11,000 = $880

    Total cost of expansion = Expected cost + Opportunity cost = $11,000 + $880 = $11,880

    Net expected profit from expansion = Expected revenue - Total cost of expansion = $12,000 - $11,880 = $120

    Rate of return from expansion = $120 / $11,880 = 0.0101, or 1.01%

    Interest rate on saving = 8%

    Since the rate of return from expansion of 1.01% is less than the 8% interest rate on saving, the mechanic should not make the investment.
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