Remodel the Store

My father owns his own appliance/electrical business (and the building where it is housed). Recently he undertook the task of remodeling the building that has had the same appearance for a number of years. In the front of his store he runs the appliance business (and in the back the electrical business). The remodel is only affecting the appliance business. He had originally planned to not sell appliances during the remodel, but he was approached by another business owner that wanted to have the option of selling the appliances in a furniture store that he had just opened. Profit would be split 50/50. If my father does not sell appliances during this time, his opportunity cost would be the profit he would earn by allowing this other business owner to sell appliances for him.

Another principle to learn from this situation is that of joint cost – Chapter 7. The furniture store owner needs appliances in his store, but the cost of purchasing the appliances from a major distributor could be quite costly. By combining his resource of space with my father’s resource of appliances, both come out ahead. The appliances and furniture store share joint costs. Even without the appliances, the cost of running the furniture store is present. The profit from my father’s appliances would help offset some of this cost.



Thomas said...

I think that the furniture store owner has presented your father with a great business opportunity. In my mind, there is no financial reason NOT to agree to the deal proposed by the furniture store owner, as your father basically has nothing to lose, at least financially.

It comes down to whether or not your father wants to lose some control over sales of appliances or not. If it was my store, I would grab the furniture store owner's offer in a heartbeat because at least then I would have the chance to make some money from appliances during the remodel rather than being guaranteed that I wouldn't earn a dime from appliances during the remodel time.

What did your father decide to do?

Adam said...

I think the opportunity cost of not selling the appliances would be higher than the cost of selling the appliances based on what you have written in your posting. If proper estimates could be made about costs and expected revenues, your dad could do an analysis to decide how much he would be making. If the net present value of the revenues and expenditures is positive, then it would be a good investment; if it is negative then he shouldn't do it.

Colin said...

He, of course, decided to take the owner up on the offer. He does lose some control over sales, but another benefit has come about because of the change. My father has another offer to rent out the front of his store. I don't have exact numbers, but I'm pretty sure he will come out better off because of this.

Brooklyn said...

It's interesting to see that even in times like these there are deals to be made. The impact of a recession can actually spark new deals that might have not been initiated other wise. People are always looking to improve their situation and in this case it seems like everyone is a winner.

Dr. Tufte said...

Cool example (I tend to get a lot of examples like this after the student has graduated rather than while they are still in class.

This is a good time to point out that the reason that economists make such a stink about opportunity costs is because most of this would not show up in an accountant's analysis of how this business was being operated. This doesn't make what accountants do wrong - I tend to think that their figures get abused by people who don't know enough accounting and economics.

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