One of the big consulting firms

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Reference no: EM13937259

Suppose you work for one of the big consulting firms and Maytag has just hired your firm to tell them what to do in the case of the following: Maytag knows that they can produce a washing machine for $300, which covers all costs and profit. Sales are down, and they believe that adding a really attractive warranty might boost sales. They want you to tell them what they should add to the $300 to cover the risk resulting from adding the following warranty: if the machine fails within the first 6 years, the pro rata amount of the price is returned. For example, if it fails after 4.5 years, then (6- 4.5)/6=1.5/6 of the actual price P will be returned. (P equals 300 plus the present value of the warranty.) Based upon data that they provide, you decide that an exponential distribution with a mean lifetime of 10 years describes the lifetime of their washing machines quite well. You also decide to use a valuation rate r=.08. Based upon this information, derive a value of the warranty to be added to the $300, resulting in the actual price P.

Reference no: EM13937259

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