Question ID: ICMA 10.QA.P2.040

  • This topic has 1 reply, 2 voices, and was last updated 8 months ago by Brian Hock.
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  • #224030
    Meshal Alanim
    Participant

    Hello,

    I was a pit confused once the answer indicates that the land value (recent appraisal 2.2M) is actually included in the initial investment, as it was purchased 8 years a go. Does this cost, or even the recent appraisal, considered a sunk cost that should not be included in any capital budgeting analysis? since there is no cash outflow at that moment.

    Thanks,

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  • #224036
    Brian Hock
    HOCK international

    Hello Meshal Alanim,

    In this case it is not really a sunk cost since the land has other uses. When we are doing the capital budgeting analysis, we need to include the value of the land in the evaluation of this project. If we did not do this project, we could sell the land for $2.2 million. So, if in stead of selling the land, we use it for this project, this project needs to be certain to cover not only the cost of the factory that will be built, but also the land that will be used.

    So, it is not a sunk cost, but there is an opportunity cost connected to the land if it is used in this project, because then it cannot be used in any other project.

    Does this help?

    Brian

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