Following a collapse of sales in the wake of the sub-prime financial crisis, U.S. automobile manufacturer, Chrysler LLC, filed for bankruptcy in April 2009. It then sold its brands and various other assets to Fiat SpA. Table 7.10 below lists the estimated recovery value of Chrysler's property, plant, and equipment in the event of liquidation.
(a)-Which of the following best describes the difference between book value and estimated recovery value: (i) Opportunity cost, (ii) Sunk cost, or (iii) Joint cost? Explain your answer.
(b)-Use the low and high estimates of recovery value to calculate the average recovery value.
(c)-Define "specificity" as the ratio of book value less average estimated recovery value to book value, in percentage terms. Calculate the specificity of each category of assets.
(d)- Explain the relation between sunk costs and specificity.
(e)- Stamping equipment is heavy machinery used to produce metal parts such as car bodies. Tooling is equipment designed to produce particular models of cars. Explain why Chrysler's tooling has a higher specificity than the stamping plants.
Table 7.10Chrysler LLC Liquidation
|
Assets ($ million)
|
Book value
|
Recovery value
|
|
Low estimate
|
High estimate
|
|
Assembly plants
|
2,205
|
110
|
220
|
|
Stamping plants
|
1,129
|
113
|
226
|
|
Powertrain plants
|
3,513
|
352
|
702
|
|
Tooling
|
1,337
|
-
|
67
|
|
Furniture, fixtures, etc.
|
487
|
5
|
24
|