An extended warranty is a prolonged warranty offered to consumers by
the warranty administrator, the retailer, or the manufacturer. A recent
report in The New York Times (November 23, 2009) suggests that
20.4% of laptops fail over three years. Roberto D'Angelo is interested
in an extended warranty for his laptop. A good extended warranty is
being offered at Compuvest.com for $74. It will cover any repair job
that his laptop may need in the next three years. Based on his
research, he determines that the likelihood of a repair job in the next
three years is 13% for a minor repair, 8% for a major repair, and 3% for
a catastrophic repair. The extended warranty will him $80 for a minor
repair, $320 for a major repair, and $500 for a catastrophic repair.
These results are summarized in the following probability distribution.
Type of Repair
In a report, use the above information to:
1. Calculate and interpret the expected value of the repair cost.
2. Analyze the expected gain of loss for a consumer who buys the above extended warranty.
3. Determine what kind of a consumer (risk neutral, risk averse, or both) will buy this extended warranty.