Question

A company estimates that 0.1% of their products will fail after the original warranty period but within 2 years of the purchase, with a replacement cost of $350. If they offer a 2 year extended warranty for $28, what is the company's expected value of each warranty sold?​

Answer 1

The expected gain per warranty is $27.65, crazy stuff

Explanation:

If the estimate is right, there is a 0.1% probability for each extended warranty that the company has to shell out $350 (we disregard the situation where the replacement fails too, because there is no info that lets us deal with that).

This brings us to cost for the company equal to 0.1%*$350 per warranty sold.

0.1%*$350 = 0.001*$350 = $0.35

And the company gets $28 for each warranty sold, hence they earn

$28 - $0.35 = $27.65

on average.