Market Value vs Replacement Cost: What Is The Difference?
Have you ever had to make a decision on whether to buy or sell a product? Let’s say you inherit a product from your great aunt that is worth $100. You could either sell it for the same amount, or buy an identical replacement item which would cost $100, but in this example we will assume that the replacement item is cheaper than the market value of your own item. To determine its market value, you go out and ask other people how much they would be willing to pay for it. Assuming they are willing to pay $50 and no one else is interested in buying it at the moment, then its market value is in fact only $50.
On the other hand when it comes to selling a product, you could either sell it at its market value, or sell it for what you bought it for. If you are buying an item for $100 and decide to sell it for its market value of $50, then your profit margin is only 50%. If on the other hand you buy an identical replacement item for $50 and then sell the original for what you paid ($50), your profit margin is 100%. Therefore make sure that if your goal is profit maximization (and not just getting rid of a product), then selling at the replacement cost would yield a higher profit.
One could argue that money is money and there should be no difference. However, when it comes to buying and selling a product, there is a significant difference between selling at market value or replacement cost. Let’s use the examples of two individuals to illustrate the difference in profit margin:
A sales rep for a computer company was recently commissioned by his company to sell some computers. He went out and purchased 10 laptops from an authorized dealer for $1,000 each. When he got back to his office, he tried selling the laptops but was unable to get rid of all of them. Over time one by one they were sold until only one laptop remained.
Two weeks later, the sales rep goes to his favorite coffee shop and is disappointed to find that they have a sign hanging on their door saying that they are temporarily closed for vacation. He thinks to himself, “my luck can’t get any worse!” and then he remembers the last laptop he had left at his office. He takes it home and decides to sell it on eBay (eBay currently has about 93 million users in the United States alone). Two weeks later, the laptop was sold for $755. The sales rep made a profit of $555.
The sales rep’s computer company was interested in acquiring ten new computers from an authorized dealer. They contacted the dealer and purchased ten computers for $1,500 each. When they got back to their office, they tried selling the computers on eBay but were unable to sell them all. Over time one by one they were sold until only one computer remained.
Two weeks later, the sales rep goes to his favorite coffee shop and is disappointed to find that they have a sign hanging on their door saying that they are temporarily closed for vacation. He thinks to himself, “my luck can’t get any worse!” and then he remembers the last computer he had left at his office. He takes it home and decides to sell it on eBay (eBay currently has about 93 million users in the United States alone). Two weeks later, the computer was sold for $3,000. The sales rep made a profit of $2,550.
In this example, one computer was sold at its market value and the other computer was sold at its replacement cost. Knowing your subjects is very important in order to accurately compare prices between two items. If we did not know the difference our feelings about making a decision might be skewed. It is important to remember that price alone does not always tell you what a product’s true market value is (unless of course you are selling it). You must also consider what other items of similar use are currently for sale with its replacement costs from additional dealers or distributors. All these factors must be considered in order to compare the true market value of the products.
How much should we expect to earn for a product? The answer to this question is up for debate. If you go back and change all of the circumstances of these two sales reps and if instead of making $555 and $2,550 respectively, they both made $100,000 each, we would probably all be happy with the results. However, only one person out of those two would have made his goal at the end of their career. Regardless of how much an individual makes or what their bosses or co-workers might think about their success, if it was not what they wanted they were going to have some feelings about it. The point is that in order to achieve one’s goals, it is important to know your own value. To see how, let’s compare these two sales reps with the same price of $1,000 and an equally favorable market.
The sales rep who sold his laptop at its market value and made $555 still has the exact same goals that he did before in terms of profit. That is, he wants to make the highest possible profit possible. However, this time when he got back to his office, instead of trying to sell his laptop on eBay, he decided to use it for spare parts in the future and then went back home without any money in his pocket. This time however, the sales rep purchased 10 computers from an authorized dealer for $1,500 each and decided to use them as spares. When he got back to his office, he tried selling them on eBay but was unable to sell them all. Over time one by one they were sold until only two computers remained.
This was the same situation as before, except this time the sales rep decided to sell his remaining two spares on eBay at market value. Two months later, he was approached by his company and asked if he would be interested in purchasing 10 more computers for $1,500 each. The sales rep purchased them for $1,500 and immediately started using them all. Two months after that he was asked if he would like to purchase another 10 computers for $1,500 each but this time without asking any questions, the sales rep agreed to accept their offer and sold them all at their replacement cost of $1,000 each.
When he got back to his office, he tried selling them again on eBay but was unable to sell all of them. Over time one by one they were sold until only one computer remained and at the same time as before with the other sales rep, this time instead of selling his Lumia for $1,250, he decided to keep it as a spare for the future.
Two months later, when all of his spares were sold and used in other products that they produced and when all 10 computers in question had been sold at their replacement cost (at market value), this sales rep finally went back home without any money in his pocket.
Conclusion: Although both sales reps sold their computers at market value, only one had made his goals. Regardless of the amount of money that they earned or what was expected of them, if someone was not happy with their outcomes (whether they be big or small), there would be feelings about it.
The next time you find yourself there, have a chat with the seller on the phone and let him know that you are interested in buying it so you can get more information about its market value and what it will cost to ship to your location. In Hong Kong, most sellers prefer to talk on the phone even though this is much slower than using eBay’s website.