Assume Daewoo, a hypothetical oil extraction company, has the following cost structure. It spends:
• $40/barrel on labor costs, raw materials, energy, and • $35/barrel on interest, depreciation, insurance, and administrative staff expense.
Read the textbook carefully, and answer the following questions.
A recession hits, the market price of crude oil falls to $50 per barrel, and the profitability takes a hit. Should Daewook keep running the mine? Elaborate.
Russia invades Ukraine, the market price shoots up well above $100 per barrel, and competitors announce new expansion plans. Should Daewoo add the new capacity? Elaborate.
Yes Daewoo should keep running the mine at this time even with the market price of oil dropping to 50 dollars per a barrel. I believe Daewoo should keep running the mine since with the price of oil being at 50 dollars per a barrel we will only be losing 25 dollars. Even though we wont make enough to cover overhead its still worth it to operate since if we were to close the plant wed be losing 35 dollars a barrel. If competitors have already announced new expansion plans I think it might be too late to invest. Capital intensive companies goal is to add capacity before everyone else does. After everyone adds capacity supply naturally goes up causing price to plummet. If Daewoo were to add new capacity at this moment it could put them at risk for bankruptcy if the price begins to fall.