The Price of New Car Smell

One can find abandoned luxury cars in Dubai worth hundreds of thousands of dollars. The owners, who bought these cars with loans could not pay the interest, abandoned the cars, and fled the country. In Dubai missing a loan payment results in a jail sentence. Jails in Dubai are not fun.

The owners were lured to buy the cars by the low initial cost but could not afford the ongoing expenses.

Did you do research when you bought your last car? Did you look at the different models, features, accessories, horsepower, acceleration and MSRP? If you are like most people, you did.

How about cost of operation? Did you do an ROI comparison, a comparative analysis of dollars per mile over the expected service time of the various models including maintenance, insurance, and fuel costs?  If you are like most people, you did not.

This is an analysis comparing a Honda Civic and a BMW X5:

Assumptions:

• Value drops 10% after purchase
• Final value after 20 years is 10% of purchase price
• Fuel economy is 30 mpg for the Civic and 20 mpg  for BMW
• Value is a linear function of time
• Insurance is 5% of current value
• Maintenance is 1% of purchase price and grows by 1% every year
• Civic runs on 87 octane, BMW needs 91

Questions:

• Which car is a better value?
• When is the best time to replace the car?

Here are the results and the downloadable excel calculations:

The chart shows, that ROI ($/mile)  improves for the first few years and after about 6 years it gets worse indicating that it is time to sell the car and buy a new one. The chart also shows that the Honda Civic is a much better value if the only consideration is transportation. On the other hand, if you want to impress your neighbors, the BMW is a killer deal.

Research shows that people do little homework and often miss the ongoing cost components. Buyers are predictably irrational, and especially forgetful about future costs.

Car buying is a double whammy. First the professional salesman applies various tactics of anchoring, framing, “desking”, decoys, promise of immediate gratification and free perks. Then the buyer applies a healthy dose of self-deception including arbitrary coherence, being influenced by “ambiance”, overestimating future spending discipline, ignoring the time value of money, rationalization and underestimating ongoing costs.

Car buying is behavioral economics at its best.

How about investments in Information Technologies? Some notable considerations:

• The half life of technology is very short,  and the same money can buy many times the capacity in a few years
• Implementation and migration costs are often significant and increase the up-front investment
• End of life maintenance can be very expensive (Eastern slope of the Weibull Distribution)

Some mistakes are:

• Only considering CAPEX
• Two different organizations are paying OPEX and CAPEX and they do not talk to each other
• No life-cycle strategy in place to drive technology refresh
• Arithmetic thinking, underestimating the rate of change of both capacity and need

On Monday when at the office, make sure that you have a good mirror on the wall. That is, a good application and infrastructure portfolio and realistic estimates of ROIs.  Then acknowledge reality and start exercising.