I know I’m setting myself up for ridicule here, but bear with me as I attempt to do some simple math problems to explain why extended warranties aren’t a good deal (Inspired by Gizmodo’s endorsement of them for big ticket items today).
First, you’ve got to think of bets (the gambling kind) as opportunities you can buy. For example: flipping a 50 cent piece that I’ll give to you if it lands “heads” is worth 25 cents in economic terms. If I charge you 30 cents for the opportunity to win the 50 cent piece; that’s money in my favor. But, if I only charged 20 cents for you to play, the opportunity would be a good deal to you.
Similarly with a $500 digital camera that has a 10% chance of breaking. If the extended 5 year warranty is $50 (10% of $500) or less, it’s in my economic interest to purchase the warranty. If it’s more (say $200), then they’re raking me over the coals.
However, even that is somewhat misleading as it leaves out 3 important factors:
- Manufacturer Warranties cover the period of time when there is the greatest statistical chance of failure for an electronic device.
- Most companies are bastards about actually replacing and servicing warranties. You’re betting not just that your product will break, but that it’ll break in a way that the company can’t weasel out of by saying that your “improper use of it caused early wear and tear on it”. Many places will send you refurbished parts as the replacement to your warranty returned item, which themselves have a higher incidence of failure.
- Technology does move on and become cheaper over time, making the warranty worth less and less as the years roll by (and making the extended warranty bet better and better for the issuer).
Finally, to the notion of “peace of mind”. If you’re stressed out and your finances are so tight that something like losing a big screen TV would swamp you; maybe you should re-evaluate what you’re spending your money on.
This is a microcosm of how rich people get richer and poor people stay poorer, the costs of the opportunities aren’t different, but the emotions involved with the financial transactions most definitely are.
WHAT TO DO NOW?