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OK, I also work for a dealership and if you didn't have any complaints or check engine lights (message on marquee), it seems strange to me that they'ld just replace an O2 sensor w/o your approval as (believe me), on a '99 S80 they're NO FUN to replace.
What type of extended warranty do you have, VIP or Fidelity? Both should definately cover O2 sensors as they do by us.
Another thing, in my state no auto repair shop can legally replace or perform any work (parts and/or labor) w/o prior approval. Signatures or phone approvals are always required before any shop can do anything.
If really not covered and if the O2 sensor was bad (there'd be a check engine related message in the marquee), and IF you do really need one, I highly doubt that any aftermarket shop will carry an O2 sensor for any S80. As far as anything electronic or driveability related, I highly doubt that many independant shops anywhere can help you much with a newer Volvo as Volvo has made them so that their own Vadis PC is required to do most of that. Might seem unfair but that's how many new cars are these days.
They should also have proof of why the O2 sensor was deemed NG. The Vadis PC gives out fault codes and they should print them as Volvo requires that for warranty repairs now.
I would advise trying to discuss this matter in detail with the dealers service manager as the story doesn't sound right to me from how you've described it and if VIP, it really should be a covered part. Try being as nice as possible as that will get you better responses than if you're angry and threatening.
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