Question

A sell-or-process further decision involves deciding whether to Accept a special order for a price lower than normal Continue a product line or eliminate it Sella product as is or continue to refine it Produce a product in-house or outsource it Knowledge Check 02 Potomac Backpacks, Inc. manufactures regular backpacks. The company is considering processing these backpacks further to produce hiking backpacks. A summary of the expected costs and revenues for both of these options follows: Hiking Backpacks Ordinary Activity Backpacks Estimated sales price $50 Estimated manufacturing cost per unit Direct materials $15 Direct labor Variable manufacturing overhead Tixed manufacturing overhead 5 Unit manufacturing cost Additional development cost 20 15 $ 50 $8,000 if the company can sell 8,000 units of either product, what is the expected Incremental profit or loss from processing the backpacks further? $72,000 $65,000 ($15,000) $20,000 Knowledge Check 03 Which of the following should be ignored when deciding whether to sell a product as is or process it further? The cost incurred in producing the product so far The cost of processing products further The revenue from processing products further The opportunity cost of resources needed to process products further Knowledge Check 04 Which of the following is the decision rule of a sell-or-process-further decision? A product should be processed further if the incremental revenue from processing it further exceeds the Incremental cost A product should be processed further if the total revenue from processing it further exceeds the total manufacturing cost A product should be processed further if there is an increase in revenue from processing it further A product should be processed further if the total cost of processing it further exceeds the incremental revenue

Answer 1

01) A sell or process further decision involves deciding whether to sell a product as is or continue to refine it. Because in sell or process we make a decision whether to sell the product as it is or process further if it will be profitable to sell that product after processing.

02) If the company produces 8000 ordinary backpacks then profit/(loss) :

Selling price		50
Less:
Direct material	15
Direct labor	10
Variable manufacturing overhead	5	30
Contribution per unit		20
No. of back packs		8000
Total contribution (8000*20)		160000
Less: Additional development cost		0
Less: Fixed manufacturing overhead (8000*5)		40000
Profit/(loss)		120000

If the company produces 8000 hiking backpacks then profit/(loss) :

Selling price		75
Less:
Direct material	20
Direct labor	15
Variable manufacturing overhead	10	45
Contribution per unit		30
No. of back packs		8000
Total contribution (8000*30)		240000
Less: Additional development cost		8000
Less: Fixed manufacturing overhead (5*8000)		40000
Profit/ (loss)		192000

Incremental profit/(loss) from processing backpacks further = 192000-120000 = 72000

03) The cost incurred in producing the product so far should be ignored when deciding whether to sell a product as is or process it further. Because cost already incurred is treated as sunk cost and is irrelevant  in decision making.

04) A product should be processed further if the incremental revenue from processing it further exceeds the incremental cost is the decision rule of a sell-or-process-further decision. Because if the incremental revenue exceeds incremental cost there will be overall increase in revenue and it will be profitable to process further.