Complete question:
Varto Company has 11,800 units of its sole product in inventory that it produced last year at a cost of $24 each. This year’s model is superior to last year’s and the 11,800 units cannot be sold at last year’s regular selling price of $55 each. Varto has two alternatives for these items:
(1) they can be sold to a wholesaler for $9 each, or
(2) they can be reworked at a cost of $220,000 and then sold for $27 each. Prepare an analysis to determine whether Varto should sell the products as is or rework them and then sell them.
Answer:
Varto company should not process further, they should sell it as it is.
Step-by-step explanation:
Given:
For last year:
Product quantity = 11800
Cost = $24 each
For this year, the model is superior to last year's model and they can't be sold for the same price.
Required:
Prepare an analysis to determine whether Varto should sell the products as is or rework them and then sell them.
Analysis is prepared below:
INCREMENTAL REVENUE AND COST OF ADDITIONAL PROCESSING
Revenue if processed further: (11800*$27) 318600
Revenue if sold as it is: (11800*$9) 106200
Incremental revenue: (318600-106200) 212400
Further processing cost: 220000
Incremental net income: (220000-212400) 7600 (loss)
From the analysis above, Varto company should not process further, as they will make a loss of $7,600 if they process further.
NB: $24 manufacturing cost is sunk cost which makes it not needed.