Varto Company has 11,200 units of its product in inventory that it produced last year at a cost of $158,000. This year’s model is better than last year’s, and the 11,200 units cannot be sold at last year’s normal selling price of $55 each. Varto has two alternatives for these units: (1) They can be sold as is to a wholesaler for $123,200 or (2) they can be processed further at an additional cost of $186,800 and then sold for $302,400.
(a) Prepare a sell as is or process further analysis of income effects.
(b) Should Varto sell the products as is or process further and then sell them?
(a) To prepare a sell as is or process further analysis, we need to compare the income effects of each alternative.
Sell as is:
Revenue from wholesaler = $123,200
Cost of production = $158,000
Income from selling as is = Revenue - Cost = $123,200 - $158,000 = -$34,800 (Loss)
Process further:
Additional cost of processing = $186,800
Revenue from selling processed units = $302,400
Total cost of production = Cost of production + Additional cost of processing = $158,000 + $186,800 = $344,800
Income from selling processed units = Revenue - Total cost of production = $302,400 - $344,800 = -$42,400 (Loss)
(b) Based on the sell as is or process further analysis, Varto would incur a loss in both alternatives. However, the loss is smaller if the products are sold as is (-$34,800) compared to processing further (-$42,400).
Therefore, Varto should sell the products as is to the wholesaler as it would result in a smaller loss.
(a) To prepare a sell as is or process further analysis of income effects, we need to compare the income effects of selling the products as is or processing them further before selling.
First, let's calculate the income effects of selling the products as is:
Total cost of the products in inventory = $158,000
Selling price to wholesaler = $123,200
Income from selling as is = Selling price - Total cost
= $123,200 - $158,000
= -$34,800 (a negative value indicates a loss)
Next, let's calculate the income effects of processing the products further before selling:
Additional cost of processing = $186,800
Selling price after processing = $302,400
Income from processing further and selling = Selling price after processing - Total cost - Additional cost of processing
= $302,400 - $158,000 - $186,800
= -$42,400 (a negative value indicates a loss)
(b) Based on the income effects analysis, neither option generates a profit. Both options result in a loss.
Therefore, Varto should consider other alternatives such as reducing the selling price or exploring different sales channels to minimize the loss or reach break-even. Alternatively, if there is an expectation of future demand increase or cost reduction, Varto may choose to store the products until the market conditions improve.